Dr. Tom McDonnell:

The Deputy has asked two related questions which pertain to the three areas of productive investment and where and how they should be funded - by increasing taxes, by not cutting existing taxes, by cutting from other areas of spending, or indeed by breaking the fiscal rules. The Deputy's second question was whether we are locked into moving from where we already are and moving a certain percentage more than that each year, which is equivalent to the reference rate plus inflation once the structural target has been achieved. I will answer the two together. Essentially, the expenditure benchmark restricts growth in spending, while discretionary increases in revenue allow countries to expand the envelope for spending. Similarly, cuts in spending allow an expansion of the envelope for tax cuts. The expenditure benchmark and the structural balance rule, which will also affect us in 2017 and 2018 - that is the convergence margin, which I am also happy to talk about - affect the stance. They affect what the structural deficit will be over time if the rules are adhered to. We can talk about the appropriateness of those rules, but that is what they do - they affect the stance. They do not, however, affect the ability to invest in the economy, provided one is willing to pay for it. This means that cuts in taxes and radical investment cannot be achieved at the same time. It means that we have to choose. With €900 million to €1 billion of fiscal space - and the way capital spending is treated means that it is a little bit more than that, because capital spending is done over a multi-year envelope - a country can only increase that amount. It can only increase the space for education, infrastructure, innovation and so forth by increasing revenue or by cutting areas of public spending such as justice or defence - areas that are less associated with long-term inclusive growth. It does not preclude us from investing in the economy and it does not preclude us from investing any less than Denmark invests in its economy. It precludes us from adopting a fiscal stance that the European Commission does not particularly like. Obviously, with the fiscal stance and the convergence margin that is applied, particularly for 2018, the fact that we are allowed to spend only €1 billion instead of €3 billion is because the European Commission's methodology says that Ireland is overheating. We are not overheating at the moment.

I would argue that the fiscal space for 2018 should be closer to €3 billion. This is something that the committee could argue, perhaps, with the Commission and could challenge. I suspect the Department of Finance and the ESRI agree with me in that regard, which is that the methodology is flawed. There is scope for increasing the fiscal space in 2018 and potentially even in 2017. That is my point about the fact that Ireland's economy is not overheating. We will probably have a deficit in 2016 of approximately 0.8% of GDP. If we were overheating, our structural deficit would be worse than our actual deficit. If a country was underheating - that is, if it did not reach its long-term average - one would expect the country's actual deficit to be worse than its structural deficit. Our actual deficit will be approximately 0.8% of GDP. We are not overheating. It seems unlikely that our structural deficit is more than 0.8% of GDP. It certainly is unlikely that it is much more than 1%. That means that one more year of application of this convergence margin, which reduces the fiscal space from approximately €3 billion to €1 billion, improves our structural deficit sufficiently to get us down to approximately 0.5%, which is all we have to do. If all of that is true, it means we can increase our fiscal space in 2018, giving us more money for infrastructure, tax cuts or whatever it is we want. What the fiscal rules do is to modify a country's fiscal stance and constrain what it can do with that fiscal stance. However, we are not at all precluded from spending as much as we want on infrastructure, education or research and development. However, we have to pay for it through revenue or cut other areas of public spending. That really is what it is.

In terms of the options that were outlined, we are concerned that the overall level of spending relative to output in previous years has been moving along a very low trajectory compared to other European countries. It is true that GDP is a very bad metric to use in terms of the ratios for Ireland. The Irish Fiscal Advisory Council came up with a hybrid measure, which was reasonably applicable for previous years although it will not be applicable at all for future years because of what happened to GDP in 2015. However, even by that metric, we are still quite a low spender compared to our Western European peers.

In our opinion, if we wish to have Western European standards of public services, infrastructure, education spending or research and development, we will have to pay for it. The implication is that rather than cutting things like the universal social charge we should be looking at ways to expand the tax base, which is another question. One could look at tax expenditures or one could look at various types of property tax. There are different types. I was listening to the previous session. One of the comments was that 40% of tax revenues come from income tax. We are a little above the EU average in terms of income tax as a proportion of overall revenue, but the revenue base in Ireland is actually quite low. Let us consider implicit tax rates, which are shown in one of the tables I included in the presentation on labour. In terms of the implicit tax rate on labour - that is, the effective tax rate over the potential tax base - we are actually a little bit low, but not dramatically so. The point is that we are not over-emphasising income tax. In fact, we are a little bit over in terms of consumption taxes. That would be the long-winded answer. We are not precluded from investing in infrastructure, education and research and development. However, we have to pay for it, which means reducing other areas of public spending or increasing the revenue base. On balance, I would be inclined towards the second option but, again, it is more complicated than that because there are reforms on taxation and the public spending side that should be progressed at the same time. One could look at reforming the overall tax system to be more growth-friendly and equity-friendly at the same time. Tax expenditure is an area we could examine.