Professor John McHale:

On behalf of the council, I thank the committee for once more providing us with an opportunity to discuss our assessment. The council views interactions with this committee as integral to our work and they have proven to be extremely valuable. Other members in attendance with me today are Mr. Sebastian Barnes, Professor Alan Barrett and Dr Róisín O'Sullivan. Unfortunately, Dr. Donal Donovan, who is based in the United States, cannot attend today. The council secretariat is also present: Ms Rachel Joyce, Mr. Eddie Casey, Mr. Andrew Hannon, Mr. John Howlin and Mr. Diarmaid Smyth, head of the secretariat and chief economist. I would also like to take this opportunity to acknowledge the ongoing interaction between the secretariat and the staff of the Oireachtas. This work supports the very useful engagement we as a council have had with this committee.

Today I will cover our sixth assessment report, which was published last Tuesday, 17 June. The report is written in line with the mandate of the council set out in the Fiscal Responsibility Acts 2012 and 2013 and also with the memorandum of understanding between the council and the Department of Finance.

At the outset of this discussion, it is worth noting the significant progress that has been achieved in resolving the fiscal crisis. Ireland’s debt-to-GDP ratio should now be on a declining path, underpinned by nominal GDP growth, record low interest rates and the move to a planned balanced budget between 2013 and 2018. The borrowing capacity of the State has also been restored, with secondary market bond yields falling to low levels. Furthermore, the five main rating agencies all now rate Irish sovereign debt at investment grade. However, this is not to downplay the significant macroeconomic and fiscal risks and challenges that remain, not least high debt levels and uncertain growth prospects. It is part of the role of the council to analyse these risks and challenges as part of its assessment of the macroeconomic and fiscal position.

On the basis of the analysis in our report, the planned €2 billion adjustment for budget 2015 should be implemented. There are three main reasons for this recommendation. First, while significant progress has been made in repairing Ireland's public finances, the gap between general government expenditure and revenue is still projected to be close to €8 billion in 2014. Slowing the pace of deficit and debt reduction would leave the public finances more exposed to shocks that create unsustainable debt dynamics. Second, even with the encouraging recent fiscal performance, the central projections of the stability programme update, SPU, 2014 indicate no margin of safety around the EDP deficit ceiling for 2015. Recognising the high level of uncertainty surrounding the level and composition of growth, reducing the planned adjustments would increase the probability of missing the target and put the EDP exit in jeopardy. Third, the dramatic reduction in the risk premium on Irish debt has reflected, among other factors, the increasing credibility of Ireland’s capacity to make necessary fiscal adjustments. While the relatively small reduction in planned consolidation in the last budget does not appear to have harmed Ireland’s credibility, a second year of scaled-back adjustment effort could raise doubts about the political capacity to make necessary adjustments outside of a formal external programme. This is particularly important as this will be the first budget following the ending of Ireland’s programme of official assistance.

Two separate fiscal objectives frame the 2104 stability programme update projections. The more immediate target is the requirement to achieve a general government deficit of less than 3% of GDP in 2015 under the EDP, to which I have already referred. The next objective is to meet the medium-term budgetary objective of a balanced budget in structural terms by 2018. This deadline is ambitious and exceeds minimum requirements under the rules. As part of the report, the council calls for a clear rationale to be provided for this deadline.

While the Government’s medium-term fiscal stance is assessed to be within the range of appropriate policies, it implies a stronger drag on demand and even greater pressures on spending than meeting the minimum requirements under the rules. Recognising the trade-off between supporting domestic demand and improving debt sustainability, there is a case for a less ambitious medium-term fiscal stance that more closely follows these minimum requirements.

Moving beyond the headline figures, the medium-term fiscal adjustment plans imply a sustained fall in non-interest Government spending as a share of GDP. In fact, the SPU projects that Government non-interest spending will fall by approximately 8 percentage points of GDP by 2018. This leaves non-interest spending at an historically low proportion of economic output and implies considerable pressures on Government services, public investment and social payments.

The prolonged tight spending plans will be difficult to achieve given demand pressures and rigidities in certain areas of expenditure. The forthcoming comprehensive review of expenditure needs to be used to identify appropriately detailed expenditure plans. This would help to promote informed public debate and enhance the credibility of budgetary projections over the medium term.

One area of particular relevance for this committee highlighted in the report is the strengthening of Ireland’s fiscal framework. This is an important positive legacy of the economic crisis and one which the Government has made a strong commitment to respecting. The framework is a combination of European-level elements under the reformed Stability and Growth Pact and national-level elements that are designed to complement and extend the European rules. Consistency between the national and European frameworks allows the two sets of formal rules and enforcement procedures to reinforce each other. The monitoring, peer pressure and financial sanction procedures of the SGP help give credibility to the national rules, while the monitoring and enforcement procedures of the national rules provide a degree of domestic oversight and ownership of the overall rules framework. This later element of monitoring and enforcement of the national rules includes roles for both the Oireachtas and the fiscal council. Adhering to the new fiscal framework should help to smooth future boom-bust cycles, guide Government debt to safer levels, and underpin borrowing capacity during the period when debt will remain unavoidably high.

However, for the framework to be an effective bulwark against instability, it is important that it has broad public understanding and support. In assessing the constraints imposed by the new fiscal framework, the constraints that are also imposed by debt markets on fiscal policies should not be forgotten. As experienced by Ireland in 2010, debt markets can be even more demanding in terms of the fiscal policies viewed as consistent with access to funding to cover deficits and roll-over debts. A credible commitment to a framework that ensures debt sustainability can, therefore, expand rather than narrow the room for fiscal manoeuvre.

Our assessment is that the plans in the SPU are consistent with this new framework. Post-2015, the Government is committed to meeting the requirements of the national budgetary rule and the requirements of the preventive arm of the Stability and Growth Pact.

At our last meeting, I highlighted the new role for the council in independently scrutinising and endorsing, if appropriate, the macroeconomic projections underpinning budgets and stability programme updates. This significant change in Ireland’s budgetary architecture was extended in this round to include medium-term macroeconomic forecasts. The SPU forecasts are within an endorsable range, taking into account the methodology and the plausibility of the judgments involved, as well as the uncertainty surrounding any growth forecast. However, the forecast medium-term real GDP growth rate of 3.5% is at the relatively optimistic end of the range.

At our last meeting, several members of the committee highlighted concerns over recent developments in house prices. In response to this, our latest report includes an analytical note examining house price risks. In summary, we find that the recent price appreciation is likely to be driven by a reversal of some over-correction, while supply constraints are also likely to be key drivers.

However, even if supply issues are at the core of the recent appreciations, the authorities should remain vigilant. More detailed fundamental analysis of the housing market, if made publicly available, should also limit risks of price growth expectations becoming dislodged from fundamentals. This is obviously an area of concern for the committee and we will continue to monitor housing market developments closely. I thank the committee for providing us again with the opportunity to attend today and we look forward to taking questions and hearing the views of members.