Dr. Tom McDonnell:

I thank Deputy O'Brien for his questions. Why would the economy overheat? The cyclical position of the economy is not something that one can observe directly so we look at a range of indicators. A series of models underlies that and ultimately the various forecasting houses and institutions come to a judgment about the cyclical position. It is a notoriously difficult area. I am being humble in a sense by saying that it is difficult to know at what point an economy overheats. For example, the Irish economy is now moving to an unemployment rate of between 4% and 5%. That would normally suggest an economy that is close to capacity. However, other economies, such as the United States, United Kingdom, Germany and the Czech Republic, have been managing with unemployment of below 4% for some years now. With regard to our employment rate and labour force participation, we still do much worse than a number of other countries. Our inflation rates and wage rates suggest that we are not quite there yet. Having said that, the economy has been in a cyclical upswing for close to seven years. We are starting to arrive at a point where there are skill shortages in the economy. We are seeing wages increase and it is likely that we will start to see an acceleration of that process over the next 12 months, with a big asterisk of Brexit.

What is likely to cause overheating? One of the distinctive features of the construction sector is that it tends to respond with a lag effect to other demand factors in the economy. We are starting to see a ramping up of housebuilding in the economy and, as the Deputy pointed out, there are skill shortages. That ramping up of housing based on private funding and public funding will, in our view, start to push the economy into a position where it starts to overheat. That would be consistent with us moving towards a trade deficit, higher normal wage growth, higher inflation and so on. To prevent overheating from occurring, one normally responds through fiscal and monetary policy. One could do it through fiscal policy by increasing taxes, for example, or perhaps by cutting public infrastructure spending. Unfortunately, our infrastructure spending has been so low for so long now that cutting it is clearly not an option for us. We have infrastructure deficits in many areas compared with peer countries. That implies caution in other areas of fiscal policy. That points to current spending but also to taxation. We would be very cautious and worried if a stance was taken which involved significant tax cuts, particularly on a net basis, including VAT and income tax.

With regard to non-domestic overheating, it is true that much construction activity in recent years has been on the non-domestic side. We expect that to change somewhat in coming years in response to demand. The rise in house prices has made it more viable to make profits in the private sector with increased intervention on the public side. Having said that, it is an issue and the answer to the question about overheating is completely contingent on what happens with Brexit. A disorderly Brexit will be a major shock to the economy. With regard to fiscal policy, there is a structural surplus of perhaps 0.1% of potential output. The implication is therefore that the fiscal space should be used each year, which keeps the country where it is with regard to the structural budget. That is non-contractionary and non-expansionary. The budget should not feed into these overheating effects but should also be cautious about cutting against the grain, particularly since the budget will happen a few weeks before any potential Brexit outcome. I would be cautious about budget 2020 being too contractionary in advance of a potentially significant shock which could propel the European economy into a recession.

Does Mr. Nugent want to address skill shortages?