The Year Ahead

The hazards involved in economic forecasting have been highlighted in dramatic fashion over the past year. While reviewing the equivalent piece I wrote this time last year, two statements stand out, that remind me once again of the futility of economic forecasting.

Firstly, in relation to the international outlook, I expressed a view that a hard Brexit would be avoided, and that the US/Chinese trade spat that had dominated 2019, would ease ahead of the US presidential election. I concluded based on these assumptions that ‘despite all of these uncertainties, mainly related to global geo-politics, it is more likely that global growth will be stable or slightly stronger over the coming year’.

Secondly, in relation to the domestic economy, I opined that while ‘there are always risks and challenges in any society and any economy, how they are addressed is of prime importance. In overall terms, 2020 should prove another year of solid growth for the Irish economy, but political developments have overtaken all else to become the most significant risk factor.’ This was written in the aftermath of the very difficult Irish general election.

A hard Brexit was avoided when the UK formally left the EU at the end of January 2020, and the US and Chinese began a process of appeasement in the early weeks of the year. So far so good, but unfortunately a few weeks after I penned the piece, COVID-19 was declared a global pandemic, and the whole world was subsequently thrown into social, political, and economic turmoil. The moral of the story is that in business and life, one should always expect and plan for the unexpected.

There is little point in going back over the impact of the pandemic during 2020, but a few things stand out that will have significant implications for the coming year.

• Global policy makers reacted fast and aggressively to the crisis. Central banks slashed official interest rates; bond buying or Quantitative easing (QE) was ramped up aggressively in an effort to pump liquidity into the global financial system, and reduce the costs of government borrowing; and governments virtually everywhere engaged in massive fiscal expansion, and accepted that big budget deficits would be a price worth paying to support households, businesses, and healthcare systems. All of these policies are ongoing and will be required for some time yet.
  
• All over the world we have seen strong growth in household and corporate savings. Basically, many businesses and households have continued to earn, but lack either the ability or confidence to spend and invest. These amassed savings will at some stage be unleashed back into the real economy and deliver a strong economic rebound driven by pent-up demand. In Ireland, household deposits increased by €14.1 billion during 2020 to reach a record high of €124.5 billion; and non-financial corporate deposits increased by €11 billion to reach €72.7 billion. This is a lot of money and a lot of pent-up demand in the system.

Looking ahead to 2021, it is possible to be optimistic about the global and the domestic economy. This is of course subject to all of the caveats about the mutating virus and the vaccines. The very stringent restrictions put in place here in Ireland and in many other countries at the end of 2020 could last well into the second quarter, and will obviously have a very significant impact on economic activity. There is not a lot that can be done about that. It is necessary to bring infection levels down, but the Irish Government will have to continue to provide strong financial support to households and businesses for the foreseeable future. The hope is that an effective vaccine programme will be rolled out as quickly and efficiently as possible, and restore some semblance of normality to the economy and society in the second half of the year.

2020 was a very strange year for the Irish economy. In the first nine months of the year, gross domestic product (GDP) expanded by 3 per cent, and it looks set to be one of only a very few countries globally that is set to deliver positive growth. However, as is always the case, GDP needs to be treated with extreme caution in an Irish context. It grossly exaggerates economic activity.

The overall impact of COVID-19 on the economy has been very mixed, and a real dual economy and labour force has emerged.

On the revenue side, taxation held up very well in difficult circumstances in 2020. Overall tax revenues were down by just 3.6 per cent. The multi-national corporation tax take was very strong, with the overall tax take from the corporate sector increasing by 8.7 per cent to reach a record high of €11.8 billion. VAT declined by a large 17.8 per cent, reflecting the impact on overall consumer spending. Income tax held up remarkably well, with a decline of just 1 per cent. 2020 saw the second highest level of income tax ever collected in this country (the highest was 2019). This is despite the fact that COVID-19 wreaked havoc on the labour market, with a peak of 598,000 workers on the COVID PUP scheme last May. However, the strong income tax take reflects the fact that the higher earners in the economy - public sector, FDI, financial services, professional services - who pay the bulk of income tax anyway, continued to maintain earnings in 2020. Lower paid workers who pay relatively little tax, in sectors such as non-essential retail, personal services, and hospitality, were the ones who have suffered most from the COVID crisis. Those sectors and their workers will require strong assistance for the foreseeable future.

The multi-national segment of the economy is a source of optimism. The end-year results from the IDA show that IDA supported companies increased net employment by 8,944 during 2020 to reach 257,394 jobs in the FDI component of the economy. This is really important in the current challenging environment.

Exports of Chemicals and Pharmaceuticals expanded by 13.8 per cent in the first 11 months of the year, and accounted for almost 66.1 per cent of total merchandise exports. This sector along with other parts of the multinational sector is providing a very solid base for economic growth, employment, and the public finances.

Notwithstanding the current stringent restrictions in place, there are grounds for optimism about Ireland’s economic prospects later in 2021. Much of this optimism is obviously contingent on a successful rollout of the vaccine programme. We will also have to mindful of the Brexit impact, and the fact that it will take some time for tourism-related activities to recover. Businesses in these areas will need to get as much ongoing financial support as possible. Apart from the evolving COVID-19 situation and the implications for the health service, housing is likely to dominate political discourse in 2021, as it should. Fiscal austerity must not be mentioned.

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