The Republic will remain well within the budgetary management limits prescribed in the Stability and Growth Pact until 2005, according to Department of Finance forecasts.

In the Stability Programme Update, which accompanied yesterday's Budget, the Department predicts that the general government balance, the measure used by the European Commission to judge fiscal rectitude, will be in deficit by 0.7 per cent in 2003 and by 1.2 per cent in the two subsequent years.

This falls substantially under the 3 per cent limit set by the pact. The Department also envisages that the ratio of debt to GDP will also remain below levels set by the Commission.

The projections are made in a scenario where economic growth would pick up towards the end of next year and be maintained for a number of years thereafter.

The Department foresees expansion in GDP of 3.5 per cent next year and 4.1 per cent in 2004. By 2005, GDP is expected to rise back to 5 per cent. In GNP terms, the forecasts put growth at 2.25 per cent in 2003, 2.9 per cent in 2004 and 3.8 per cent in 2005.

Crucially, the update shows that the Minister for Finance, Mr McCreevy, has chosen to set aside 0.4 per cent of GDP in 2004 and 0.8 per cent in 2005 as a "contingency provision", or fund, which would cover unforeseen but necessary expenditure.

If this had not been done, the Department's forecasts for the Republic's general government balance would have been more positive, and the public finances would appear healthier than the update suggests.

The final predictions come with a significant warning on downside risks, however.

Should the global recovery be delayed or turn out to be more muted than expected, growth could be lower, the Department warns.

A sharp appreciation in the euro or substantial changes in interest rates could also upset the projected trend, according to the forecasts.

"A broadly-based economic upturn now appears unlikely to set in before mid-2003, and even then the risks as to its timing and pace remain clearly on the downside," the update notes.

A note of caution is also sounded with regard to wage demands and their consequent effect on domestic competitiveness.

Wage expectations must, the Department says, "adapt to the less favourable economic climate".

It has been estimated that a change of one percentage point in the projected growth rate could shift the general government balance by about 0.5 per cent of GDP. A percentage point increase in interest rates could change the general government balance by about 0.25 per cent, according to calculations.

In monetary terms, the update predicts a general government deficit of €397 million this year and €885 million in 2003.

For 2004 and 2005 respectively, deficits of €1.8 billion and €1.9 billion are forecast.

The equivalent projections for the Exchequer point to a small deficit of €193 million this year rising to €1.9 billion in 2003. In 2004, an Exchequer deficit of €3.4 billion is expected, while in 2005, this is predicted to grow to €3.7 billion.

The update shows the Department has drawn up its 2003 Budget on the basis that consumer price inflation will rise to 4.8 per cent next year and then decline to 3.5 per cent in 2004, falling further to 2.6 per cent in 2005.

Accompanying this decline will be a gradual increase in the unemployment rate, according to the forecasts.

The Department foresees unemployment rising from 4.5 per cent this year to 5.3 per cent in 2003 and 2004 before settling at 5.1 per cent in 2005.