ESRI warns of sharp slowdown in growth as cost-of-living pressures mount

The Irish economy will grow “at a significantly reduced pace” next year as recession in other countries and persistent cost-of-living pressures dampen spending and investment, the Economic and Social Research Institute (ESRI) has warned.

Growth, as measured by modified domestic demand, is expected to fall from 8.4 per cent this year to just 2.2 per cent in 2023, the think tank said in its latest quarterly bulletin.

Cost-of-living pressures are expected to remain elevated with headline inflation now projected to stay above 7 per cent for the full year, it said. The ESRI had previously forecast that inflation would drop to 6.8 per cent next year.

“In 2023 persistent inflationary pressures are set to impact consumer spending, while the prospect of a growing international recession will have a negative impact on external trade,” it said. “The degree of this impact will depend on the sectors of the global economy which are especially affected.”

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The institute warned that investment levels in 2023 are also set to moderate with increased costs, in particular, impacting the supply of housing.

Housing completions have increased relative to previous years, it said, while forecasting approximately 28,000 dwelling units would be completed in 2022, the largest number since the financial crisis. However, labour scarcity and cost inflation were likely to impact construction into next year, with 26,000 units expected to be completed in 2023.

“While housing completions are strong in 2022, the outlook for 2023 appears to be somewhat more subdued, with commencements weaker in the first three quarters of 2022 than in the same period of 2021,” it said.

In its report the ESRI took aim at the Central Bank’s recent decision to loosen its mortgage lending rules, describing as “somewhat surprising” when house price inflation has been in double-digit territory and interest rates were rising.

It said the debt-service ratio (DSR), an indicator of mortgage affordability, is set to increase in the Irish market “due to the simultaneous upward pressures of greater loan-to-income ratios and higher mortgage interest rates”.

On the upside the ESRI said there was the possibility that inflation could return to more normalised levels faster than currently anticipated if there was a “de-escalation of the Russia-Ukraine war” and/or “an effective, permanent decoupling of European energy market from Russian fossil fuels”.

Despite these current economic uncertainties and forthcoming challenges, consumption, the main driver of growth, is still forecast to grow by 2.1 per cent in 2023. Combined with multinational exports, this will allow the Irish economy to avoid a recession, it said.

The ESRI also noted that the unemployment rate had fallen to a near historical low of 4.4 per cent and that employment was expected to remain strong throughout 2023.

The strength of exchequer tax receipts, corporation tax in particular, meant the Government was now likely to run a budget surplus this year and next.

The ESRI commended Minister for Finance Paschal Donohoe for pledging to put aside a significant portion of this additional revenue into a new National Reserve Fund.

“Cost-of-living pressures for households and higher input costs for businesses are likely to dampen the growth prospects for Ireland in the coming year,” the ESRI’s Conor O’Toole said. “While the Government has room to manoeuvre from a fiscal perspective, considerable care will be needed to ensure any policy response is tailored and targeted.”