John FitzGerald: State needs to stop cost of living supports for better off families

Until the pandemic hit, household savings behaviour in Ireland was similar to that in the rest of the EU, with, on average, about 10 per cent of income being saved. However, the huge shock caused by Covid altered this pattern.

Opportunities to spend were curbed during lockdown, leading to forced savings, with fear about what might lie ahead adding to caution. Governments also supported households with big income transfers.

The net result was that, on average, EU households saved around seven percentage points more of their income in 2020 than they would have normally done. Ireland’s increase in savings was much higher, more than double the EU average, taking our savings rate to 25 per cent of household income.

Across the EU, as the pandemic waned, household savings gradually fell back during 2021 and 2022. For most countries, they are now only slightly above the long-term average. In the US, savings dipped below normal last autumn as households ran down some of the financial cushion built up since 2020.

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The next few years could see further pressure on the housing market, as households move away from holding their excess savings in banks and switch to bricks and mortar

However Ireland’s savings rate remained very high last year at 20 per cent, roughly double the pre-pandemic rate. It is not clear why Irish households are continuing to save so heavily.

Of course, the households that are saving are likely to be in the richer half of the population. The surge in inflation and in energy prices won’t have hit them as hard as poorer households.

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Although much of the Government’s inflation-related support for households targeted the most needy, significant sums have also gone to better-off households. A lot of this support for richer households has found its way into their bank deposits.

In 2022, there was some evidence of a share of the excess savings going into the housing market, as household investment, primarily in housing, was up €4 billion on 2019. But this accounts for only a small part of the estimated cumulative exceptional savings of about €50 billion. The next few years could see further pressure on the housing market, as households move away from holding their excess savings in banks and switch to bricks and mortar.

Glut in savings

To date, most of the extra savings have ended up as bank deposits, which have risen by almost €40 billion. In turn, the banking system has not been able to use those deposits, due to weak demand for credit. The glut of savings, and limited competition, mean that the banks have not yet significantly raised the interest rate on deposits.

Instead of increased lending to companies and households, banks have ended up depositing their excess funds with the Central Bank which, in turn, has lodged the money with the European Central Bank. Thus, the Central Bank’s net international investment position has increased by around €50 billion since 2019.

Because the Irish economy is growing much more rapidly than the rest of the EU, the ECB stance, designed for the euro zone as a whole, won’t be enough to rein in prices fully here

With the corporation tax bonanza, the Government, too, had record savings last year, amounting to 7.5 per cent of national income. Only the Norwegian government, reaping a bonus from exceptional energy prices, had a higher savings rate.

If a significant part of Ireland’s Government or household savings are spent in the near future, it would add a big inflationary stimulus to an economy that is already operating at close to capacity. If a lot more money were to chase the slowly rising housing supply, that would push prices even higher, even with elevated interest rates.

[ Irish households save €1 for every €4 they spend ]

When the Government savings and household savings are taken together, the result is a very large surplus on the current account of the balance of payments. If Ireland were not in the euro, the likely outcome would have been substantial upward pressure on the exchange rate. That, in turn, would have moderated inflation, made Ireland less competitive, and slowed down the economy.

Since Ireland is a member of the euro zone, the European Central Bank’s tightening of monetary policy is the main instrument for bringing inflation under control here. But because the Irish economy is growing much more rapidly than the rest of the EU, the ECB stance, designed for the euro zone as a whole, won’t be enough to rein in prices fully here. Instead the Government should use fiscal policy to keep the lid on inflationary pressures.

While the Government controls its own finances, including its savings, it can only indirectly influence the behaviour of households. With the wall of savings that is out there, the Government needs to rapidly unwind its exceptional support for households that helps to keep our savings rate high. While continued protection for the most vulnerable is needed, if we want to bring prices under control then this should be offset by higher taxes on the better-off.