Austin Hughes: Will the little in Budget 2017 go a long way?

Budget 2017 was probably quite difficult to craft, given the wide range of often conflicting political and economic demands to be considered. It is also notably different from the fiscal extremes that characterised most of the 20 or so budgets that preceded it.

I estimate that, with the exception of the standstill budget that followed the 2002 election, today’s adjustments to social welfare and taxation, relative to the size of the Irish economy, are the smallest announced through that entire period.

In the run-up to Budget 2017, the word “giveaway” repeatedly featured in comments made by politicians and economists. While this accords with the traditional role of budget day in Ireland as a spectacle of bread and circuses, it is wrong and potentially harmful to think of Budget 2017 in those terms.

For politicians, references to giveaways remind voters of the significant fiscal powers that lie within the Minister for Finance’s gift. This perspective contributed hugely to the roller-coaster ride taken by the Irish economy through the past couple of decades.

A key question is whether the relatively modest measures announced by Michael Noonan today, which amount to just under a half a per cent of 2017 GDP, mark the start of a fundamentally different fiscal path or simply a temporary aberration after which the normal service of doling out the goodies (or tough medicine) will resume.

Public services

Paradoxically, my concern is that the “giveaways” in Budget 2017 are a little too small and possibly too thinly spread to be sustainable.

The envisaged scale of adjustments to public spending and income taxes does little more than “index” these aggregates to expected increases in relevant prices and wages, thereby preventing a deterioration in the real level of public services or an increased effective rate of taxation for workers getting even modest pay increases.

Indeed, on the Minister’s own figures, the share of the workforce paying the higher tax rate is set to increase next year.

While problematic EU rules restrained the scale of measures announced in Budget 2017, they allowed marginally more leeway – probably a few hundred million euro – than the Minister took. Those same rules imply that fiscal space will open up materially in coming years, probably by a good deal more than this budget’s documents suggest.

In these circumstances, the likelihood is that political pressures will encourage altogether larger, probably inefficient and possibly inequitable “giveaways” that may eventually prove unsustainable.

Much of the policy advice in the run-up to Budget 2017 that focused on the need to avoid “giveaways” suggests many economists are still fighting the last war in a way that may make them redundant in future fiscal battles. Indeed, Budget 2017 measures that economists see boosting house prices more than homebuilding suggests this process may have begun.

Pain and progress

While concerns about public deficits and debt must remain a key influence, they can no longer be the only focus of Irish economic policy. Exceptional pain and progress have transformed the trajectory of the public finances. The latest IMF projections suggest that only three EU member states will have a smaller deficit as a percentage of GDP in 2017 than today’s budget data envisage for Ireland.

I don’t think there is a real risk that modestly supportive fiscal policy would overheat the Irish economy at present. The trend in Irish wages and consumer prices remains soft even relative to subdued international trends.

More importantly, an unemployment rate close to 8 per cent coupled with a level of labour force participation about 4 per cent lower than before the crisis and a strong emerging inflow of further entrants to Ireland’s workforce also speak more of unused potential than of pressure on resources.

With a generally uncertain global outlook restraining investment decisions and the particular problems posed for Ireland by Brexit now looming large, I think Irish economic growth could run close to 3 per cent in 2017. This should be regarded as a very respectable outturn but it is a pace that creates significant leeway for tackling problems in this country’s economic and social infrastructure.

Budget 2017 has taken some small steps in this regard. Unfortunately, it remains unclear whether the era of the budget giveaway has gone away or if old-style pressures will quickly return threatening to bring old-style problems in coming years.

Austin Hughes is chief economist with KBC Bank