Fiscal watchdog warns housing boom may overheat economy

A sharp increase in the number of new homes being built here over the next few years risks overheating the economy, the State’s fiscal watchdog has warned.

The Fiscal Advisory Council is the latest think tank to warn about the risks posed to the economy from recent trends in housing.

In its latest economic assessment, the council said while a stronger supply response was needed to keep prices and rents down, there was a risk that output and employment in the construction sector might increase too rapidly.

This had the potential to bid up wages and erode competitiveness similar to what occurred in the mid-2000s.

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“Fiscal policy may have to lean against the wind if the domestic economy begins to overheat, especially if the construction sector responds to persistent supply shortfalls,” it said.

However, the council stopped short of suggesting the current dynamic in housing required an immediate change in the Government’s fiscal stance, which envisages a further €1.2 billion in spending hikes and tax cuts in October’s budget.

Dial up

Minister for Housing Simon Coveney hopes to dial up the level of house completions to 25,000 per annum by the end of next year in a bid to address the shortfall.

However, some analysts believe the sector, which was decimated during the crash, does not have the capacity to accommodate such an increase in activity – not without significant influx of foreign labour.

In its report, the council also warned against using the tax revenue that might flow from an upswing in construction for current spending, echoing advice from other agencies.

“With government debt levels still high, it would be appropriate to refrain from spending unexpected revenue gains, and to maintain a steady pace of deficit and debt reduction,” it said.

The council endorsed the Department of Finance's forecasts for the economy as set out in its recent Stability Pact Update, suggesting a "strong cyclical recovery" in Ireland would continue in the near-term.

Timing and severity

While the department was right to assume a hard Brexit in its forecasts, the council queried whether the timing and severity of such a scenario had been fully accounted for.

Brexit and potential volatility in corporation tax receipts as a result of changes to the US tax code were viewed as the chief medium-term risks to the Irish economy.

“While a hard Brexit would previously have been considered an extremely adverse scenario, recent developments suggest that this is the most likely outcome of negotiations,” the council said.

It commended the Government’s proposal to establish a so called “rainy day fund”, suggesting it could be a useful tool for reacting to changing circumstances.

However, it said the Government’s commitment to reducing debt to 45 per cent of gross domestic product (GDP), significantly inside stability pact recommendations, may not be sufficient given the recent distortions in Irish GDP.