No-deal Brexit will have ‘severe impact’ on Irish economy, Central Bank says

A no-deal Brexit will have "an immediate and severe impact on almost all areas of economic activity", the acting governor of the Central Bank of Ireland has warned.

In a pre-budget letter to the Minister for Finance, Sharon Donnery said a prudent budgetary approach was critical to ensure the economy had "sufficient resilience and policy has room to manoeuvre".

The warning comes as British prime minister Boris Johnson announced plans to suspend the British parliament in a bid to force through his Brexit plans, a move that is seen as heightening the prospect of a no-deal Brexit.

In her letter, Ms Donnery said a disorderly Brexit was one of the main risks to the Irish economy along with international trade tensions and a global economic downturn.

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Tariffs

“Certain sectors, such as agriculture, food production and manufacturing have particularly strong links to the UK, both as an export market and as an important source of intermediate inputs into their supply chains,” she said.

"These sectors would be disproportionately affected by the imposition of tariffs and non-tariff barriers such as increased border delays and significantly increased administrative requirements for firms exporting goods both to the UK as a final destination and through the UK to continental Europe, " Ms Donnery said.

Referring to the potential fiscal effect of a disorderly Brexit she noted it would be significantly more challenging. “Such a situation would lead to a material deterioration in the fiscal position”, and that this assumes “automatic stabilisers are allowed to operate fully, as would be appropriate”.

Minister for Finance Paschal Donohoe has already signalled he will let the Republic's headline budget surplus swing to a deficit of up to 1.5 per cent in the event of the no-deal Brexit, effectively pushing up to €4.5 billion back into the economy to counterbalance the Brexit fallout.

Ms Donnery warned that any any fiscal response to Brexit must be consistent with long-run debt sustainability “and does not undo the hard work in re-establishing Ireland’s fiscal credibility and risk the emergence of unsustainable debt dynamics”.

She said, however, that not all risks are to the downside and in the event that a disorderly, no-deal Brexit can be avoided, the Irish economy is expected to perform strongly in 2019 and 2020.

Policy

This would bring with it an equal and opposite risk of overheating, warranting tighter fiscal policy, she said.“With output at or close to potential, a tighter fiscal policy would help to manage demand pressures.

“The uncertain environment also highlights the necessity of reducing the dependence on potentially transitory revenues and building buffers to facilitate a stabilising countercyclical fiscal expansion in the event of a future downturn,” she added.

The Government has been repeatedly criticised for using bumper corporate tax revenues to plug holes in its current expenditure, emanating in the main from overruns in health.

“Failure to run sufficient surpluses during phases of good economic performance may limit the Government’s room to manoeuvre.”

The Government ran a budget surplus last year for the first time in more than a decade thanks to a record influx of corporate tax receipts.

Ms Donnery said it was important the State paid down its €200 billion national debt while economic and financial conditions remained favourable, suggesting that fiscal windfalls, including those from corporation tax, could be ring-fenced to play a part in reducing the public debt burden.

She urged that “Budget 2017 proposals to introduce an Irish specific debt target of 45 per cent of GDP … should be formalised by the Government as soon as possible”.

Pointing to the unpredictability of corporate tax revenues in recent years she said, “any strategy on corporation tax receipts should work in tandem with the medium term expenditure framework to ensure that revenue windfalls are used to strengthen the resilience of the economy rather than finance permanent expenditure growth”.