The economy may be at a turning point. After years of high growth, low inflation and competitive wage rises, the old bogy of a wage-price spiral may be back.
An inflation rate in excess of 5 per cent was not envisaged by anyone during the debate on entry to the euro. Indeed, the Partnership for Prosperity and Fairness was negotiated on the basis of 3 per cent inflation this year.
The Minister for Finance, Mr McCreevy, has since increased that forecast to 4 per cent, and there are indications that he might be forced to raise his forecast for the average inflation rate this year to 5 per cent or higher by the end of the summer. Price rises at these levels effectively negate the large pay rises won under the PPF and are certain to add to already substantial wage demands.
There are no signs that the rate of inflation will start to ease back soon. On the contrary, forecasters expect further increases. Oil prices have accelerated again and, together with mortgage rate rises, will put further upward pressure on the figures.
Economists now believe that inflation will average 5 per cent or more this year and that monthly price rises will peak at above 6 per cent. That is bound to have a significant impact on the economy.
According to Mr Jim O'Leary, chief economist at Davy Stockbrokers, there is now a serious danger that wages will rise so rapidly that they will erode competitiveness.
Average wages have been rising by a sustainable rate of around 5 per cent a year, roughly the same rate as productivity is increasing. But now there is at least anecdotal evidence that workers in some industries are seeking and often obtaining double-digit increases.
If sustained, such pay rises would erode competitiveness, particularly for exporting companies. Already, the rate of inflation in the Republic is three times the EU average of 1.7 per cent. Meanwhile, an increasing number of the more traditional indigenous firms simply do not have the profit margins to afford large pay rises.
Others, particularly in the services sector, will simply pass on the increases in higher prices. We have already seen this in recent drink and petrol price increases, which undoubtedly reflect higher input costs in the form of increasing wages.
In the past, this process of bringing the economy back to equilibrium would have been achieved through higher interest rates and a rising exchange rate for the pound against other currencies, which would both have acted to slow economic growth. With membership of the euro, neither policy option is possible. This means that higher inflation and the resulting loss of competitiveness are the only factors which will slow growth.
One of the risks, according to Mr O'Leary, is that there could be a significant reappraisal of Ireland as a location for foreign investment. We could quickly lose our reputation as a good place to do business.
So what can the authorities do? The first prescription is to cut indirect taxes, as recently advocated by the president of the European Central Bank, Mr Wim Duisenberg. After all, the 50p increase in the price of a packet of cigarettes in the last Budget did quite significant damage to the inflation figures - tobacco prices are now growing at an annual rate of 17.1 per cent.
Why not counteract this with a reduction in the duty on alcohol or a cut in VAT? Both would certainly bring down the headline rate of inflation, although only in the short term. One difficulty of this approach is that it would also put even more money in people's pockets, which would boost demand and thus inflationary pressures.
According to Mr Jim Power, chief economist at Bank of Ireland, the best policy approach is to introduce more competition into the economy. He points out that one area where inflation is lowest is clothing and footwear, where intense competition is holding prices back. Serious competition in telecommunications or transport would also work over the longer term, he says.
In summary, escalating price rises will eventually slow the economy by undermining competitiveness. But the danger is of a sharper downturn. If wages rise rapidly and the economy is hit by outside shocks at the same time, the consequences could be profound.
This is conceivable if, for example, there was a sharp decline in the value of sterling. If British manufacturers regained competitiveness through a weakening of sterling, Irish companies would have little room for manoeuvre.
There is no way of knowing which outcome is most likely. But yesterday's figures heighten fears that the inevitable slowdown will be a hard landing rather than a gentle easing back of the current unsustainable rate of growth.