The Central Bank has become the latest in a line of respected institutions to warn that the economy is in danger of overheating and that the price could be a sharp and destabilising slowdown in growth. Its latest quarterly commentary, published yesterday, warns that the inflation rate is set to increase from 2.1 per cent now to as much as 4 per cent next year. This, it warns, threatens to undermine competitiveness and leaves us very vulnerable if the international economy is hit by any significant adverse shock. The warning from the bank is similar to those issued in recent months by the Economic and Social Research Institute, the Organisation for Economic Co-operation and Development and the International Monetary Fund. The current pace of economic expansion cannot be maintained for much longer. The question, of course, is whether the economy can slow gradually to a more sustainable rate of growth, or whether we are heading for an uncomfortable downturn? Ideally, the economy might slow to annual growth rates of, say 4 to 5 per cent, slower than the growth of recent years but still well above the international average. The danger is that some as yet unforeseen set of circumstances lead to a much sharper slowdown.
The likelihood is that the rate of economic growth has already peaked. Already labour shortages, congestion and wage pressures are likely to mean that we will be unable to sustain the record performance of recent years in terms of the annual increase in Gross National Product. That said, if the international environment remains benign, there is no reason in the short-term to expect a sharp slowdown in growth, with all the signals being that the economy will enter next year still expanding at a strong pace and creating substantial numbers of new jobs.
So what are the risks? The main threat would come from an international downturn. As the Central Bank identifies, the most significant risk would appear to be a sharp reversal in the US stockmarket, which would affect many of the major multinationals with investment projects here. Domestically, the concern now is that higher costs structures being built into the economy will damage our competitiveness in the long term; inside the single currency this could result in a slow erosion of our economic performance.
The bank, correctly, criticises the Budget for adding spending power to the economy. A tax package aimed at the lower paid would have been less inflationary. Now the Government faces wage demands from across the public sector and private sector unions seeking substantial increases in a new national agreement. To ensure a fair return for employees - and to protect competitiveness - profit or gain sharing must be a significant part of any new deal. This means employees can share in the fruits when times are good, while not locking in unsustainable costs in the event of a downturn. This concept also needs to be extended to the public sector, where the Government must deliver on its programme of reform.
Already the continuing rise in house prices and the pick up in general inflation show that the economy is indeed vulnerable in the face of an economic shock. The negotiations on a new national agreement must not further add to this exposure.