Hard Brexit will hit Irish jobs, economy and the banks

Brexit remains the “main issue” facing the Irish economy, and a disorderly exit of the UK from the bloc would cause a “substantial reduction” in output and employment, the Central Bank has warned.

The regulator, in its second macro financial review published on Friday, laid out its overview of the current state of the Irish economy and the risks to the financial system, with Brexit identified as the major threat.

“The main issue facing the Irish economy is Brexit, and, in particular, the possibility of a disorderly Brexit occurring,” it said.

“A Brexit that preserves current trading arrangements would still see uncertainty arising owing to the EU-UK negotiations that would remain to be completed after March 2019.

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“A hard Brexit would cause a substantial reduction in output and employment. Recent years have seen sharp movements in the euro-sterling exchange rate. Any further weakening of sterling would make Irish exports to the UK more expensive. In the event of a hard Brexit, a weaker pound could coincide with an increase on tariffs on those exports.

“Sectors such as agri-food and wholesale-and-retail are more exposed to the effects of Brexit than others, while regions with a focus on the UK market, such as the Border counties, are more vulnerable.

“Brexit could also disrupt the activities of firms reliant on imports from the UK.”

Furthermore, the regulator warned that a hard Brexit could lead to reduced profitability for Irish banks.

“Irish retail banks’ aggregate balance sheet increased marginally in the last 12 months,” it said. “Loans books are heavily concentrated in lending to Ireland and the UK, and mainly involve property loans. Any adverse economic conditions arising from Brexit could reduce bank profitability, and have a material impact on the credit quality of Irish retail banks’ loan portfolios.

“In the event of a hard Brexit, the ability of Irish retail banks to issue debt through the UK could be affected, and they may face operational and logistical challenges issuing debt in alternative markets.”

In the insurance sector “most firms” are likely to be affected by financial market volatility and any deterioration in economic conditions arising from Brexit.

“Many firms are in the process of implementing plans to mitigate the impact of a hard Brexit on their business models,” said the Central Bank. “Although it is uncertain if all firms will have completed these actions prior to the March 2019 withdrawal date, the UK has enacted a temporary permissions regime that will provide additional time to complete the implementation of the plans.”

Other risks

The regulator identified other risks included volatility in financial markets, residential property price growth and the economy operating above productive capacity.

“A robust domestic macroeconomic environment has raised concerns about the potential for capacity constraints emerging and the economy operating above potential in the near term. An external macroeconomic shock would be intensified if the economy were operating above productive capacity.”

It added that “increased market volatility” due to both European and global geopolitical developments, including protectionism in international trade and changes in corporate tax arrangements, was another risk.

Speaking after publication of the review, Central Bank deputy governors Sharon Donnery and Ed Sibley said the regulator has been taking steps to bring a “resilience” to the economy, but that the effects of Brexit were already been felt.

“In terms of the depreciation of sterling, the economy is already feeling the effects of Brexit,” said Ms Donnery. “If you look at the data for inflation or the effects on firms that are exporting into the UK, those are probably the main ones.

“The biggest issue at the moment is the level of uncertainty about what’s going to happen in the coming weeks and months.”

Mr Sibley told The Irish Times he was "pretty confident" the banking system could cope with a hard Brexit.

“We think they are pretty well prepared for Brexit from an organisational perspective. We’ve been pushing them very hard since before the referendum to make sure they are financially and operationally prepared. We’re pretty confident that they are.”