Comment: Indicators on the health of the Irish economy point to an overall performance that remains both exceptionally buoyant and resilient, with real gross domestic product (GDP) expected to grow by at least 5.5 per cent in 2006. A similar rate of growth is forecast for 2007, despite an expected downturn in the global economy. Such a performance would represent the continuation of a remarkable period of steady and sustained growth in real GDP since the ending of the Celtic Tiger period in 2000.
Despite this upbeat economic outlook, doubts abound about our more medium-term prospects. Many of these are interrelated and centre on the composition of Irish economic growth, particularly the relatively high share of construction-related activity in GDP and the growing level of personal sector indebtedness.
Another issue is what happens after 2007 when the impact of SSIA-related spending wears off? The assumption is that growth will falter after a consumer-led boom in 2007 - "what goes up must come down". There is a tendency here to see our economic success as a consumer-led boom, fuelled by excessive levels of borrowing that, in turn, is fuelling domestic inflationary pressures.
While some elements of our recent economic performance need careful monitoring, there is too much gloom about how the economy may evolve over the next few years. We argued in our April Irish housing market report that property prices were rising too rapidly and that annual price increases of 15 per cent or more were unsustainable.
I expect to see a material slowdown in the rate of house price inflation starting in the autumn. However, I remain confident that the market is well underpinned by solid demand from demographic- and employment-related drivers.
The IMF has expressed concern about Ireland's reliance on construction output, arguing in its recent report on the Irish economy that it has become too dependent on building investment. There is, though, limited value in making comparisons between the share of investment in Irish GDP with that in more infrastructurally developed economies.
Ireland's infrastructure is not adequately developed in many areas to make us sufficiently competitive in international markets. The increase in the share of total fixed investment as a percentage of GDP in Ireland since the mid-1990s is almost entirely due to the rise in the proportion of residential investment.
As I expect that housing investment will level off in 2007, its share in total investment should also start to fall back. From the point of view of developing a more competitive economy, it would be preferable if the share of investment in GDP did not fall back in line with the decline in the housing component. In this regard, given Ireland's obvious economic and infrastructural deficits, non-housing related investment needs to remain strong and the share of total investment in GDP to remain high for several more years.
A remarkable feature of the Irish economy has been the limited evidence that the boom in the housing market has had a sizeable influence on personal spending. Unlike many other countries, the rise in Irish house prices was accompanied by a sharp rise in the personal savings ratio. While part of the rise in the latter was due to SSIA accounts, there remained an underlying growth in personal savings at a time of rapidly rising household wealth, which is quite unusual. Furthermore, there is little evidence that the growth in personal spending reflected significant wealth effects. Consumption appears to be more influenced by employment trends than any other factors.
Looking ahead, therefore, a slowdown in house price inflation need not have a major negative impact on Irish consumers as it has had in some other economies. I expect that the personal savings ratio will ease over the next two years from its exceptional level of near 14 per cent of personal disposable income. This, together with moderate employment growth and real wage increases, should sustain a rise in real personal spending of 3.5-4 per cent a year after 2007, when the impact of SSIA-related spending has worn off.
Thus, overall, despite some predictions to the contrary, growth is likely to remain reasonably well balanced in 2006-2007. Consumer expenditure is forecast to grow by an average 7 per cent, boosted by SSIA-related spending, with Government spending rising by 4.5 per cent and fixed investment increasing by 5.75 per cent. Export growth is forecast to average around 5.5 per cent, with imports rising by 6.5 per cent. Despite a levelling off in new housing output, therefore, the economy is expected to continue growing above trend in 2006 and 2007. On this basis, new housing output's share of GDP would fall back to 9.5 per cent by 2007 from 10.6 per cent last year.
The rate of economic growth will undoubtedly slow after 2007 due to a weaker expansion of domestic demand, particularly consumer spending. However, export growth is very difficult to predict. AIB Global Treasury's medium-term assessment is that export growth will support a rise in real GDP of over 4 per cent a year over the medium term.
It is my view that we have consistently underestimated the growth in exports from Ireland and thus the overall growth in the economy.
John Beggs is the chief economist with AIB Global Treasury
