ECONOMICS: The Irish economy has been supported by an array of positive factors recently that may not offer the same degree of help in the period ahead

The past couple of years has been a period of extremes for the Irish economy. From a boom time that many believed would be everlasting to the apocalyptic forecasts that followed the tragic events of September 11th, we've had to get used to dramatic changes in the economic outlook.

It seems to me that more subtle but possibly more searching changes lie ahead.

The implications of extreme circumstances, whether they reflect an immortal tiger or an imminent meltdown, are similar in one important respect: what individual firms or families do is unlikely to be decisive.

In a boom, rapid growth regularly hides poor management of business or household finances. On the other hand, well-run businesses can fail and good workers lose their jobs in a severe slump.

In a climate of modest growth, differences in the fortunes of companies and individuals are likely to be wider. A notable feature of the Irish economic landscape in the next few years may be that it will be easier to distinguish winners and losers.

Global economic conditions are unlikely to either re-ignite the boom or tip the Irish economy into recession in the next year or two. Across the US and Europe, there are encouraging signs that economies are beginning to respond to last year's sharp fall in interest rates. It also seems that the economic fallout from September 11th itself was more contained that many predicted.

Unfortunately, if the downturn was more shallow than feared, the coming recovery may also be fairly lacklustre. There is no pent-up demand for consumer goods or capital equipment in the US of the sort that traditionally has given oomph to upturns.

In the euro area and Japan, structural problems of varying intensity will retard growth. In the UK, too, it is hard to see domestic demand accelerating as earnings growth and employment falter.

It may seem odd to suggest that an Irish economy that has come through a long-lasting boom without major imbalances and survived a fairly testing time of late, could face problems as the world economy recovers.

In reality, the Irish economy has been supported by an array of positive factors in recent years that may not offer the same degree of assistance in the period ahead.

Certainly, spending power looks set to rise far more modestly than in the past five years. On my reckoning, disposable incomes will grow by around 7 per cent this year on average, less that half the pace seen a couple of years ago.

More importantly, restrained employment growth, limited tax concessions and weaker pay increases are likely to remain features of the Irish economy well beyond 2002.

Irish households will also find their purchasing power squeezed by stubbornly high inflation - which may not fall much below 5 per cent this year. It remains to be seen how they respond to this less buoyant outlook.

Initially, borrowing could continue to outpace income growth. Unfortunately, interest rates will probably move higher later this year.

While fairly modest rate hikes are unlikely to cause undue financial strains, the rapid pace of borrowing in recent years means the Irish economy may be far more sensitive to a rising rate environment now than in the past.

It seems unlikely that significantly lower taxation or faster earnings growth will provide the wherewithal to allow spending growth approach anything like the double-digit increases seen until recently. Irish consumers may even have to contemplate the possibility of rising rather than falling taxation in the years ahead.

Nor is earnings growth likely to remain buoyant. With UK manufacturing pay settlements coming in just above 2 per cent at present, competitiveness difficulties will bite, unless the euro continues to tumble.

If Irish consumers have to adjust expectations, Irish business may need to be even more pro-active.

During the boom, double-digit revenue growth produced by buoyant demand, the cushion of exchange-rate weakness and a widespread domestic acceptance of rising costs gave many Irish companies room to make mistakes. That type of leeway is unlikely to be available in the next few years.

How painlessly the Irish economy adjusts to a cooler economic climate will say much about the past decade. It will tell whether deep-rooted improvements took hold or the boom merely produced cosmetic gains.

The key will be how flexible the Irish economy has become. Have we a labour market like the US where the average stay in a job is now around three-and-a-half years?

Is there the scope to adjust costs as in the UK, where more flexible pay practices have seen private-sector earnings growth drop from just under 6 per cent to less that 3 per cent in the past year, as the economic climate deteriorated?

Flexibility of this type has sustained activity and employment in these economies and will be required here if the Irish economy is to remain strong.

There are some grounds for optimism. The controlled slowdown seen in most Irish economic indicators in the past six months seems consistent with a timely but measured response to a poorer economic climate.

Clearly, Corporate Ireland has taken action, cutting capital spending and head count.

Similarly, the fairly limited rise in jobless numbers in recent months coupled with the weakening of tax revenues may partly reflect an increasing flexibility in pay packages that could protect jobs over the course of the next couple of years.

Finally, anecdotal evidence of an improving housing market implies a measure of resilience in the Irish economy.

That said, the prospect of wide variation in the returns from property investment may typify an economy in which there are no longer any sure bets.

• Austin Hughes is chief economist at IIB Bank