Small firms lobby group ISME has warned that the economic boom could come to an abrupt halt unless the Government tackles skills shortages. The group has also called on the Government to increase tax allowances to encourage the long-term unemployed to return to work.

In a pre-Budget submission, ISME warns that competition among employers is exerting upward pressure on wages. "The Government should not be defected from cutting income taxes in the November Budget by fears of "overheating" the economy. "Such fears should only be justified where tax cuts add to demand without affecting supply," it says.

"Therefore the Budget should target tax reductions on increasing the labour supply."

ISME spokesman Mr Eoghan Hynes said he would be in favour of a tax rate of 15 per cent for those on lower incomes.

Mr Paul Tansey, an economic consultant with Tansey Webster & Associates, who helped ISME draft its submission, warned that skills shortages will deflect foreign investors, especially US multinationals, from locating in Ireland. He said a skilled workforce was a key incentive for multinationals, as most countries offered broadly similar grant incentives. He also said the shortages which are emerging in the marketplace would pit one employer against another as they compete for staff and this would cause wage drift. Ireland was in danger of inciting the "inflationary fires" which had been avoided so far in the recovery cycle.

Mr Tansey said it was important that current education programmes continue to ensure a highly-skilled workforce was available but structural unemployment must also be addressed - the 190,000 people who were out of work for more than one year and whose skills do not match employers' needs, should be addressed.

He added that stronger bridges should be built between State supported activities, such as the community employment schemes, on which around 40,000 people are said to be enrolled, and the open labour market.

Mr Tansey stressed that taxes should be reduced, not benefits.

ISME, which for so long has campaigned vigorously against increases in public spending, said that current public spending does not need to be cut. However, it says its rate of growth does need to be checked. "Careful management of the public finances requires, at a minimum, strict adherence to the 4 per cent net current spending targets that the Government has set itself for the years through 1999," it said.