Nothing can match 2016 for shifts in policies

According to its latest World Economic Outlook, the International Monetary Fund (IMF) forecasts that the global economy will grow by 3.4% in 2017.

This is consistent with the average annual growth rate since 1980, so are we in ‘Goldilocks territory’, with growth that is neither too hot nor too cold?

Unfortunately for Ireland, most of this expected growth is concentrated in the emerging markets, with the group of advanced economies forecast to grow by only 1.8% next year, well below the 2.4% annual average seen over the past three and a half decades.

With two-thirds of Irish exports going to either Europe or North America, this relatively pedestrian pace of growth will not lend much by way of support next year.

A further complication is that events threaten to muddy the outlook still further. One of the key takeaways from 2016 is that opinion polls and betting odds are now devalued currencies where their predictive powers are concerned. 

The Brexit vote and Donald Trump’s US election victory both mean that market participants are likely to be nervous ahead of the key scheduled political events in 2017 — elections in France, Germany, and the Netherlands — regardless of what outcome is predicted by the polls. Elsewhere, the UK’s expected triggering of Article 50 as part of a divorce from the EU could also complicate matters.

While it remains to be seen how all of these events play out, their outcomes could have implications for the wider economy. 

Across the pond, the Trump presidency is due to commence on January 20. While there remains some confusion about the precise details of the new administration’s policies, the market is positioned for a loosening of the fiscal purse-strings, which has prompted a sharp move in the US 10-year bond yield from 1.83% just before the election to 2.55% at the time of writing. 

The thinking here is that while a budgetary stimulus might give a kicker to growth, the limited slack in the US economy (unemployment stands at only 4.6%) means that it is likely to prove inflationary.

The Federal Reserve recently hiked rates for the second time in 12 months, helping to consolidate the dollar’s recent strengthening (it is currently at its highest level against the euro since 2003). The stronger dollar does, however, help Irish exporters to the US.

Bringing it all together, what do these external developments mean for Ireland and do they threaten the economic strengthening that has been underway here since the return to growth in 2013?

Given the distortions caused by the multinationals in the national accounts, one has to look beyond headline data in seeing the imprint of external developments on the real economy here.

According to the national accounts, exports grew 0.6%, year-on-year in the third quarter of 2016, which was the period immediately after the Brexit vote in the UK. 

Only around 14% of Irish exports go to our closest neighbour, but, for indigenous firms the share is estimated at 40%-45%. Industrial production data for indigenous firms show a decline of 3.1% year-on-year in the third quarter of 2016. 

Similarly, the export components of the monthly Investec Manufacturing and Services PMI surveys for Ireland both recorded a marked weakening in the aftermath of the Brexit vote. 

So, adverse developments could put immediate pressure on firms here.

Happily, while exports are an important part of the economic story, Ireland is far from a one-trick pony. The domestic economy has recently picked up the growth baton, with demand up by 4.8% year-on-year in the first nine months of 2016, ahead of the 4.6% annualised increase in GDP recorded in the same period.

A variety of data sources point to a marked improvement in domestic economic conditions. Employment growth is currently running at 2.9% year-on-year, retail sales volumes hit a record high in July 2016 and tax receipts were up 6.5% year-on-year in the first 11 months of 2016. 

Our view is that the momentum behind the domestic economy will be sufficient for it to withstand external threats in 2017.

This is not to say that all is rosy in the domestic landscape. There are a number of bottlenecks in the economy. Housing is the major one, with chronic shortages evident in the cities.

The construction industry should be producing at least 25,000 units annually to keep up with demographic trends, but on current projections it will not reach that level until 2020, which has negative implications for house-hunters and, indeed, the country’s ability to attract foreign direct investment.

One prediction that we made in 2016 which proved wide of the mark was that the minority government elected in February would not survive to see the year end. 

In the event, it managed to get its first budget passed in October, but the recent wrangling over new measures for the rental sector is a reminder that its grip on power isn’t especially firm.

But, with opinion polls showing voters flocking back to traditional centrist parties, it is hard to imagine new elections leading to any meaningful shift in policies here.

All in all, while 2017 is likely to see some external tremors, these will probably be mild compared to this past year.

Despite this, our view is that the Irish economy will grow by 3.4% this year, bang in line with global growth, but leaving most other advanced economies in the shade.

Philip O’Sullivan is chief economist with Investec Ireland


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