Neil Gibson predicts fast growth, both for the Republic of Ireland and Northern Ireland. But lessons must be learnt, he warns.
What a year 2020 was across the island of Ireland! Both economies faced severe disruption from the twin pressures of Brexit and COVID-19 that few could ever have imagined. Citizens, businesses and governments were tested and reacted at pace, with little planning. We saw amazing displays of resilience, adaptability and ingenuity as firms pivoted to new ways of working and into new products and services, while our public services responded to both the health and economic crises swiftly and effectively.
Looking purely at the economic impact, it is heartening to see areas of real progress. The pandemic experience created skills and attitudes that will hopefully drive the economy forward in new, inventive ways. But before we get to those positives, let us first review economic conditions across the island at the start of 2021.
How is the island economy performing now?
Remarkably, the Republic of Ireland could end up being the world’s fastest-growing economy in 2020. That depends on Q4 data due in March, but with growth of 8.1% in the year to Q3, income tax receipts down just 1% on the year and corporation tax receipts up 9%, this suggests a high level of insulation from COVID-19 impacts. No such table-topping performance is evident in Northern Ireland, sadly, where the economy is expected to contract by around 12% in 2020, on a par with the UK and towards the more severe end of recorded contractions.
Why the divergence? There are technical reasons, notably the way real government spending is measured. Also, Northern Ireland is predominantly a consumer and public sector-led economy, while the Republic of Ireland is more export-oriented. Key exports in the Republic of Ireland include pharma, ICT and food – the best sectors you could wish for during a pandemic. It is more accurate to say that the Republic of Ireland had a level of off-setting growth that Northern Ireland did not, rather than saying it was insulated. The domestic effects were very similar.
Perhaps surprisingly, the labour market data look weaker in the Republic of Ireland than Northern Ireland. The published COVID-19 adjusted unemployment rate in the Republic of Ireland peaked at 30.4% and stood at 20.4% in December 2020. No equivalent measures exist for Northern Ireland. This measure is likely to be an over-estimate (again, for complex statistical reasons), but the true rate may well be north of 10% in the Republic of Ireland. Today, an estimated 460,000 people are in receipt of the Pandemic Unemployment Payment (PUP), with 323,200 on wage subsidy as of 31 December in the Republic of Ireland. In Northern Ireland, more than 68,000 were on furlough as of 31 October. EY analysis shows that if we include self-employed support, the level of disrupted jobs (jobs lost or falling under full or partial government support) has been very similar, peaking at close to 40%.
Government support has protected incomes to a large extent, and limited spending choice has created a considerable build-up in savings. Savings ratios for the UK and the Republic of Ireland (roughly speaking the amount of income available to save) rose to a historic high in the Republic of Ireland of 35.4% and 27.4% in the UK during 2020. Will this money flow back into the economy in 2021 when restrictions ease? The data from last year suggest that it will, but there may be a desire to save more and spend on imports like foreign holidays. However, the potential for a consumer boom is very real, a subject to which we will return.
A word for the busy
Much commentary in 2020 focused on those unable to work and the sectors most disadvantaged by the pandemic. It is important to also remember the sectors under colossal pressure, and for whom 2020 was one of the busiest ever – health workers, delivery drivers, agri-food workers and the pharma sector, for example. These workers are suffering different challenges, fatigue being the obvious one.
A boom coming?
There are many reasons to expect a very strong economic recovery in 2021. Government supports have protected incomes for many and there will be a surge back to eating out, sport, hairdressers and gyms when it is safe to do so. The evidence of last summer and autumn supports this hypothesis, which should be further bolstered by the vaccine rollout. The build-up of savings means there will be money to spend. The resilience of both stock markets and housing markets further support the consumer boom theory. Though both governments will need to address the escalating deficit, that will not be a major priority in 2021. There is plenty of global capital seeking good businesses to invest in, and many firms are looking to upgrade their systems and equipment – more positives for economic growth.
Residual Brexit-related problems are impacting the island economy. Although many are expected to ease over time, disruption to supply chains and increased paperwork also produce opportunity and demand that will spur a degree of growth in 2021. Projecting the level of growth is something of a fool’s errand without knowing the length and depth of restrictions or the scale of fall in 2020. A growth rate of 5-7% is expected in Northern Ireland, which may well be higher than in the Republic of Ireland. However, that is simply a feature of the scale of 2020 contraction from which Northern Ireland must recover. Forecasters previously predicted unemployment rates settling at above 10%, but now the consensus appears to be moving closer to 8%. This is encouraging following disruption of such scale.
Does every cloud have a silver lining?
It is often joked that economists can find the cloud in every silver lining. Sadly, the prospect of a consumer boom does cause economic alarm bells to ring. My main worries for 2021 surround prices, debt, discipline, and inequality. A consumer boom, along with a fixed supply of products or services, could lead to price increases. In a high-debt environment, this is not necessarily bad if it does not become endemic (i.e. people start demanding pay rises to meet rising costs), but it does create inequality issues.
Rising prices can be very damaging for those outside the labour market, and could exacerbate the ‘K’ shaped recovery, widening the divide between the ‘have’ and ‘have-nots’. There may be difficulties getting the same output for a given spend for both governments with ambitious plans for infrastructure spending and a clear need for health spending. Rising oil and commodity prices are further reasons to suggest that the end of very low inflation may be near.
The Republic of Ireland deficit is projected to be around €19 billion. This is much lower than expected, but will nevertheless act as a headwind for spending. In the UK, the deficit could rise to £400 billion, an eye-watering amount creating much stronger headwinds for UK spending decisions in the March budget. Emerging from the last recession was very difficult across the island; austerity took a severe toll on citizens, public services, and society. However, what it does bring is a sense of discipline and focus on budgets and spending.
The concern of the pandemic experience for longer-term prospects is the perception that money can be borrowed or, in the UK’s case, printed in any quantum for any issue. The Republic of Ireland’s fiscal council has already warned of several spending increases that are hard to trace back to ‘emergency need’. A consumer boom leading to rising prices and governments’ inability to switch quickly into countercyclical mode are the main risks for the second half of 2021.
What should the approach be?
There are counter views around policy plans – cut spending, raise taxes, or grow fast to balance the books? More radical solutions are being mooted about writing-off COVID-19-related debt, but this proposal faces reluctance given the precedent it sets for future challenges. Rapid cuts in spending would be unwise given the number of people either out of work or relying totally on government support to remain in employment. Cuts in public services would be counterproductive. That said, a serious national conversation is required in both economies regarding the cost and funding of public services. What can be done more efficiently? Who will pay? And who is best-placed to deliver the services?
Encouraging consumer spending is unlikely to be needed, so I would not advocate any further cuts to rates or VAT reductions except, perhaps, for focused and time-specific local spending incentives. Investment will be required in re-training and re-skilling to ensure that the digital revolution creates more than it destroys, particularly for retail and other negatively impacted workers. As such, unemployment levels will still require policy attention.
Supporting fast, tax-generating growth would be the most sensible approach. However, careful attention will be required for signs of escalating prices. To paraphrase a famous US economist: “Don’t worry about inflation until you can see the whites of its eyes”.
Resetting, refreshing and refocusing
In an era of bad news, it seems churlish to focus on problems in a boom that has not yet happened, so let us end on a more upbeat note. The experience of being shocked by the outcome of votes and elections should be a lesson that citizens (voters) do not view the world through the same lens as economists. P&L to a citizen means something very different from what it means to a corporate. It is as much planet and lives as profit and loss.
The last year further focused the mind on what really matters: family, health, safety, and an understanding of what can be done. Rapidly developing vaccines, pivoting to new ways of working and living, lowering emissions and congestion – these are trends we will likely want to keep.
There will be a reset in how we think about governments and the choices they must make. Perhaps now, the conversations about affordable childcare or healthcare reform and funding can happen in a less adversarial way. We must all realise that, although the saying is that the best things in life are free, the sad truth is that some are not. We may have to pay more or consume less, but we can now better understand what is at stake. The plan for both the UK and the Republic of Ireland will be to grow rapidly to solve budget problems, rather than revert to tax rises or spending cuts, so getting out and spending may be both a public duty and fun.
We accelerated digital progress by a decade in certain organisations, and we can see its potential for ways of working. Equally, we have felt the importance of human contact as the period of isolation for many has been extended. A digital and personal future is in store, a hybrid model that will see many office workers adapt how and where they work.
The outlook is for a strong rebound. As Brexit frictions settle and COVID-19 hopefully becomes less disruptive, 2021 will feel very different from the terrible year we have just endured. There will be fresh challenges to face – there always are – but somehow, dealing with fast growth and excess spending seems rather more pleasant.
Neil Gibson is Chief Economist at EY Ireland.