Central Bank of Ireland: Growth Enduring Despite Uncertainty and Growing Downside Risks

7 July 2022

By David Barwick – FRANKFURT (Econostream) – Irish economic growth should hold up relatively well over the medium term, but uncertainty is high and the outlook is subject to risen downside risks, according to the Central Bank of Ireland on Thursday.

In its third quarterly bulletin of 2022, the central bank said that some softening of the post-pandemic recovery was being observed, so that projected modified domestic demand (MDD) growth, while remaining ‘firmly positive’, had been cut to 4.3% in 2022 (versus 4.8% previously), 4.2% in 2023 (4.3%) and 3.8% in 2024 (3.9%).

Strong labour market developments and other indicators suggested ongoing overall expansion of the Irish economy despite uncertain prospects and a balance of risks tilted increasingly downwards, the central bank said.

In particular, baseline forecasts reflected financial markets’ assessment of the outlook for commodities, including energy, the central bank said. If Russia’s war of aggression against Ukraine persisted and kept energy prices and supply under pressure, that would depress growth and augment inflation relative to the main scenario, it noted.

‘The international economy has deteriorated and more adverse conditions could impinge on export growth’, it said. ‘The effects of high inflation and uncertainty may not have fully passed through to domestic activity and could further dampen growth for the remainder of the year.’

The Irish central bank boosted its projections of HICP for 2022 (7.8% versus 6.5% previously) and 2023 (4.2% versus 2.8%), citing higher energy prices ‘along with evidence of more generalised upward price pressures for other goods and services’ that had pushed up core inflation measures.

The central bank said nonetheless that the baseline scenario was for inflation to start subsiding in the second half of 2022, chiefly due to base effects, and left its 2024 inflation forecast unchanged at 2.1%.

‘Risks to the inflation forecasts remain tilted to the upside’, the Irish central bank said. ‘The war in Ukraine and the potential for further Covid-related disruption increase the risk that supply bottlenecks persist longer than anticipated, adding to the costs of consumer goods and services.’

The central bank identified food prices and the euro as further sources of upside inflation risk.

‘The exchange rate channel also presents an upside risk to inflation if the euro falls further against its main trading partners’, it said. ‘The euro has already fallen by over 9% against the dollar since the start of the year.’

Despite the most recent further weakening of the exchange rate, the central bank did not yet consider this risk to have materialised, it was made clear during a briefing by the Irish central bank on Wednesday.

Wages continue to rise and the interaction of these with prices is key for how inflation evolves, the central bank said, ‘with expectations for future inflation showing some upward movement for next year.’

The normalisation of European monetary policy would however help ensure that high inflation does not become entrenched over the medium term, according to the Irish central bank.

‘Some downside risks could emerge if monetary policy reacts faster than anticipated’, the central bank continued. ‘A more prolonged surge in inflation could also dampen consumption and investment prospects, with negative demand consequences and second round knock-on effects for inflation.’

Indeed, the hit to real disposable incomes from high inflation would already slow consumer spending, while modified investment was also seen decelerating, according to the central bank.

‘Recent data provide clear evidence that supply chain disruption, high input prices and uncertainty are having a dampening effect on investment’, the central bank said. ‘Survey evidence from firms indicates that high input costs of key materials as well as tight labour supply is expected to constrain the growth in investment out to 2024.’

Exports were a bright spot, while higher tax revenues set the stage for a lower-than-expected government deficit this year and a general government surplus this year, the bulletin said.