The Ukraine invasion had a dramatic economic impact, that was largely reflected in significant disruption to global energy, food, and industrial metals supply chains. These disruptions came on top of the pre-existing pandemic-related disruptions, resulting in significant supply chain disruptions and a consequent surge in inflation to the highest levels seen in four decades in many countries by October 2022.

It is also the case that after a decade of very low interest rates and significant growth in money supply due to Quantitative Easing (QE), the foundations had been laid for a spike in inflation.

Since peaking in October 2022, headline inflationary pressures have eased, but this is largely due to lower energy prices. Excluding energy, underlying inflationary pressures are still strong. These underlying price pressures include non-energy goods, food prices, the price of a diverse range of services, and wage pressures are building against a background of still-tight labour markets in most countries.

Central bankers were initially relaxed about the surge in inflation, but as 2022 progressed, significant interest rate increases were delivered in most jurisdictions. US rates have increased from zero to 5 per cent since March 2022; the European Central Bank (ECB) has increased rates from zero to 3.5 per cent since July 2022; and the Bank of England has increased rates from 0.1 per cent to 4.25 per cent since December 2021.

The interest rate tightening has been engineered to slow economic growth, push unemployment up and ultimately bring inflation down, or at least that is the hope. However, it was inevitable that such aggressive monetary tightening would have unforeseen consequences, not least causing deep stress for exposed banks. Silicon Valley Bank (SVB), Signature Bank and First Republic Bank have all got into extreme difficulty in the US, and of course Credit Suisse has been taken over by UBS, albeit for reasons other than just aggressive monetary tightening.

Despite these banking difficulties, Central Bankers will continue to do whatever it takes to try to get inflation under control and further rate increases in the US and Euro Zone look highly likely, despite the signs of some distress in parts of the global banking system.

There is a distinct risk that further banking and indeed other problems are likely to emerge as the world moves away from the intoxicating effects of artificially low interest rates and a decade of Quantitative Easing.

This dramatic readjustment was always going to pose significant problems.

The global background and outlook are characterised by intense challenges and uncertainties now. The risks to the wellbeing of the Irish economy are significant.

The key global challenges are:

• The ongoing war in Ukraine.
• Energy concerns – although they are now easing, they are likely to re-emerge to some extent in Winter 2023/24.
• The ongoing fight against inflation, which is proving very stubborn and is becoming embedded in behaviour.
• Rising interest rates – central banks are not yet satisfied that they have done enough to bring inflation under control. The ECB seems set to increase rates by at least a further 1 per cent.
• The vulnerability of real estate markets, particularly residential and commercial property prices – real estate markets in many countries are under pressure from economic weakness and rising interest rates.
• An uncertain global economic outlook.
• Global geo-political tensions.

Economic Trends in 2022 and First Quarter 2023

Despite the Ukraine War, intense global economic uncertainty, elevated inflation and a dramatic tightening of monetary policy, the Irish economy performed in a robust manner in 2022. Real gross domestic product (GDP) is estimated to have expanded by 12 per cent. When adjusted for the activities of multinational companies in areas such as Intellectual Property (IP) assets, profit repatriations and aircraft leasing activities, GNI* (a more realistic measure of economic activity) expanded by a still strong 5.9 per cent.

Irish growth was supported by a strong export performance; significant fiscal support for businesses and households; another strong year in terms of foreign direct investment (FDI); and a much healthier household balance sheet that we had back in 2009, with very high personal savings and a well-controlled level of household debt.

So far in 2023, the solid economic momentum is being maintained. Tax revenues totalled €19.7 billion in the first quarter and were 14.6 per cent ahead of the first quarter of 2022. Income tax expanded by 8.1 per cent; VAT by 15.9 per cent; and Corporation tax by 71.4 per cent. The Exchequer recorded a deficit of €2.1 billion in the quarter, but this was due to the transfer of €4 billion into the National reserve Fund (rainy day fund). There is now €6 billion in that fund. The unemployment rate stood at 4.3 per cent of the labour force in March, with 117,200 people officially registered as unemployed, which represents a decline of 14,400 on March 2022. The labour market remains very tight. In the first two months of the year, the value of overall retail sales increased by 10.9 per cent and the volume of sales increased by 3.3 per cent.

A solid consumer performance, with higher prices boosting the value metric.

Inflation continues to be a dominant theme. In the year to March, average consumer prices increased by 7.7 per cent. This was down from a peak of 9.2 per cent in October 2022. The decline in the headline rate is due to lower oil and natural gas prices. In the year to March the average price of food increased by 13.3 per cent; private rents were up 10 per cent; airfares up 35.6 per cent; and accommodation was up by 19.1 per cent. Like most countries, energy-related inflation is falling, but non-energy goods and many services are continuing to experience strong price pressures.

Housing remains the biggest economic, social, and political challenge facing Ireland. Against a background of rising interest rates and considerable economic uncertainty, there are clear indications that residential property price inflation is decelerating. In the year to February, national average residential property prices increased by 5 per cent, with prices in Dublin rising by 3.2 per cent and prices outside Dublin rising by 6.4 per cent. These growth rates are down from a peak growth rate of 15.1 per cent in national average prices in March 2022; a peak growth rate of 13.2 per cent in Dublin prices in February 2022; and a peak growth rate of 17.1 per cent in the Rest of Ireland in March 2022.

Between November 2022 and February 2023, national average residential property prices declined by 0.9 per cent; and between September 2022 and February 2023, average residential property prices in Dublin declined by 2 per cent. This is good news, but more significant easing would be good for economic competitiveness.

In February 2023, the CSO’s National Residential Property Price Index (RPPI) showed that national average residential property prices are now 2.1 per cent above the highest level recorded at the peak of the economic boom in April 2007. Dublin residential property prices are 7.7 per cent lower than their February 2007 peak, while residential property prices in the Rest of Ireland are 2.1 per cent higher than their May 2007 peak.

Property prices nationally have increased by 127.7 per cent from their trough in early 2013. Dublin residential property prices have risen by 128.7 per cent from their February 2012 low, while residential property prices in the Rest of Ireland are 135 per cent higher than the May 2013 trough.

The Economic Outlook for Ireland

Looking ahead to the remainder of 2023, the risks to economic activity are significant. The external environment is still very uncertain; interest rates are set to increase further with a possibility that ECB rates will rise by at least another 1 per cent from the 3.5 per cent level prevailing in March 2023; cost-of-living pressures are still intense, but government is providing solid support; the costs of doing business are high, but government is also providing support to the SME sector; the housing market is under serious pressure with a basic imbalance between demand and supply driving the cost of housing, particularly on the rental front.

Housing poses a significant threat to the economic competitiveness of the economy; global geo-political developments are continuing to generate considerable uncertainty and potential instability; and the global technology sector is cutting costs and shedding labour, and this is already having an impact on employment in the technology sector and is likely to have some impact on corporation tax revenues over the coming year.

On the positive side, the economic momentum is still strong; employment is at a record high and there is a full-employment level of unemployment; the FDI performance is holding up well, notwithstanding the global technology sector problems and the impending reform to global corporation tax rules; the Irish banking system is stable, with solid balance sheets, but its cost of funding could now increase due to global developments, although the Irish banks do have an abundance of low-cost deposits; the public finances are strong; and there is a record level of household deposits at €148.4 bln; and household balance sheets are strong in the aggregate.

Concentration risk is an issue that Irish policy makers will have to keep a close eye on. The latest data from the Revenue Commissioners show that in 2022, 10 foreign-owned companies accounted for 57 per cent of the €22.7 billion collected in corporation tax; foreign-owned companies accounted for 86 per cent of corporation tax; 53 per cent of income tax and USC; 49 per cent of PRSI; 49 per cent of VAT; and 47 per cent of wages paid in the private sector. This data shows just how dependent the country is on a small number of large multi-national companies. The Government is correct to put some of the windfall corporation tax receipts into the Strategic Reserve Fund. It should do considerably more in that regard.

On balance, the Irish economy is likely to see an easing of growth as 2023 progresses as external risk factors and higher interest rates continue to impact. Real domestic demand is set to expand by around 3 per cent in 2023. This would represent a good outcome in challenging circumstances, but the risks are clear.