Irish growth strong but slower as Brexit looms


Irish GDP growth slows to 4.9% y/y in Q3 from 8.7% previously

We still see headline GDP growth of 7% in 2018 with underlying increase of 4.5%

Growth in consumer spending and construction ease but still healthy  

‘Brexmas’ uncertainty may hit final quarter figures

Shape and timing of Brexit key to whether growth softens or slides next year  

‘No deal’ Brexit likely to dramatically cut Irish economic growth for 2019

Comparison of current upswing with ‘Celtic Tiger’ era suggests the boom is back for some but not for most

Growth data for the third quarter of 2018 suggest that the Irish economy is continuing to post solid gains in activity although the pace of growth appears to be moderating. While volatility in these figures remains an issue and urges caution in terms of full year outcomes, overall, we are of the view that today’s release is consistent with our forecast of GDP growth of 7% in 2018 ( although we have tweaked the components somewhat).

We also think signs of a slight easing in domestic demand growth hints at a notably slower if still solid 3.5% increase in GDP in 2019-provided a ‘no deal’ Brexit is avoided (see below). 

Among the key aspects of today’s data are the following:

  • Irish GDP growth slowed to 0.9% (3.7% annualised) in the 3rd quarter from 2.1% (8.8% annualised) in the second quarter. Reflecting these developments, the year on year growth rate fell to 4.9% from 8.7%. While diagram 1 above highlights the volatility in these numbers, it also hints at a gradual and modest easing in the pace of growth for the past year or so.   
  • Consumer spending increased 1.0% q/q, following a 1.3% rise in the second quarter. This leaves household spending 2.9% above the level of a year earlier, a solid increase but well below the 3.8% annual increase recorded in the second quarter. In light of employment growth running towards 3% and ‘real’ earnings growth approaching 1.5%, this suggests Irish consumers are cautious rather than free-spending at present.
  • A sharp increase in investment (+28.1% q/q) largely reflects multinational sector activities. Construction activity increased a strong 3.6% q/q but this was slightly lower than the previous quarter’s 5.9% increase and, at least in part, may reflect capacity constraints on the pace of growth in the building industry.
  • The third quarter saw a marked pick-up in import growth ( +7.1% q/q v +4.1%) due to a sharp increase in aircraft imports (up to €4,039 million from €0.387 million a year ago)  and increased imports of Intellectual Property (€3715 million v 2256 million in Q3 ’17). These developments suggest the broad multinational sector remains a key influence on headline activity data for Ireland.  As the increases in these areas also boosted headline investment, they didn’t materially affect the headline growth rate.
  • Export growth slowed to 1.5% q/q from an outsized 6.8% previously but even allowing for further headwinds from a weakening in global growth of late, the exports of Irish resident companies remain on track to post growth of over 6% for the full year
  • The third quarter saw a run down in inventories that may partly reflect a more cautious business stance in light of weaker global growth and Brexit related uncertainty. However, the product release schedule of significant multinational companies and a Brexit related stock build could prompt a rise in inventories in the final quarter.
  • While the third quarter national accounts data are consistent with headline GDP growth of around 7%, we continue to estimate the underlying growth rate of the Irish economy at around 4.5% at present. This is based on current jobs growth of around 3% and productivity gains of around 1.5%. This estimate appears broadly consistent with the Central Statistics Office’s calculation of ‘modified domestic demand’ growth of 4.5% for the first nine months of the year.  

 A ‘Brexmas’ bump or a sharp slowdown in 2019?

Today’s data show some signs of a slight moderation in household and domestic business spending growth in the third quarter that is broadly consistent with a pull-back in consumer and business sentiment of late that hints at a more cautious approach to spending in late 2018. Our sense is that increasing uncertainty about the  path (or cliff) that the UK will take in 2019 could prompt a ‘‘Brexmas’’ related softening of the pace of growth over the turn of the year.  

In the event of an orderly and managed separation, there could be some temporary ‘relief rally’ impact on activity in early 2019. Alternatively, if the UK were to ‘crash out’ of the EU next March without a transition deal or some significant agreement on trading relations, it would impart a sudden and severe shock on the Irish economy. As the disruptive effects would be front-loaded into 2019, next year would bear much of the burden of adjustment and, consequently, much of the hit to activity and employment in the event of a ‘no deal’ scenario.

The unprecedented nature of Brexit makes any attempt to quantify the likely damage to the Irish economy highly speculative. The sharp contrast between recent estimates of ‘no deal’ outcome effects on the Irish and UK economies from the ESRI and the Bank of England illustrates this forcefully. Unfortunately, it is near impossible to capture the disruption to sentiment and spending of the likely chaos that would ensue in model-based estimates. Indeed, it could be argued as is suggested in the Bank of England analysis that the short run hit would exceed the long term impact.    

Moreover, to the extent that Irish GDP metrics may exaggerate the level of output and incomes affecting most businesses and households, estimated Brexit effects on GDP may not fully capture the nature or extent of dislocation felt by many domestic firms and consumers. Nearly as important as the summary impact on the Irish economy as a whole is the large variation in outcomes that will be felt across sectors and regions.

Our strong view is that the short term impact of Brexit outcomes on the Irish economy will vary hugely depending on the specific path chosen by the UKand the resultant actions policy taken in Ireland or at the EU level. Even with some offsetting policy measures, we would expect the adverse impact of a ‘no deal’ outcome to be a significant multiple of that of a more orderly separation. Our tentative estimates in this regard suggest that Irish GDP growth for 2019 could be reduced by between 2 and 3 percentage points in the event of a ‘disorderly’ Brexit.

A more structured and correspondingly slower Brexit might shave a good deal less than 1 percentage point of the near term growth outlook. Our sense is that the latter would reflect both a precautionary slowing of business and household spending as well as some alteration to supply chains and poorer prospects for exports to the UK. This sort of impact entailing a soft but not entirely smooth Brexit is envisaged in our forecast GDP growth figure for 2019 of 3.5%.

Back to the future?

The schizophrenic nature of much economic commentary and analysis is hinted at in the coincidence at present of widespread concerns regarding the risks posed by Brexit and a notable focus on ‘the return off the boom’.

In these circumstances (having discussed Brexit risks), we thought it might be instructive in light of the new GDP data to compare recent economic developments to those of the ‘Celtic Tiger’ era.  This comparison is complicated by data shortcomings with quarterly figures for our chosen metrics only available back to 1999. We have chosen that year as our reference period partly for data reasons but also because it marks the beginning of EMU and the transition to a markedly lower interest rate regime that was central to the acceleration in domestic spending that characterised the boom.

As diagram 2 illustrates, there are major differences in the paths taken by various indicators that mean on some measures, current conditions are comparable to the previous boom but others are showing a notably poorer trajectory. In brief, as diagram x illustrates, the boom is back for some but for many, particularly for those not gaining employment,   recovery is still a work in progress. As the diagram shows:

  • Irish GDP growth has been markedly faster of late than in the early noughties (red v pink line), largely reflecting the exceptional influence of the activities of a very small number of multinationals. Today’s figures show GDP some 69%% higher than in 2013, a marked outperformance of relative to the post 1999 trend  (+33%).      
  • The pace of employment growth has been very similar or marginally faster than that seen in the noughties boom (light v dark green line). In part, recent strength stems from the large job losses seen through the crisis (the unemployment rate was 6.5% at the beginning of 1999 against 14.6% at the start of 2013).
  • Real growth in household incomes has fallen well short of the increase seen in the previous boom period, rising a cumulative 19% against 30% in the prior period (gold and brown lines). This is largely due to a failure to match the acceleration in income growth seen from 2004 that stemmed from rapid wage growth and exceptional fiscal largesse. Arguably, the more modest pace seen of late may prove more sustainable in that it is less damaging to competitiveness and less threatening in terms of generalised overheating risks.    
  • Slower income growth has translated into correspondingly weaker increases in consumer spending relative to the Tiger era (light and dark blue lines). In the third quarter of 2018, Irish consumer spending was a cumulative17% higher than in 2013 whereas, at the same stage in the prior period, the gain was 30%.  

  • This non-exhaustive information is based on short-term forecasts for expected developments in the economy and financial markets. KBC Bank cannot guarantee that these forecasts will materialize and cannot be held liable in any way for direct or consequential loss arising from any use of this document or its content. The document is not intended as personalised investment advice and does not constitute a recommendation to buy, sell or hold investments described herein. Although information has been obtained from and is based upon sources KBC believes to be reliable, KBC does not guarantee the accuracy of this information, which may be incomplete or condensed. All opinions and estimates constitute a judgment as of the date of the report and are subject to change without notice.