IRISH ECONOMIC DOLDRUMS: THE GOVERNMENT'S RESPONSE.

C O N F I D E N T I A L SECTION 01 OF 02 DUBLIN 000416

SIPDIS

E.O. 12958: DECL: 07/15/2018
TAGS: ECON EFIN EINV PREL EI
SUBJECT: IRISH ECONOMIC DOLDRUMS: THE GOVERNMENT'S RESPONSE.

Classified By: PEO Chief Ted Pierce. Reasons 1.4 (b/d)


1. (C) Summary: The Irish government's announcement that
public finances have deteriorated rapidly has prompted a
mid-year re-think on the government's budget. Driven by a
construction-led downturn in the broader economy, the
government will cut public spending this year by USD 660
million and next year by USD 1.5 billion. Our government
contacts contend that the Irish economy will rebound after
2009 and that there is no plan to scale back significantly on
capital spending. That said, at least one official admitted
that the faster "global external factors" correct, the faster
Ireland's economy will pull out of the doldrums. There is a
lot of commentary here about what went wrong with the economy
and what Ireland has to show for its Celtic Tiger days.
Whether Ireland settles in to "normal" mature economy growth
rates or something better may depend on the government's
appetite for bold policy action. End summary.

Tax Receipts Down...
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2. (C) On July 2, the Irish government announced that tax
receipts were almost USD 2.25 billion below forecasts. The
shortfall prompted the government to step up their borrowing
program (three times more than planned) and to cut spending
by USD 660 million this year and another USD 1.5 billion next
year. Tax receipts fell due to a steep fall in fixed
investment this year of 15 percent, led by a virtual collapse
in construction activity. Pat McArdle, chief economist at
Ulster Bank, told us that there are 20-25,000 unsold housing
units on the market. The government is now forecasting
economic growth of 0.5 percent this year. However, the
forecast is for 2.25 percent growth in 2009 and then 4
percent in 2010.

...So Spending Cut
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3. (C) The government's spending cuts will come from several
sources. The government will, among other things, pare back
the public sector payroll by three percent (which may require
up to 5000 job losses),cut spending on health and education,
and cancel pay increases for Ministers, senior civil
servants, and judges. Robert Watt, Assistant Secretary at
the Ministry of Finance and former Managing Director of
Indecon (a leading economic think tank),said that the cuts
were aimed at coming in under the three percent budget
deficit limit as laid out in the EU's Stability and Growth
Pact. He said that absent further unexpected deterioration
in the economy, these cuts would achieve that goal.

Still, Challenges Remain
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4. (C) Irish government officials told us that the Irish
economy is fundamentally sound but that the pick-up in growth
after 2008 is not a sure thing. Kevin Cardiff, Second
Secretary General at the Department of Finance, said that
construction numbers are very disappointing and there doesn't
seem to be anything (e.g. consumer spending) that looks
capable of enabling the economy to bounce back in the short
term. He added that Prime Minister Brian Cowen remains
focused on containing public sector spending -- in particular
wage growth -- but gave the impression that this was very
much an uphill battle. Cardiff said that inflation is a bit
of a worry but not because of the headline rate. Rather, it
is eroding Irish competitiveness with its trading partners
and will impact exports.


5. (C) Watt said that the government is laying the groundwork
now for "sustainable growth" when the global economy picks
up. Government policymakers have agreed to maintain capital
investment expenditures, cutting only "non-essential"
projects. He admitted that the government's forecasts for
growth depended on a number of external assumptions, among
them: that the euro depreciates against the dollar and pound;
that the U.S. and European economies grow faster; and that
the oil price stabilizes or falls. He agreed that if some or
all of these did not occur, then the economy could be in for
a longer lull than expected.


6. (C) Watt noted that, while the banks are taking a beating
on the stock market, they have little exposure to sub-prime
loans and they are adequately capitalized to withstand a
downturn. A contact at the financial regulator confirmed
this view. However, market watchers here worry that some of
the bigger real-estate developers will go bust and negatively
impact the banks' balance sheets. One contact told us of a
developer who unsuccessfully tried to make his loan payments
in the form of unsold and vacant apartments.

Time for Creativity?

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7. (C) Nevertheless, Watt remains bullish long-term on the
Irish economy, especially if the government enacts the right
policies. He said that there is a mood "at the top of
government" that this crisis is an ideal time to be
"innovative" and tackle some big issues. For example, he
said that if the on-going Social Partnership talks do not
result in a deal, then "maybe it's time to find a new model."
(Note: the Social Partnership is the triennial agreement
between the government, employers, and the trade unions on
such issues as taxes and wage rates, among other things. The
intent of these deals is to make markets more predictable, to
generally limit industrial actions and wage growth, and to
settle on an agreed stance on taxes. End Note). He also
said that the government will "hold firm" on public sector
wages and will institute a hiring freeze.

Comment
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8. (C) Many Irish are asking, "What went wrong?", and some
complain that the signature outcome of the Celtic Tiger days
is increased prices on everything from houses to Guinness.
This, of course, is a vast oversimplification, but Watt
admitted that the government could have done more while the
coffers were full. The economy will undoubtedly recover.
But does the economy settle in at growth levels akin to those
of other mature OECD economies or can Ireland re-invent
itself again and sustain above-average GDP growth? The
answer to this question may depend on how bold the senior
government leadership chooses to be. A key first test will
be whether the government holds the line on public sector pay
and spending within the context of the Social Partnership
talks.
FOLEY