Fiscal watchdog warns Government against ‘loose budgetary policy’

By Cillian Sherlock, PA

The Government needs to show restraint in the Budget to keep the economy and public finances on track, its fiscal watchdog has warned.

The Fiscal Advisory Council has raised particular concerns over repeated breaches of the Government’s own spending rules, overruns in health, and highly concentrated tax receipts.

The council’s assessment was that current policy was “not appropriate” for prudent economic and budgetary management.

It followed an assessment of the Government’s medium-term plans as set out in April’s Stability Programme Update (SPU).

Overall, the economy remained in a strong position with an extremely tight job market featuring record-low unemployment.

But, given that the economy was operating at full capacity and infrastructure had become stretched, the council cautioned that loose budgetary policy would add to price pressures and could cause the economy to overheat.

The council said that the Government was set to repeatedly breach its own spending rule, with net spending to increase by more than the five over cent limit this year and next year.

 

It also widely differed with the Government on the extent of the breach of the rule.

Since the rule was introduced in 2021, the council said breaches added up to €8.5 billion (9.7 per cent) by 2024.

The watchdog’s assessment of the extent of the breach was larger than that shown in the SPU because it had taken into account “likely spending overruns and fiscal gimmickry” employed by the Government.

The SPU spending forecasts include €4.5 billion, mainly reflecting ongoing Covid-19 spend and humanitarian assistance for refugees.

But the council said that because this spending was likely to be long-lasting, it should be included in core spending.

 

It said to do otherwise was a form of undesirable “fiscal gimmickry” that weakened transparency.

It further defended the use of the term, saying it was a widely used technical phrase for accounting techniques designed to flatter numbers and present spending more favourably than it actually was.

The council also included likely health overspends and other investments not included by Government.

The spending rule is designed to tie expenditure growth to the estimated sustainable nominal growth rate of the economy at 5% per year.

It allows for spending to increase by more than five per cent each year if tax-raising measures are introduced.

If followed, the spending rule is designed to help avoid the boom-bust budgetary policies of the past.

 

Government ministers dismiss the long-standing complaint from the council by pointing to increased levels of inflation and cost-of-living pressures since the rule was first introduced.

But the council has rejected this explanation outright by emphasising that the Government should not be adding constraints to the economy.

Michael McMahon, the council’s acting chairman, said: “Within the net national spending rule, there is still the scope to provide significant amounts of support for those most in need at times when there’s a cost-of-living crisis.

“But if you take the principle that any increases in inflation are a free ticket to continue to increase spending, you will be increasing spending by large amounts at a time when the economy is most constrained, likely propagating higher inflation.

“That goes against the principle of of counter-cyclical fiscal policy.

“If you choose that you want to increase spending because of higher costs then that is absolutely fine, but at the same time you can’t then also make all the adjustments on the tax system.”

He added: “When inflation is running highest, (the rule) constrains the government to make those net spending choices more carefully.

“The counterbalance of that is in the years when inflation is running at or below the target, the government has more space to increase spending.”

 

The council, which finds that the Government’s forecasting is generally poor, predicts that a health spending overrun of €1.6 billion for the year is likely.

It said that health spending overruns had not been reflected in budgetary forecasts, despite spending in the sector being well over budget early in the year.

It added: “Overruns in spending are occurring earlier than normal and at a higher level. These overruns are unsurprising as poor budgeting persists.”

The council was also concerned about the risk of a sudden reversal in areas where Government revenue was highly concentrated.

Corporation tax receipts were concentrated among a small number of large foreign-owned multinationals.

It estimated that some three firms accounted for 43 per cent of corporation tax revenues in 2022.

In addition, income tax was also highly concentrated with a small number of highly-paid employees paying much of all income tax.

A downturn in a small number of sectors would impact on income tax as well as corporation tax.

 

Mr McMahon said: “The Irish economy is performing well and is operating at or above capacity. As a result, this is not the time for loose budgetary policy.

“Choices need to be made. Doing ‘everything now’ – tax cuts, current spending increases and ramping up capital spending – could overheat the economy and add to price pressures.

“By not making these choices, the Government is planning on breaching the national spending rule this year and next year.”

The council also said the Government could be more ambitious in saving into the long-term Future Ireland fund to offset the inevitable costs of an ageing population and climate change challenges.

It said just over half of windfall corporation tax receipts were currently being saved into long-term funds.