The Government should resist any temptation to add to planned tax cuts or spending increases due to the risk of overheating in the economy, the OECD has warned.
The OECD’s intervention comes only weeks after the minority Fine Gael administration agreed a three-year political programme embracing dozens of uncosted spending promises alongside its pledge to abide by EU fiscal rules.
Although the new Government has already pledged to deepen tax cuts and boost spending, the OECD said policy should aim to make growth more sustainable and inclusive.
Gross domestic product growth was forecast to moderate to 5 per cent in 2016 from 7.8 per cent in 2015 and to moderate further in 2017 to 3.4 per cent.
“Fiscal policy is projected to be somewhat less contractionary than in past years, reflecting higher expenditures planned by the authorities, including a fiscal package of €1.5 billion for 2016.” the OECD said.
“Nevertheless, most of the improvement will reflect stronger output growth, which raises taxes and reduces certain spending. Given the vigorous expansion, the government should avoid more fiscal stimulus than currently planned in order to prevent overheating pressures.”
In a report today in which it found that Ireland’s economy faces “significant” risk, the Paris-based think-tank also said competitiveness could be eroded by a strengthening of wage growth which would spur inflation.
Observations
The OCED’s observations on Ireland came in global overview in which it said the world economy was slipping into a self-fulfilling “low-growth trap” where ultra-loose monetary policy risks doing more harm than good.
The think bank warned that the potential exit of Britain from the EU “would significantly affect” the Irish economy.
In its base case forecast, however, the OECD said Ireland’s economy was projected to continued its robust expansion in 2016 and 2017.
“Both exports and business investment, which surged due to temporary impetus by multinational enterprises, will moderate but remain solid.
“Activity in the domestic sector will remain firm and employment will grow steadily.Wage growth will be strong as the labour market tightens.
“Household consumption will be solid, supported by labour earnings growth and tax cuts.”
Still, the OECD said tightening capacity as growth proceeds would push up inflation. As the labour market tightened, wage growth was projected to strengthen.However, such developments carried risk.
“Wage growth may turn out to be much stronger than projected, lifting demand in the short run but fuelling further inflationary pressures and eroding competitiveness,” the OECD said.
“Fiscal policy may prove more expansionary than assumed, as there will be a temptation to spend the extra revenue that very high growth will bring. This would also fuel demand pressures.”
