Economics Dan McLaughlinA striking feature of budgetary policy in the Republic is the scale of divergence between what the Government plans to raise in tax revenue and the actual outcome.
As a consequence, the overall fiscal position at year-end can often be very different from that envisaged at budget time. This complicates any conventional analysis of Irish fiscal policy, as a budget that starts out looking tight or contractionary can end up appearing anything but, or what is characterised as an expansionary or "give-away" package can look far less generous by the end of the year.
Last year, for example, the authorities planned to run a general Government deficit of €1.6 billion but ended the year with a surplus in excess of €1.3 billion, primarily due to an unplanned tax gain of €2.2 billion. The 2004 budget, therefore, ended up taking far more cash out of the economy than was originally envisaged.
That experience could well be repeated this year, judging by the Exchequer returns available for the end of March.
Tax receipts are already running well ahead of expectations, primarily due to the buoyancy of consumer spending, which has boosted VAT receipts. The property market has also performed more strongly than officials anticipated, swelling stamp duty.
The net result is that total tax receipts showed annual growth of 12.6 per cent in the first quarter, against a target rate of growth for the whole year of less than 5.5 per cent.
The implication is clear - unless there is a slowdown, revenue will exceed the Budget target yet again and possibly by another very large margin. Indeed, if receipts were to maintain the current rate of buoyancy, revenue would exceed the original 2005 projection by around €2.5 billion, transforming an anticipated general deficit of €1.2 billion into a surplus of €1.3 billion.
This calculation assumes that spending comes in broadly on target, which is a reasonable presumption given past evidence, and, if so, would provide enough extra revenue to cover the costs of any payments to those wrongly charged in nursing homes.
This inability to forecast tax receipts with any degree of accuracy reflects in part the uncertainties surrounding any forecast of Irish economic growth, as the economy is much more dependent on global activity than most.
There is also a natural tendency to err on the conservative side in making any tax revenue forecasts, even for a given GDP growth rate, on the grounds that it makes better headlines to come in ahead of target, regardless of how realistic that target was, than to come in behind it. Perhaps a more interesting question is what determines Irish fiscal policy anyway - is there any discernable pattern in the most recent budgets, as projected, or is the whole process merely random?
In theory, governments can use fiscal policy as an active demand management tool, running larger deficits in an economic downturn in an effort to stimulate activity, or running surpluses in a boom to dampen demand. In practice, the Government has tended to eschew this approach and, if anything, budgets tend to be pro-cyclical, at least when delivered. In good times, the minister is seen as having lots of cash to give back to taxpayers; in periods of weaker growth, the coffers are perceived as being empty, prompting expectations of a tight budget.
The only constraint in all of this is the Republic's membership of economic and monetary union, which involves adherence to the Growth and Stability Pact, thereby limiting fiscal deficits to 3 per cent of GDP, which would put a limit on the Government's generosity.
Looking at the most recent Irish budgets, it would appear that the Government has been adhering to its own version of the stability pact - one which is more restrictive than the pact dreamt up in Dublin in 1996.
The Minister for Finance announced planned deficits of around 1 per cent of GDP in each of the past three budgets, although the economic backdrop underwent a notable transformation. The rationale for this adherence to such an inflexible policy has never been clearly articulated but may relate to the observed large margin of error in budget forecasts.
Given the scale of any potential revenue undershoot or overshoot, the Government may have decided to aim for a 1 per cent deficit limit, as anything higher risks breaching the 3 per cent level if the economy proved weaker than anticipated - in other words there has been a built-in buffer.
If so, there is an interesting implication. The stability pact has recently been modified and the more liberal interpretation of the pact now proposed by the EU is widely seen as giving governments more flexibility to run larger deficits, particularly if the deficit is driven by capital spending, although the 3 per cent limit is still in place.
Some have argued that this could prompt a move to higher borrowing by the Government, given the perceived need to build up the transport infrastructure. This may not materialise, however, if the Government continues to adhere to its self-imposed 1 per cent rule.
Dr Dan McLaughlin is chief economist at Bank of Ireland
