The Central Bank was criticised for not highlighting the risks facing the economy in the run-up to the crisis, and rightly so. Its risk reports now take a more realistic approach and the latest one highlights some key issues. Chief among these are that the main risks facing the economy are external – from the Greek crisis, weak EU growth, rising US interest rates and so on. That does not mean, however, that domestic policy does not need to be adjusted.
The report takes a balanced approach, saying that domestic factors could actually boost growth beyond expectations, but that external factors pose risks. To an extent this division only means so much in an economy so open to external forces. We are required, at least, to do what we can to safeguard against international risks. If domestic factors come through and actually boost activity, then so much the better.
We have seen, in recent days, how the uncertainty surrounding Greece is already having an impact. The cost of longer-term borrowing for the (Irish) Government, for example, has risen by more than one percentage point in recent weeks, albeit that it is still at historically low levels. The Greek situation has also upset financial markets and could damage confidence and growth. This all calls for caution in managing our national finances. The plans for spending and tax cuts in a pre-election budget need to be carefully considered. Trends in the months ahead will tell a lot, but experience has shown us just how quickly budget trends can change.
The report is also cautious on other areas; the banking sector is improving, but it still far from in full health; the insurance sector is struggling and in particular general insurance companies face rising claims; the commercial property market could be vulnerable if international investment moves elsewhere. There are always economic risks of course and recent trends have been encouraging. However the Greek situation shows how quickly risk can become reality. It is a powerful argument for caution in a highly indebted economy slowly emerging from a drastic crash.