The Irish Central Bank has forecast that the outlook for the Irish economy is good, with gross domestic product set to grow by 5% in 2006, slightly above previous estimates. However, the bank also warned that the economy's dependence on the health of the property sector could be storing up problems for the future.
The forecast growth rate for 2006 is broadly similar to that of last year, when GNP and GDP increased by 5.4% and 4.7% respectively.
An increase in employment of 87,000, or 4.7% on average, accounted for almost all of economic growth last year, the Central Bank said in its Quarterly Bulletin. Productivity increased only marginally as the employment increase was concentrated in the labour-intensive construction and services sector, where productivity increases are traditionally relatively low.
However, while the economy is generally performing well, the bank noted that areas of concern remain. One related to cost competitiveness; productivity increases have been very limited and unit labour costs have increased "significantly" in the past two years. The average increase was about 4.5% a year, compared with an increase in the euro area of about only 1%.
"It is important that future pay developments protect competitiveness in the light of earlier losses and increased globalisation pressures," the bank warned.
The other major source of concern was the property sector. Looking at the sources of growth, the bank noted that the current level of activity in the house-building sub-sector of the construction sector is "beyond what is required over the medium-term", and suggested that some contraction will be required at some point. This could present adjustment problems if the contraction were to be quite rapid.
Regarding house price inflation, there was a large annual increase in February of 11.1%, a development that the bank considered "worrying" as it represents a significant re-acceleration from increases of 6% to 7% last autumn.
"While the Bank considers that the most likely scenario is that of a soft landing, nevertheless this re-acceleration increases the risk of a sharp correction in the future," the bulletin stated.
The increase in house prices coincided with some easing of credit conditions by mortgage lenders. The underlying year-to-year increase in mortgage lending has been running at close to 30% in the first two months of 2006.
"Combined with very strong increases in credit to the property sector in general, the economy’s already high dependence on the health of the broad property sector constitutes a significant risk," the bank cautioned.
The full text of the Irish Central Bank's Quarterly Economic Bulletin can be found in the Tax News Resources section.
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