Bank of Ireland Chief Economist forecasts growth rates of 6.5% p.a. for Irish economy

The Irish economy is in a period of transition, moving from the Tiger I period (1994-2000), when economic growth exceeded 9% per annum, to that of Tiger II, with potential growth of around 6.5% a year. The latter is three times the euro area potential growth rate, and double that of the US, so Ireland will continue to pull ahead of its European partners in terms of income per head, and pass out the States within the next five years.

The extraordinary growth rates of the Tiger I period was achieved through a combination of 3.7% annual productivity growth and employment growth of 5.5%. The former is in line with Irish experience since the 1960's, so what was new was the scale of job creation: Employment growth averaged around 70,000 per annum from 1994 to 2000, against labour force growth of 50,000 a year. The shortfall was made up from the large pool of unemployed- unemployment fell by 20,000 a year on average over the Tiger 1 period.

The economy is now at full employment, so that pool of unemployed workers is no longer available. Consequently, the economy's potential growth rate is now lower, at perhaps 6.5% per annum, made up of 3.7% productivity growth and 2.7% employment growth, with the flow of workers now constrained by the growth of the labour force.

Fortunately labour force growth in Ireland is remarkably high by international standards. Indeed, the overall Irish experience in terms of population growth is extraordinary for a developed economy-the population is growing by 1.6% per annum, or five times the EU norm, and the population is actually falling in virtually all of the new accession states.

From a labour force perspective this translates into a 55,000 annual increase over the next five years, underpinned by a strong natural rise, a further incremental increase in the participation rate, and immigration.

Immigration did not play a key role in Tiger I (migration only turned positive in 1996) but will feature more prominently in Tiger II, averaging 30,000 per annum. Moreover, a larger proportion of these workers will come from the new Accession States, which are not a competitive threat to Ireland, but rather provide a pool of potential workers. Unemployment in many of the states is very high, so the tight labour market in Ireland will continue to attract those seeking job opportunities.
This 6.5% potential growth rate is just that potential - but given a positive global backdrop demand is likely to grow sufficiently to absorb this supply. There is no reason for fiscal policy to be contractionary, the personal savings ratio is high and may decline when the SSIAs mature, and interest rates will be set in relation to requirements in France, Italy and Germany, implying they will not be high enough to seriously impact on Irish spending. As to FDI, it is as well to remember that if capital is taxed at 12.5% and labour at a marginal rate of 48%, one should not be surprised to end up with a lot of capital and a scarcity of labour, and the latter will be the main constraint on Irish growth in the Tiger II era.

Dr. Dan McLaughlin
Group Chief Economist, Bank of Ireland
4th October, 2004

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