Hit enter to search or ESC to close

The Road to Budget 2021


Expert analysis from Seamus Coffey, Economist, and UCC Lecturer. This article has been written exclusively for IoD Ireland members.

In most years, Budget Day is a significant signpost for the direction the government of the day intends to take with its economic and industrial policy.  In the midst of a global pandemic Budget 2021, which is to be published on October 13th, will play a similar role but we should not lose sight of the changes that have already happened this year. 

In recent years, Budget Day has set out how an additional €3 billion to €4 billion of fiscal resources are to be used.  Around half of this goes to cover the cost of services that the State already provides such as pensions to the growing population aged 66 and over or public sector pay increases. 

Typically, there has been around €2 billion left for new initiatives which the government can use for tax cuts or spending increases.  In recent years this has been devoted to spending with resources provided for increases in government investment spending and covering overruns in the HSE. 

Budget 2021 will also likely plan for an additional €3-4 billion of normal government spending on the likes of pensions, pay and investment but we are obviously not in normal times.  One consequence of this is that already in 2020, we have seen measures introduced with a budgetary impact of something in the region of €10 billion.   

We are all keeping an eye on what will happen on Budget day in a few weeks but we have already had the equivalent of three of them this year.  The ability to do this and the impact of these measures should not be overlooked. 

Ireland has a terrible record when it comes to the budgetary response to economic shocks.  In part, this is because poor budgetary management was a contributory factor to the shock.  This meant that restoring order to the public finances became a policy target rather than being able to use budgetary policy as an instrument to support incomes and economic activity. 

Thus, we had the lost decade of recession and emigration in the 1980s following unnecessary fiscal expansion in the late 1970s and we had the period of austerity and cut-backs a decade ago when rapid spending increases of the early 2000s were built on the credit-fuelled construction bubble. In both instances the downturns were made significantly worse as the government withdrew financial resources from the economy. 

This time is different.  The public finances were in reasonably robust shape as we headed into the crisis.  Yes, debt levels remained elevated but on a day-to-day basis we were pretty much living within our means, even if these means might be temporarily boosted by elevated Corporation Tax receipts. 

This time as soon as the crisis hit the government pumped resources into the economy.  The oil crisis of 1973/74 is probably the last time an Irish government was able to apply counter-cyclical policy to a negative economic shock. 

Monetary policy has also played a role.  If for some reason COVID19 only impacted Ireland then it is unlikely we would have been able to undertake the fiscal expansion we have seen in the last six months.  This year Ireland will run a budget deficit in the order of €20 billion and next year might be half as large again. 

To run a deficit of that magnitude we need people to lend to us.  A similar deficit emerged in 2009 but no one would lend to us even when billions worth of austerity measures were introduced.  But this is a global pandemic so all governments are running huge deficits. 

In order to avoid a public health crisis leading to a sovereign debt crisis central banks around the world have loosened monetary policy.  For the euro area, the ECB has kept downward pressure on interest rates and expanded its asset buying programmes to keep liquidity flowing through the financial markets that countries like Ireland want to borrow from. 

This support should not be considered permanent.  That the ECB has put ‘pandemic’ in the name of some its support measures highlights that they are short-term in nature.  As is always the case, caution should be exercised if permanent spending commitments are introduced on the basis of temporary resources. 

Thus far, though, most of the measures announced have been temporary and appropriate.  Billions of euro have been committed to wage subsidies, unemployment payments and the HSE response to the pandemic.  While there might be some quibbles at the edges, in the main, the budgetary response in Ireland to the crisis has been impressive. 

Back in March, the Pandemic Unemployment Payment was rolled out to hundreds of thousands of workers who lost their jobs in a matter of days. Yes, the €350 flat-rate payment was crude but the objective was to get money to people who needed it and a more nuanced approach would have delayed that.   

Not all of the measures announced get such a free pass.  The standard rate of VAT was reduced from 23 per cent to 21 per cent for six months from the start of September.  This reduction will lead to an increase in profits for businesses or a reduction in prices for customers.   

But the only businesses that can benefit are those that have revenues and those that have the highest revenues will benefit the most.  A VAT cut is of no use to a business that is closed or has no customers coming through the door.   

Where prices have fallen the beneficiaries will be customers who spend and again the biggest gains will go to those who spend the most.  Loose monetary policy might be facilitating expansionary fiscal policy but this does not seem like the best use of half a billion euro. 

Counter-cyclical fiscal policy can be used to support income and economic activity.  However, one of the reasons for the drop in economic activity is that businesses have been shuttered by government decree.  This means the emphasis has been on maintaining incomes, both of households and businesses. 

Such has been the scale of support for household income that, in aggregate terms at least, the crisis of 2020 may not be accompanied by a reduction in income for the household sector.  Most of the €20 billion deficit that the government will run will flow to the household sector. 

The government deficit will have an offsetting household surplus.  As a country we do not have problems of living beyond our means.  We are running a significant balance of payments surplus.  In the first half of 2020, household deposits increased by €10 billion.  Part of this is due to reduced spending and part is due to the income supports provided by the government.   

Irish households have €130 billion of debts, mainly mortgages.  On the other side households have around €155 billion of deposits.  This is a very different position to a decade ago.   

One thing we don’t have great insight on yet is the impact of the crisis on the incomes of the self-employed.  New systems mean that we can get almost real-time statistics from the Revenue Commissioners on what is happening in the PAYE sector.  But the self-employed have yet to file their tax returns for 2019 (and have been given an extra few weeks to do so).  

The evidence to date suggests that this is a crisis that high-income PAYE workers, such as those in the public sector and large companies including MNCs, have been insulated from, at least from an income perspective.  SME owners have been in the trenches and resources should be targeted in that direction.  

By and large, the government’s fiscal policy in Budget 2021 should follow the pattern set out in the announcements of the past six months.  Yes, care should be given to how schemes are designed but if they are temporary in nature, as they should be, then the effect of mistakes will be minimised. 

There is also a need to keep an eye on the long term.  Government capital spending should not be reduced and could perhaps be accelerated if some projects can be brought forward, as long as value for money suggests they should actually be undertaken. 

Finally, forecasts should not become targets.  Back in April, the government forecast a deficit this year of €24 billion.  Now, it looks like it could be around €20 billion.  One reason for this is the tax receipts have vastly outperformed the forecasts made early in the crisis.   

Tax revenues in the past five months have been €6 billion higher than forecast.  Income Tax has held up remarkably well and Corporation Tax continues to soar.  But how will they look when the self-employed file their 2020 tax returns next November or if the OECD can get agreement on changes to how MNCs are taxed? 

We have had a good fiscal response to the crisis with significant counter-cyclical support provided for incomes.  Further incomes and business supports are needed but if solid tax receipts mean we won’t run a deficit of €24 billion in 2020 we don’t need a slew of policies announced on Budget Day to reach it.  It is supposed to be Budget 2021 after all.