Economic Eye. Uncertainty is certain. Winter forecast 2016

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1 Economic Eye Winter forecast 2016 Uncertainty is certain This latest EY Economic Eye winter forecast is published during what is arguably the most uncertain economic climate in decades. The UK decision to leave the European Union and the election of Donald Trump as US President pose many questions about the terms of trade under which the all island economy will operate and the extent to which inward investment will continue to flow. The outworking of this uncertainty is currently showing through a weakened sterling, which is already shifting the trade patterns in Northern Ireland (NI) and the Republic of Ireland (ROI). While current uncertainty has tempered optimism among forecasters, the island economy has shown significant resilience this year. All island growth of 3.7% is expected for A slowdown is expected over the coming three years, before picking up again, as uncertainty clears and trade deals firm up. Economic fortunes in NI and ROI are expected to diverge over the forecast. ROI s labour market is expected to continue growing while a decline in NI is projected. In ROI, agriculture and manufacturing are expected to shed a combined 15,000 jobs but strong growth across the rest of the sectors delivers over 100,000 net new jobs by 2020 in ROI. The forecast for NI takes a hard Brexit view and factors in a decline in consumer spending in Ongoing public spending constraints also impact on the NI labour market prospects. As such, the forecast suggests a decline in employment of c.6,000 by Bright spots in the NI forecast include administrative support and ICT jobs. Combined these sectors are forecast to add 4,000 jobs. The events of 2016 will resonate in economic discourse for many years. As we head into 2017, several key economic issues will come into focus will inflation lead to a shift in consumer sentiment and spending? Will pay restraint, particularly in the public sector, last or will industrial action increase? How will Sterling hold up as Brexit nears? What will inward investment and business sentiment do? Uncertainty looks set to continue.

2 Economic headlines 1 Economic headlines A look back over the events of 2016 will undoubtedly focus on the various surprise election results that few would have expected 12 months ago. Despite the magnitude of the UK vote to leave the EU and the election of Donald Trump to US President, underlying data depicts an island that is recording job and output growth. Looking ahead, uncertainty creates great difficulty for economists and business alike, but the resilience of the island economy this year provides comfort. In all the surprises that 2016 brought, the 26% growth rate that the ROI recorded for 2015 (which drove an all island rate of 22.7%) was almost forgotten. While that growth rate was indeed remarkable, it has been broadly dismissed as being attributable to inversion deals. An accurate, or at least consistent and reliable measure of economic performance is crucial for several reasons, not least when it comes to how government budget policy reacts. Growth like this could prompt calls for a loosening of fiscal policy and investment. Conversely, if these figures suggested the economy was close to full capacity, policy should move to slow it down. While National Accounts figures present challenges for determining true economic performance, a range of other indicators such as labour market performance and consumption come into focus to identify trends. Shocks but no slumps Talk of ROI s exceptional growth rate was quickly surpassed by the shock and subsequent uncertainty generated by the UK vote to leave the EU and the US Presidential Elections. Both these events have had forecasters revising their views on economic prospects. There has been, and will continue to be much posturing around what sort of deal will emerge from the UK s Brexit negotiations. Positions that have emerged in the weeks and months since the UK vote to leave the EU have stark implications for both economies on the island. UK Prime Minister Theresa May prompted a sterling slump with a conference speech that set a course for a hard Brexit while Donald Tusk, President of the European Council spoke on record, stating his view that the only alternative to a hard Brexit is no Brexit. In recent times, there have been suggestions from the UK Secretary of State that as a consequence of leaving the EU, the UK may have to pay to access the single market. Adding to further uncertainty, the election of Donald Trump in the US is prompting concerns about how isolationist the new President will be and what this will mean for FDI. Accepting that significant uncertainty remains around these crucial issues, forecasts for economic growth have been tempered somewhat. We expect that 2016 will represent a high point for GVA growth in both jurisdictions between now and the end of the decade. In NI, we expect that a recession will be avoided but growth in 2017 is expected to be half a percent before climbing back to 1.2% in 2018 and 1.7% by the end of the decade. Average growth towards the end of the decade is forecast to be 1.3% per annum (See figure 2). Growth in ROI is expected to continue at a relatively strong rate, compared to NI and the UK, buoyed by consumer and investment buffering against a slower government sector. Between now and the end of the decade, growth in ROI is expected to average 2.7% per annum, almost 1.5 percentage points faster than NI (See figure 3). Figure 1 All-island GVA and employment performance (% annual growth) All-island performance (annual percentage change unless otherwise specified) GVA 0.1% -0.8% 0.9% 7.4% 22.7% 3.7% 2.0% 2.1% 2.5% 3.6% Employment -1.2% -1.1% 2.4% 1.8% 2.1% 1.9% 0.9% 0.6% 0.6% 1.2% Sources: Oxford Economics, ONS, CSO 2

3 Economic headlines Figure 2 NI GVA growth forecast ( 2013, billions and % annual growth) 37 3% 36 2% Total GVA ( 2013, billions) % 0% -1% -2% -3% -4% GVA growth (%) 31-5% % GVA growth (RHS) Total GVA (LHS) Sources: Oxford Economics, ONS Figure 3 ROI GVA growth forecast ( 2013, billions and % annual growth) % % Total GVA ( 2013, billions) % 15% 10% 5% 0% GVA growth (%) 50-5% % GVA growth (RHS) Total GVA (LHS) Sources: Oxford Economics, CSO 3

4 Economic headlines Employment While NI looks set to avoid an output recession, this will be of little comfort to the labour market. Having increased by close to 53,000 people in employment since arresting the downturn in 2012, the forecast suggests that job numbers will decline by 6,000 by Of course, much in the outlook depends on the outcome of Brexit negotiations, consumer confidence and government spending plans. These forecasts take a hard Brexit view which will mean trading under WTO rules initially while trade agreements are negotiated. The forecasts also take a view that business and consumer behaviour will move ahead of policy, so while Brexit may not trigger until 2019 impacts are considered to emerge prior to that. Figure 4 NI employment forecast 900 Total employment (000s) NI total employment Sources: Oxford Economics, CSO Consumer influence looms large The impact of consumer spending plays a significant role in the prospects for both jurisdictions. A small decline in consumer spending in NI is forecast for 2017 before registering growth again. Strong consumer spending has been driven in the last three years by low inflation and strong job creation but NI does not have high levels of discretionary income. In fact, Asda s income tracker suggests that, at just over 100 per week, NI has the lowest UK regional discretionary income levels. This does not leave a lot of scope for consumer spending resilience in the face of increasing inflation pressures. Over the forecast period, weaker sterling will mean higher import prices and an expectation that inflation (as measured by the Consumer Price Index, CPI) will breach its 2% target. This, coupled with reduced corporate confidence is expected to feed through to lower employment. Consumers in ROI are expected to power ahead with their spending, having emerged in 2014 from a downturn in consumer spending. Growth in consumer spending in ROI is expected to average 2.7% per annum over the forecast as low inflation, more people in employment and growth in disposable incomes of 3% per annum combine to propel spending. The risk to the forecasts for ROI is the extent to which recent flirting with deflation takes hold and prompts consumers to defer spending, or whether the strengthening of the Euro against Sterling boosts flows to NI for retail and leisure spending, to the detriment of retailers based in ROI. Although Brexit brings its own uncertainties to ROI, the labour market is expected to be sufficiently resilient to be able to buffer these. While the pace of growth over will be slower than the recovery phase, employment is forecast to continue growing and to close in on surpassing the previous peak employment levels of Figure 5 ROI employment forecast Total employment (millions) ROI total employment Sources: Oxford Economics, CSO 4

5 Economic headlines Figure 6 (a) NI: CPI and consumer spending growth forecast (% annual growth) 5% 4% 3% 2% 1% 0% -1% % -3% -4% -5% CPI change Consumer spending growth Figure 6 (b) ROI: CPI and consumer spending growth forecast (% annual growth) 5% 4% 3% 2% 1% 0% -1% % -3% -4% -5% CPI change Consumer spending growth 5

6 Job recovery enters a new phase 2 Job recovery enters a new phase 2012 marked the moment when the all island labour market reached the bottom of the crises and began a strong recovery phase could mark the beginning of a new phase, with the pace of growth slowing across the island and some sectors facing a loss of jobs. Further, the forecast suggests a divergence, with ROI continuing on a growth path and NI losing employees. Sectorally, investment and export oriented sectors face the largest downside risks to their prospects. Agriculture is projected to lose 10,500 jobs by 2020, having gained close to 30,000 on an all island basis since A range of factors drive this forecast. An increased cost and burden of trading cross jurisdiction and continued volatility in currency could all lead to very tough challenges for the sector both in ROI and NI. Expected increasing EU supplies of beef and Sterling s weakness add further downside pressures on this forecast (See figure 7). Manufacturing is also expected to shed jobs across the island over the period as global uncertainties and a recent softening of manufacturer sentiment crystallise. The sector is forecast to lose close to 10,000 jobs across the island, reversing a third of the gains made since The manufacturing losses are broadly comparable in ROI and NI (See figure 8). In public service sectors, there are contrasting sector fortunes between NI and ROI. ROI has come through its austerity and is now in a position to invest in public services whereas the NI budgets remain constrained by UK government efforts to clear the deficit. ROI s civil service is expected to maintain its current size while health and education employment is projected to add over 14,000 jobs, as government spending growth averages 2.3% over In NI, the forecast suggests further decline in civil service numbers (down 4,500), continuing the trend from Public spending pressures in NI will manifest in falling employment in education and health employment. There are some notable bright spots in the employment forecasts. Retail employment in ROI is expected to gather significant pace with an additional 24,000 jobs, having recorded less than half of this (11,500) in the first recovery phase. Information and communications are also expected to gain a further 10,700 jobs in ROI and close to 1,000 more jobs in NI. Notably, the sector is expected to gather significant pace in ROI while growth slows in NI. 6

7 Job recovery enters a new phase Figure 7 All-island agriculture and manufacturing growth forecast (jobs, 000s) Agri employment (000s) Agriculture employment Manufacturing employment (000s) Manufacturing employment Source: Oxford Economics Figure 8 ROI employment change Employment Change Agriculture Mining & quarrying Manufacturing Electricity, gas & water Construction Wholesale & retail Accommodation & food Transport & storage Information & communication Financial & insurance Real estate Professional services Administrative & support Public administration & defence Education Health & social work Arts & entertainment Other services Total NI employment change Employment Change Agriculture Mining & quarrying Manufacturing Electricity, gas & water Construction Wholesale & retail Accommodation & food Transport & storage Information & communication Financial & insurance Real estate Professional services Administrative & support Public administration & defence Education Health & social work Arts & entertainment Other services Total Source: Oxford Economics 7

8 Election fatigue, but business positivity? 3 Election fatigue, but business positivity? Ireland, both in NI and ROI, has come through a long domestic election cycle. We began with local and European parliament elections in 2014, a UK Westminster election in 2015, then through to this year with the ROI general election and the NI Assembly election. Elections can prompt periods of uncertainty and stop go economics but while the dust settled on those national legislature elections in a relatively orderly fashion, the year s two other democratic decisions in the UK and US have delivered the greatest economic and business uncertainty in many of our lifetimes. Global economic performance and upcoming elections across Europe will undoubtedly have a bearing on our economic outlook but in terms of both trade and investment, the immediate focus is on the effects of both Brexit and Trump. Both these developments will require our businesses to remain watchful and agile, as more clarity on the implications (eventually) emerge. The future terms of trade and migration/ border controls are particularly significant issues for the island economy. Without downplaying the importance of these issues, is there a case to be made for how NI and ROI could ultimately be net beneficiaries from both scenarios. Brexit Advantage Ireland? In competing for mobile international investment, both economies make a compelling case to potential investors on skills and cost effectiveness. Having spent well over a decade addressing one of the last remaining differences between the two jurisdictions (corporate tax), NI now finds a new fault line opening access to the single European market. With one part of the island firmly within the EU and the other part set to leave, how might trade and investment flows fare? ROI English-speaking EU base: When the UK leaves the EU, ROI will be the only English speaking country in the EU, positioning it as an even more compelling base for North American firms seeking an EU base. Investment opportunity: There is an obvious investment opportunity to come from companies that may consider relocating existing UK operations to ROI. NI Bridging the divide: There is potential for NI to take on a new strategic importance as the only part of the UK with a land border to the EU. Depending on the terms of the future EU/UK trade relationship, a Northern Ireland location could be a convenient bridge for UK or ROI based companies to straddle the other market. Trade deals: A central selling point for Brexit supporters was the ability to make bilateral deals with some of the largest and emerging markets outside of the EU. It is also easier to agree a deal as a single entity than as a bloc, so NI s trade access to the rest of the world could be accelerated by Brexit. At the same time, a deal will be agreed with the EU, which could maintain some form of easy access to this market. Regulation: Some firms believe that the reduction in regulation that comes with Brexit provides a competitive advantage to the UK, including NI. With language emanating from the UK about a bonfire of red tape, ease of doing business could become a much stronger selling point to potential investors. State aid freedom: EU law dictates how financial incentives can be distributed. This has meant that the most recent EU accession countries tend to have the greater access to incentives for attracting investors. While parts of NI already have relatively higher incentives than much of the UK, greater freedom to dictate incentives will allow a strategic targeting of key opportunities. 8

9 Election fatigue, but business positivity? Trump pragmatism How a Trump Presidency will play out for Irish trade and investment is difficult to pin down. In a campaign of unprecedented rhetoric, the President-elect suggested he would cut US corporation tax to 15%, may withdraw from the World Trade Organisation, and introduce taxes on companies that move manufacturing from the US. Given the existing scale of investment and trade relationships between US firms and Ireland, the impact of any of these policies could affect Ireland. However the notion of bringing jobs back home, has long been a staple of US political discourse. Furthermore, in the weeks since the election, we have already seen hints that some of Trump s campaign statements are softening. We suggest two scenarios for all island GDP under a Trump Presidency. On balance, the downside risks from a Trump presidency that weighs down global growth are greater than any potential upturn from a surging US economy. No respite The full outcome of recent elections will not be seen for at least another months. Nevertheless, we cannot deny the consequences of these two votes may create significant challenges for Ireland. Not least is the weakening of the pound and dollar - we have already observed heavy consequences for Irish exports and cross-border shopping patterns. A pause for breath would be most welcome but we now face into a series of elections in Europe that could have deeper significance again. But in 12 months time, after the outcome of various European elections, the Euro may itself have weakened and started to offset these effects. By then, the European political and economic landscape could be vastly different. As this uncertainty persists, businesses leaders must do what comes naturally find opportunity and close the deals. Figure 9 All island GDP growth scenarios (% annual growth) 3.3% 3.1% GDP (% annual growth) 2.9% 2.7% 2.5% 2.3% 2.1% 1.9% 1.7% 1.5% US growth surges on Trump stimulus Baseline Trump presidency weighs on global growth Sources: Oxford Economics 9

10 What to watch for in What to watch for in 2017 The events of 2016 will cast a long shadow into future economic performance. Some key issues to watch for in the coming year include: Inflation: ROI has flirted with deflation over the past 2 years. The extent to which this might take hold and impact on consumer confidence is important to monitor. Meanwhile, inflation in NI is expected to pick up and surpass the Bank of England target of 2%. Wage pressures: Pay restraint has been a strong feature of the job market both in NI and ROI. With ROI seemingly through the austerity programme, and NI facing higher inflation levels, calls for greater pay increases, particularly in the public sector, are likely. Currency fluctuations: The decline in Sterling has already led to an increase in cross-border shopping from ROI to NI. Sterling is in a period of flux and susceptible to further swings as Brexit negotiations begin and the terms firm up. European elections: There are a series of elections set to take place across Europe in The outcome of these will point towards the future direction of EU socio economic policy Investment levels and investment flows: 2017 can only bring greater clarity on Brexit. As negotiations begin in earnest, how business sentiment and FDI flows react will have a significant bearing on economic performance. Will businesses delay decisions and spend 2017 in a wait and see phase? Consumer spending sentiment: Consumers have been remarkably resilient in Some recent indicators, such as ROI consumer sentiment and NI car sales data suggest consumers are taking a more cautious view into Trump s early choices: By Spring 2017, President Trump will be completing his first 100 days in office. By then, the tone of the Presidency and economic implications should be clearer. 10

11 EY Economic Eye Winter 2016 The EY Economic Eye forecasts are directly linked, subject to timing consistency, to the EY Eurozone forecasts and the EY UK ITEM Club forecasts. For the EY Economic Eye Winter 2016, ROI forecasts are based on an update of the EY Autumn 2016 forecasts, incorporating latest data and recent developments. The NI forecasts are based on the EY UK ITEM Club Autumn 2016 forecasts. This report is part of EY Economics for Business which provides knowledge, analysis and insight to help business leaders understand the economic environments in which they operate. ROI = Republic of Ireland NI = Northern Ireland UK = United Kingdom Island = island of Ireland

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