Global Markets Ireland Overview 11 April 2011 TREASURY SPECIALISTS PRODUCTS RESEARCH DEVELOPED FOR YOU the treasury specialists
Produced by the Bank of Ireland Economic Research Unit.
Contents SECTION ONE Ireland by numbers 2 SECTION TWO Irish economy - recession may be coming to an end 4 2a Prospective recovery modest in nature 5 2b External sector key driver of recovery 6 2c Domestic economy still weak 8 2d Competitive features of Irish economy 11 2e Special feature: Will austerity measures stifle domestic demand? 12 SECTION THREE Government finances - exchequer deficit on target but banking support costly 14 3a Underlying Government finances on track, cost of State support to banking sector significant 15 3b Fiscal and banking sector restructuring 16 (i) National Recovery Plan 2011-2014 16 (ii) Future banking landscape 17 1
2 section one Ireland by numbers
1. Irish economy by numbers GDP overview Irish recession may be ending (annual volume change) 2009 2010 2011(f) GDP -7.6% -1.0% 0.5%* - Q1 (q-o-q) - Q2 (q-o-q) - Q3 (q-o-q) - Q4 (q-o-q) 1.7% -1.1% 0.6% -1.6% Consensus forecast 0.5% Irish Government forecast 1.7% GNP -10.7% -2.1% 1.2%* * Bank of Ireland ERU External sector key catalyst for growth 2009 2010 2011(f) Annual export volume (bn) 144.8 157.2 171.0 Real export growth (annual volume change) -4.1% 9.4% 8.8% Annual import volume (bn) 120.4 128.6 140.0 Real import growth (annual volume change) -9.7% 6.6% 7.5% Total exports/imports as a % of GDP 166% 187% 200% Merchandise/services export split 54.4%/45.6% 53.6%/46.4% 53.4%/46.6% EUR/GBP average for year 0.89 0.86 0.84 Competitiveness Irish unit labour costs (annual volume change) -0.6% -5.6% -1.3% Balance of Payments (m) -4,853-1,113 1,000 Government finances underlying finances on track, banking sector support significant 2009 2010 2011(f) General Government Balance (% of GDP) -14.6% -32.6% -9.4% Underlying Government Balance (% of GDP) -12.1% -11.6% -9.4% Exchequer Balance (m) -24,641-18,745-17,670 Exchequer Balance (% of GDP) -15.4% -12.2% Tax take (m) 33,043 31,753 34,900 % change in tax take (annual volume change) -19.0% -3.9% 9.9% Pubic spending (m) 59,985 54,984 General Government Debt (% of GDP) 65.6% 96.3% 107% Consumption/investment - domestic economy lagging 2009 2010 2011(f) Personal consumption (annual volume change) -7.0% -1.2% -2.0% Retail sales (annual volume change) -14.0% 1.0% -1.0% Total investment (annual volume change) - Buildings and construction (annual volume change) - Machinery and equipment (annual volume change) -31.0% -34.9% -19.3% -27.8% -33.1% -15.3% House completions (number of housing units) 26,420 15,000 13,000-12.3% -13.5% -10.0% Labour market unemployment may have peaked in late 2010 2009 2010 2011(f) Total labour force (000s) 2,187.3 2,139.5 2,125 Total employment (000s) 1,928.6 1,847.9 1,820 Total employment (annual change %) -8.2% -4.2% -1.5% Unemployment (% of labour force) 11.8% 13.6% 14.4% Inflation external upward pressures 2009 2010 2011(f) CPI (annual average change) -4.5% -1.0% 3.0% HICP (annual average change) -1.7% -1.6% 2.0% Source: CSO, Irish Department of Finance, EU Commission and Bloomberg. Forecasts by Bank of Ireland ERU and Reuters Consensus. 3
4 section two Irish economy - recession may be coming to an end
2a. Prospective recovery modest in nature In Q4 2010, GNP rose by 2.0%. The overall result for Q4 was disappointing however, with GDP down 1.6%. The surprisingly weak fourth quarter outturn meant GDP and GNP for the year were negative. Following economic growth in Q1 & Q3, a further expansion of the economy was expected for the final quarter of 2010. However, Q4 growth was -1.6% after a surprisingly weak exports performance. This result contradicts the general strong upward trend in exports and we would be hopeful that this is a one off and strong export growth will return in Q1 2011 GDP registered a -1.0% contraction in 2010, marking the third straight year of negative growth. However, 2010 represents a marked improvement on the 7.6% contraction recorded in 2009 The public do not perceive the economic situation as improving however, partly due to the modest nature of the recovery, which has not been strong enough to generate employment growth, and partly due to the composition of the upturn With the exception of Q4 2010, the upturn in Irish GDP has been entirely driven by the external sector with domestic demand remaining weak We expect the Irish economy to grow by 0.5% in 2011, supported by another strong performance from the export sector and a pick up in inventories. These factors should offset another fall in domestic spending (albeit a much smaller decline than previous years) Economy in period of uneven growth 3 2.5 2 1.5 1 0.5 0-0.5-1 -1.5-2 -2.5-3 -3.5-4 -4.5-5 Q1 08 Q2 08 Q3 08 Q4 08 Q1 09 Q2 09 Q3 09 Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 Graph shows: Irish GDP growth quarter-on-quarter Source: CSO Irish economy forecasts % 2009 2010 2011(f) Personal Consumption -7.0-1.2-2.0 Government Consumption -4.4-2.2-2.0 Capital Formation -31.0-27.8-12.3 Exports -4.1 9.4 8.8 Imports -9.7 6.6 7.6 GDP -7.6-1.0 0.5 GNP -10.7-2.1 1.2 Source: CSO, Forecasts Bank of Ireland ERU Irish GDP (q-o-q%) 5
2b. External sector key driver of recovery The external sector has been the key factor contributing to recovery to date, and exports look set to again provide the main positive contribution to GDP in 2011. Exports were widely expected to drive an upturn in the Irish economy but the pace of growth has surprised to the upside, albeit with a weaker performance in Q4 Exports the key driver of recovery 15 12 9 6 3 Despite the Q4 result, the pace of export growth in the previous quarters was sufficient to support an annual growth rate (volume terms) for Irish exports of over 10.6% in Q4 2010 0-3 -6 Q4 09 Q1 10 Q2 10 Q1 08 Q2 08 Q3 08 Q4 08 Q1 09 Q2 09 Q3 09 Q3 10 Q4 10 We expect that the weak performance in Q4 will not be replicated in the coming quarters, given the strength of global demand The growth trends in service exports and in high value add areas such as pharmaceuticals and chemicals highlight how the composition of Irish exports has shifted away from more traditional manufacturing areas Ireland has made substantial gains in competitiveness on the standard unit labour cost measure, and the weaker trend in the euro has also helped firms take advantage of the strength of global demand Graph shows: Export growth year-on-year (volume terms) Source: CSO Composition of Irish exports for 2010; services, chemicals and pharma of increased importance Chemicals and Pharmaceuticals (31.3%) Other Merchandise Exports (22.1%) Service Exports (46.6%) Graph shows: Merchandise and Service Exports adjusted for Balance of Payments terms Source: CSO Irish exports have performed exceptionally well, supported by; - strong growth in global demand - a weaker euro - substantial gains in Irish competitiveness Substantial gains in Irish Unit Labour Costs 6 5.5 5 4.5 4 3.5 3 2.5 2 1.5 1 0.5 0-0.5-1 -1.5-2 -2.5-3 -3.5-4 -4.5-5 -5.5-6 Ireland EU-27 2006 2007 2008 2009 2010 2011 2012 Graph shows: nominal unit labour cost, for Ireland & EU 27 countries, whole economy Source: EU Commission, Spring Forecasts 6
Our expectation is that the global economy will continue to grow, however there are risks to global growth which include increased geopolitical tensions, rising energy prices and tighter monetary policies Ireland has a strong mix of high value merchandise and service exports, which should prove resilient if global growth slows Weaker euro vs sterling supportive for indigenous Irish exports 1.0 0.95 0.9 Irish exports accounted for 96% of real GDP in 2010 (the import share was 78%) so a 1% swing in exports now effectively gives a 1% swing in GDP. This further highlights how the external sector has come to overshadow domestic demand in Ireland 0.85 0.8 Jan 09 Feb 09 Mar 09 Apr 09 May 09 Graph shows: Closing daily price of EUR/GBP Source: Bloomberg Jun 09 Jul 09 Aug 09 Sep 09 Oct 09 Nov 09 Dec 09 Jan 10 Feb 10 Mar 10 Apr 10 May 10 Jun 10 Jul 10 Aug 10 Sep 10 Oct 10 Nov 10 Dec 10 Jan 11 Feb 11 Mar 11 Apr 11 The shift away from domestic demand to external demand means that the economy is now in better balance than it has been for some time Global economy continues to grow 8 The rebalancing of the Irish economy is evident in the Balance of Payments data, which in Q4 2010 recorded a record quarterly surplus of 1.4bn and was the first time since 2003 that Ireland recorded two consecutive Balance of Payments surpluses The Balance of Payments data implies that the surpluses now being run by the household and corporate sectors are offsetting the public sector deficit, although it has required a long and very painful retrenchment to bring this about. We expect Ireland to record the first annual Balance of Payments surplus this year in over a decade 6 4 2 0-2 -4 World US UK -6 Q1 07 Q2 07 Q3 07 Q4 07 Q1 08 Q2 08 Q3 08 Q4 08 Q1 09 Q2 09 Q3 09 Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 Graph shows: real annual GDP growth Source: ERU, IMF, ONS, BEA Irish Balance of Payments record surplus in Q4 2010 5,000 4,000 3,000 2,000 1,000 0-1,000-2,000-3,000-4,000-5,000 Q4 09 Q1 10 Q2 10 Q1 08 Q2 08 Q3 08 Q4 08 Q1 09 Q2 09 Q3 09 Q3 10 Q4 10 Graph shows: Current Account Balance ( m) Source: Balance of Payments 7
2c. Domestic economy still weak Domestic demand is still declining, with on-going downward pressures on capital, government and consumer spending. Domestic demand in the Irish economy continues to fall, with a 0.5% drop in Q4 2010, however the fall was much smaller than in Q3. For the year as a whole, domestic demand fell by 6.7% Capital spending remains the main culprit for the fall in domestic demand, plunging 28% last year following a 31% decline in 2009. Capital spending fell by a more modest 2.3% in Q4, and as such, the large declines in this area may be easing However, building and construction is expected to decline further this year (despite some signs of stabilisation in housebuilding), given the fall in capital spending by the public sector. We are forecasting a 15% contraction in building and construction in 2011 Consequently, capital spending as a whole is forecast to fall again in 2011, by 12.3% Government spending fell by 2.2% last year and we expect a 2% decline in 2011 Personal consumption fell sharply in late 2008 and early 2009, and is still declining, albeit at a much slower pace. The value of consumer spending declined by 1.2% in 2010. It is difficult to envisage a pick up in consumer spending this year, particularly as household incomes are set to fall further. We are forecasting a further decline in consumer spending of 2.0% in 2011 Irish GDP component weighting GDP component 2008 2009 2010 Personal Consumption 53% 53% 53% Government Consumption 16% 17% 17% Investment 22% 17% 12% Exports 83% 87% 96% Imports -74% -74% -78% Graph shows: GDP component weighting in real terms Source: Bank of Ireland ERU Consumer spending still falling as domestic economy remains weak 1 0-1 -2-3 -4-5 -6 Graph shows: Personal Consumption growth quarter-on-quarter Source: CSO Inventory cycle must turn at some point 2,000 1,750 1,500 1,250 1,000 750 Q4 09 Q1 10 Q2 10 Q1 08 Q2 08 Q3 08 Q4 08 Q1 09 Q2 09 Q3 09 Q3 10 Q4 10 One potential bright point may be the inventory cycle. In the two years to the middle of 2010 we saw a steep and prolonged decline in stocks, which one would expect to come to a halt at some stage. This could further mitigate the decline in domestic demand to record positive GDP growth in 2011 500 250 0-250 -500-750 -1,000 Q1 07 Q2 07 Q3 07 Q4 07 Q1 08 Q2 08 Q3 08 Q4 08 Q1 09 Q2 09 Q3 09 Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 Graph shows: Value of physical changes in stocks, seasonally adjusted at constant prices Source: CSO Quarterly National Accounts 8
Unemployment probable peak Q4 2010 Sharp increase in Irish unemployment slowing The unemployment rate rose unexpectedly from 13.7% in Q3 to 14.7% in Q4 2010. Recent figures point to a probable peak of 14.8% in December and indicate the latest increase is due to the significant slowdown in the pace of labour force decline The labour market remains weak but the pace of job losses has slowed on an annual basis, with employment falling as a whole by 4.2% in 2010, following an 8.2% drop in 2009 Employment % change 6 4 2 0-2 -4-6 -8 Employment (% Change) Unemployment rate (rhs) 16 14 12 10 8 6 4 2 Unemployment % change While the demand for labour is no longer falling at a pronounced pace (the level of redundancies averaged 3,800 per month in Q4 2010, from over 7,000 per month in the first half of 2009) there is no clear indication that employment has stabilised The supply of labour fell sharply to Q3 2010 partly due to net emigration. However, the pace of that decline has slowed significantly in Q4 with the annual fall slowing to 1.5% from 2.4% in Q3-10 Irish labour supply falling 80 70 60 50 40 2001 2002 2003 2004 2005 2006 2007 2008 2009 Graph shows: Average annual unemployment rate as a % of total labour force Average annual % change in total persons employed Source: CSO 2010 2011(f) 0 Employment may continue to fall for the first half of 2011 and average earnings are likely to decline again, by 1% after a 2% fall last year 30 20 10 0-10 We expect employment to stabilise by mid 2011 but this still implies a further fall in the annual average, and the labour force is also likely to contract further -30-20 -40 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 Graph shows: Irish net migration (000s) Source: CSO 9
Annual Inflation in positive territory The annual inflation rate in Ireland, as measured by the CPI, turned positive in August 2010 after 18 months of deflation There is very little evidence of upward domestic price pressures emerging. However, there are significant upside risks to inflation emerging from the external environment The ECB has embarked on a tightening cycle and this will add significantly to Irish CPI inflation due to the weight of mortgage interest in the CPI basket of goods Furthermore, energy prices are rising due to geopolitical uncertainty and this will also add to inflation pressures. Food prices are also picking up globally of late Given the volatility of Irish CPI Inflation, largely due to mortgage costs, the average inflation rate for 2011 is estimated to be 3.0%. On an EU harmonised basis, which excludes mortgages costs, we forecast average inflation for Ireland of 2.0% in 2011, and as such below the expected euro average of 2.4% House prices still falling The Permanent tsb/esri Index had shown a pronounced deceleration in the pace of price decline - the 1.3% fall in Q3 2010 was the smallest in a quarter in three years however the decline accelerated again to 3.5% in Q4 The fall in residential rents may have bottomed. Private housing rents as measured by CPI rose by 1.3% in Q1 2011 The Government s 2011 Budget contained a fundamental reform of stamp duty designed to stimulate the Irish property market. The reform consists of a single 1% transaction tax on the vast majority of property purchases. The net result may be to give a boost to housing turnover Irish inflation - set to increase 2008 2009 2010 2011(f) Quarter 1 4.7-1.1-3.4 2.3 Quarter 2 4.7-4.5-1.4 3.4 Quarter 3 4.3-6.1 0.2 3.5 Quarter 4 2.5-5.8 0.9 4.1 Annual 4.1-4.5-1.0 3.0 HICP 3.1-1.7-1.6 2.0 Graph shows: annual % change in CPI on a quarterly basis + annual HICP % change Source: CSO, forecasts Bank of Ireland ERU House prices still falling Peak Change from peak Last Quarter Permanent tsb/esri Q4 06-38.3% -3.5% Q4 10 Daft.ie Feb 07-43.0% -3.1% Q1 11 Dept. of Environment Q2 07-27.6% 0.2% Q3 10 Private Rents (CSO) Apr 08-24.6% 1.3% Q1 11 Graph shows: % change in house prices Source: ESRI, Daft.ie, Department of Environment Heritage and Local Government, CSO ptsb/esri change in national average house price Daft.ie change in national average asking price Dept. Environ change in national average second hand house price Private rents, change in private rents in CPI index Private rents - may have bottomed 20.00 15.00 10.00 5.00 0.00-5.00-10.00-15.00-20.00-25.00 Affordability has improved substantially over the past two years, however economic uncertainty remains high and effective tax rates have risen. Therefore, latent demand may not materialise if buyers perceive that prices will fall further Jan 08 Feb 08 Mar 08 Apr 08 May 08 Jun 08 Jul 08 Aug 08 Sep 08 Oct 08 Graph shows: Annual % change in private rents on CPI index Source: CSO Nov 08 Dec 08 Jan 09 Feb 09 Mar 09 Aug 10 Jul 10 Jun 10 May 10 Apr 10 Mar 10 Feb 10 Jan 10 Dec 09 Nov 09 Oct 09 Sep 09 Aug 09 Jul 09 Jun 09 May 09 Apr 09 Sep 10 Oct 10 Nov 10 Jan 11 Dec 10 Feb 11 Mar 11 10
2d. Competitive features of Irish economy There are several key features of the Irish economy that should help underpin recovery and support sustainable growth over the medium term. Export-orientated economy with strong partnerships in key markets Knowledge and experience in key sectors: - Pharmaceuticals, chemicals, high-tech industries, business and financial services Ability to attract modern FDI - Almost 1000 multinational companies located in Ireland with Google, Intel, Pfizer and Facebook choosing Ireland as their European headquarters Irish population pyramid: a young population MALE 250 200 150 100 50 0 (000 s) 0 50 100 150 200 250 Graph shows: Irish population structure Source: CSO 2010 85 and over 80 84 75 79 70 74 65 69 60 64 55 59 50 54 45 49 40 44 35 39 30 34 25 29 20 24 15 19 10 14 5 9 0 4 FEMALE Ireland committed to low corporate tax regime Pro-business environment Young population demographic compared to other European countries, one in three under 25 Well-educated flexible workforce, highest proportion of graduates amongst 25-34 age Irish unit labour costs expected to decrease relative to the Euro Area average in 2011 Irish corporate tax rate lowest in OECD United States France Germany Spain United Kingdom Italy Greece Czech Republic Hungary Poland Slovak Republic Ireland 0% 5% 10% 15% 20% 25% 30% 35% 40% Graph shows the percentage of combined corporate income tax rate Source: OECD, 2009 11
2e. Special feature: Will austerity measures stifle domestic demand? Domestic demand in Ireland is expected to remain weak over the next number of years. This subdued picture is in part due to the austerity measures being implemented by the Irish Government that are expected to continue to hit both consumer and Government spending. There are a number of factors, however, that make it difficult to determine precisely the possible incremental impact of the austerity measures, namely; Government austerity measures may be priced in : The previous Irish Government began cutting public spending in mid 2008 the 2011 Budget last December marked the fourth consecutive year of spending cuts. Furthermore, the 2011 spending cuts and indeed future austerity measures have been flagged for some time. In addition, we would expect that the majority of the adjustment on income tax is already implemented with further revenue generation to come from a broadening of the tax base. The Irish consumer, in expecting the cuts, may have already adjusted somewhat. Unemployment may be past peak: The unemployment rate in Ireland probably peaked in Q4 2010 and may begin to slowly drop back over the course of this year. While we do not envisage any significant employment growth, there are likely to be some positives if unemployment stops rising. Even a slight improvement in the employment situation may increase job security and boost consumer confidence. Savings ratio rise could be halted: A key uncertainty regarding the further possible impact of austerity measures is the future behaviour of the savings ratio. The savings ratio has risen sharply over the last three years - from c.3% to around 13% - driven by economic uncertainty, household deleveraging and the rise in unemployment. One theory highlights that consumer spending has been pared back so much that any future austerity measures will not result in comparable spending falls but will result in a lower level of savings. However, another theory indicates that while unemployment remains high and given the concern over availability of credit for consumers, households are unlikely to run down precautionary savings. Significant risks from external factors: Since the start of the year there has been an increase in the potential downside risks from the global environment. Firstly, geopolitical tensions in the Middle East have pushed up energy prices which is putting pressure on inflation Secondly, the ECB has raised rates and further increases seem likely. This will have a two fold effect: - it will reduce disposable income for mortgage holders and - it will have a significant upward impact on CPI inflation (due to the fact that the Irish measure of inflation includes mortgage interest costs) While increases in energy prices and mortgage interest rates could increase headline CPI inflation sharply, as unemployment remains elevated, there is likely to be little wage pressures. The net result could be a further significant reduction in disposable income Finally, with all potential Irish growth driven by external demand Ireland remain, at risk from a slowdown in growth in the global economy and/or in our key trading partners in the UK, US and Euro area Overall, it is clear that austerity measures have had and will continue to have an impact on domestic demand in Ireland. At this point, the precise future impact on consumer spending is difficult to quantify and will, to a large extent, depend on the pace and scope of overall economy recovery. On the whole, it remains clear that the domestic economy will lag the external sector in coming years. It is also clear, however, that while fiscal austerity measures are impacting the domestic economy, they are necessary to bring public finances back to a more sustainable footing. 12
Government fiscal consolidation 2008-2014 Timeline Consolidation type Savings (em) Total cumulative austerity savings (em) July 2008 Expenditure 1,000 1,000 October 2008 (Budget 2009) Revenue 2,000 3,000 February 2009 Expenditure 2,100 5,100 April 2009 (Supplementary Budget 2009) Revenue 3,600 8,700 Expenditure 1,800 10,500 December 2009 (Budget 2010) Expenditure 4,100 14,600 December 2010 (Budget 2011) Revenue 1,410 16,010 Expenditure 3,930 19,940 One off savings 660 20,600 Budget 2012 Revenue 1,500 22,100 Expenditure 2,100 24,200 Budget 2013 Revenue 1,100 25,300 Expenditure 2,000 27,300 Budget 2014 Revenue 1,100 28,400 Expenditure 2,000 30,400 Forecasts as in Budget 2011, subject to change by new administration Source: Irish Department of Finance 13
14 section three Government finances - exchequer deficit on target but banking support costly
3a. Underlying Government finances on track, cost of State support to banking sector significant The underlying fiscal position of the State stabilised in 2010 with the Exchequer deficit in line with target. However, State support for the banking sector proved significant and Ireland s General Government deficit as a percentage of GDP (EU s preferred measure) rose to 32%. The Exchequer deficit for 2010 was 18.7bn (11.9% of GDP) and was very close to matching the original Budget 2010 target Current revenue for 2010 was 1bn ahead of target. Corporation tax was much stronger than expected and alongside additional revenue from excise duty, offset a slight shortfall in income tax On the spending side, debt expenditure was lower than expected but this was offset by extra day-to-day spending, leaving total current spending only marginally behind target Irish Government Deficit as a % of GDP General Current Capital 2008-7.2-1.6-5.2 2009-14.3-6.9-8.1 2010-32.6* -8.3-3.6 2011-9.4-7.2-3.8 2012-7.3-5.2-3.6 2013-5.8-3 -3.3 2014-2.8-0.7-2.9 Excluding bank support measures in 09 and 10 reduces the GGD to 11.8% and 11.6% respectively Source: Department of Finance Budget 2011 Economic and Fiscal Outlook General based on general government debt standards, Current and Capital based on Exchequer standards (i.e. totals may not sum) Forecasts as in Budget 2011 *Revised due to Q4 National Accounts Taxes vs Spending - Fiscal consolidation underway However, despite the stabilisation of underlying public finances, the General Government deficit was much higher at 50.1bn (32% of GDP), reflecting the cost of capital support for Anglo Irish Bank and Irish Nationwide Building Society Market concerns about Irish systemic and banking issues compounded general fears about the debt position of peripheral European countries; on 28 November 2010, an agreement for the provision of a financial support package from the EU/IMF to Ireland was signed 25 20 15 10 5 0-5 -10-15 -20 Government Spending Tax Revenue While the final cost to the State of its support for the banking sector is not yet clear, underlying Government finances remain on track Tax revenue at the end of Q1 2011 was up by 3.7% yearon-year. The increase was mainly attributable to the tax raising package in Budget 2011. Corporation tax and Excise duties performed robustly in Q1 but income tax and VAT disappointed, leaving overall revenues down 1.8% from their targeted level at this stage of the year For 2011 as a whole, the previous Government outlined plans to reduce the General Government deficit to 9.4% of GDP and to 7.3% in 2012. While there are downside risks to the GDP growth rates outlined in Budget 2011, the new Government have indicated that they will stick to the fiscal adjustment programme for 2011 and 2012 (which forms a key part of the National Recovery Plan adopted as part of the EU/IMF package) -25 Q1 07 Q2 07 Q3 07 Q4 07 Q1 08 Q2 08 Q3 08 Q4 08 Q1 09 Q2 09 Q3 09 Q4 09 Q1 10 Q2 10 Q3 10 Q4 10 Q1 11 Graph shows: annual percentage change in tax revenues and current spending Source: Irish Department of Finance Government Deficit - set to decline 10 5 0-5 -10-15 -20-25 -30-35 -40 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 Graph shows: General Government Balance % of GDP The red line represents Stability & Growth Pact 3% deficit limit Source: Irish Department of Finance 15
3b. Fiscal and banking sector restructuring Ireland has already commenced a plan to put public sector finances back on a more sustainable footing. This National Recovery Plan is in line with commitments agreed as part of the EU/IMF support package. Furthermore, the process of restructuring the Irish banking sector has accelerated, with the completion of the recent Central Bank capital and liquidity stress tests. (i) National Recovery Plan 2011-2014 On 24 November 2010, the previous Government announced a four year National Recovery Plan designed to correct the budget deficit and return the country to sustainable growth. This plan is in line with the requirements of the Programme of Support agreed between Ireland, the EU, ECB and IMF A 15bn budgetary adjustment is required between 2011 and 2014 to bring the budget deficit back below 3% of GDP by 2014. 6bn (or 40%) of the total adjustment was implemented in the 2011 Budget Budget 2011 outlines that Ireland s gross debt position is expected to peak at 102.5% of GDP in 2013, however this is subject to upward revision The recently-elected Government stated they are committed to the overall targets set out in the National Recovery Plan. However, how these targets are to be met will be decided by the new administration The new Government is planning a job creation package within a number of months. Any new plan would likely focus on ways to reduce Government spending and increasing revenue by the broadening of the tax base The Government has also indicated they wish to renegotiate aspects of the EU/IMF plan, such as the interest paid for loans. While there has been much debate about what Ireland may have to conceded in order to achieve such a reduction, the Government remain firmly committed to maintaining the country s 12.5% rate of corporate tax In their Q1 Exchequer Returns release, the Department of Finance has confirmed that 17.8bn of funds from the Irish EU/IMF support package have been drawn down to date which equates to c.26% of the total funds available At the end of Q1 2011, Irish cash balances stood at 22.4bn. The balance of the National Pension Reserve Fund was 24.4bn as at end of 2010 - this fund is set to contribute c. 10bn to the overall support package I want to be clear, for the benefit of our people and of market participants, that we are committed to the EU/IMF programme. We have issues that we wish to raise and changes that we need to make in the context of ensuring growth and recovery in the Irish economy. But we will respect the overall fiscal parameters of the programme and where adjustments to the programme affect these, we will make appropriate offsetting adjustments. Michael Noonan, Minister for Finance 31 Mar 2011 16
(ii) Future banking landscape On 31 March 2011, the Irish Central Bank published the results of capital and liquidity stress tests undertaken in the Irish banks as part of the EU/IMF package. The Irish Government also published wide-ranging plans to restructure the Irish banking system Key highlights of the Prudential Capital Assessment Review (PCAR) and Prudential Liquidity Assessment Review (PLAR) include; - The 2011 PCAR and PLAR stress tests were carried out on Bank of Ireland, AIB, Irish Life & Permanent and EBS - The capital requirements set out are derived from 3 exercises An independent loan loss assessment exercise performed by BlackRock Solutions A stress test of the capital resources required to meet Central Bank Core Tier 1 requirements (10.5% in base case, 6% in stress case) Establishment of funding targets in order to delever the banking system and reduce reliance on short term funding (PLAR) - A total of 24bn (including 21bn in equity) is required by the four banks in order to remain above Central Bank Core Tier 1 ratios (see table below) Capital required 2011-2013 pre-buffer Additional capital buffer (equity) imposed by the Central Bank Additional capital buffer (contingent capital) imposed by the Central Bank Total capital required 2011-2013 AIB BOI EBS ILP Total 10.5 3.7 1.2 3.3 18.7 1.4 0.5 0.1 0.3 2.3 1.4 1.0 0.2 0.4 3.0 13.3 5.2 1.5 4.0 24.0 Key highlights of bank sector restructuring include; - The Irish banking system will be reduced in size with two Pillar banks - Bank of Ireland as the first pillar and the second being the combined entity of AIB and EBS. A restructured Irish Life & Permanent will also play a role in the Irish banking landscape - Each bank will divide its operations into core and non-core functions. Assets in the non-core functions will be run-down or sold over time in line with deleveraging plans agreed with the Central Bank - Each bank will have a target loan to deposit ratio of 122.5% to be achieved by end 2013 - The Minister for Finance indicated that the banks would reduce their non-core assets by the following amounts by 2013 Institution Asset reduction by 2013 ( bn) Bank of Ireland 30 AIB & EBS combined 23 Irish Life & Permanent 10 As part of the restructuring of the banking sector, the Irish Authorities confirmed that Europe will continue to demonstrate an extremely high level of commitment to the funding of the Irish banking system The continued availability of Eurosystem funding for the Irish banks prevents the need for a fire sale of assets The completion of the capital and liquidity stress tests, as well as the plan to restructure and delever the Irish banking stem are seen as important first steps to restoring confidence in the Irish banking system Source: The Financial Measures Programme, 31 March 2011 - Central Bank of Ireland 17
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Notes 20
Contact details Dr Dan McLaughlin Chief Economist +353 1 609 3326 dan.mclaughlin@boigm.com Maria McDonagh Head of Debt Investor Relations +353 1 799 3140 maria.mcdonagh@boigm.com Michael Crowley Senior Economist +353 1 609 3341 michael.crowley@boigm.com Joanne Guerin Debt Investor Relations +353 1 799 3140 joanne.guerin@boigm.com Patrick Mullane Economist +353 1 609 4613 patrick.mullane@boigm.com
STAMFORD LONDON BELFAST DUBLIN 300 First Stamford Place, Stamford CT 06902, USA Bow Bells House, 1 Bread Street, London EC4P 4BF, UK 1 Donegall Square South, Belfast BT1 5LR, UK Colvill House, Talbot Street, Dublin 1, Ireland +1 203 391 5555 +44 (0)207 429 9199 +44 (0)289 032 2778 +353 (0)1 799 3000 DOC164 Apr2011