Wednesday 28 September 2016

After the year of the pay rise, will taxation changes now muddy the waters?

As the Central Bank prepares to review its mortgage deposit rules, a new survey gives us a snapshot of private sector activity on pay

Dr Daragh McGreal

Published 10/01/2016 | 02:30

'Of our respondents, 38pc of renters say they will seek a salary increase solely due to changes in their rent and 68pc of prospective homeowners will seek a salary increase solely due to the Central Bank deposit rules'
'Of our respondents, 38pc of renters say they will seek a salary increase solely due to changes in their rent and 68pc of prospective homeowners will seek a salary increase solely due to the Central Bank deposit rules'

Last year, Minister for Business and Employment Ged Nash declared that 2015 would be the year of the pay rise. And Abrivia Recruitment's 2016 Salary and Employment Trends Survey found that 76pc of companies surveyed did just that.

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This reflects a turning tide of sentiment amongst Irish firms, who remain cautiously optimistic about the coming years. Some may fear that as our economy remains fragile salary increases may harm competitiveness. But competitiveness will only be harmed if it is not met with increases in productivity. Nonetheless, 73pc of candidates and 89pc of companies expect salaries to increase in 2016.

In both cases, they are thinking solely about their own situation. They both assume no change in public policy.

As we know, January 1 marked a fall in income tax rates and USC rates. Such tax changes are effectively an indirect pay rise.

So what does this mean for direct pay rises?

By linking the survey findings and public policy, we see that there are two possibilities for 2016: either an employee will seek a salary increase despite taxation changes or an employee will not seek a salary increase due to the taxation changes.

We found that respondents overwhelmingly expected a salary increase in 2016 on top of any potential tax reductions.

The swing in disposable income between 2015 and 2016 would therefore be greater than it would be without the tax changes.

The risk here is if tax reductions plus salary increases hinder competitiveness. That would happen if an employee's improved productivity did not match his or her change in disposable income.

This is the danger of reducing income taxes in a growing economy in which salary increases can be absorbed. If that happens, then the Government will have swapped tax receipts for lower competitiveness. Hence the recent income tax changes are a gamble on the productivity of workers.

By contrast, if salary increases do not take place, perhaps because people are content with the indirect increase because of tax reductions, then the tax reductions become a subsidy to the private sector. In this case, tax reductions displace pay rises.

Right now, we cannot say which situation will materialise. The survey results provide a snapshot of private sector activity. When we measure this against public policy, we see a clear interdependence.

This is also the case in relation to the pressure on the rental and housing markets. The survey suggests that the rental market and the Central Bank mortgage deposit rules are pushing people to seek salary increases.

Of our respondents, 38pc of renters say they will seek a salary increase solely due to changes in their rent and 68pc of prospective homeowners will seek a salary increase solely due to the Central Bank deposit rules.

If the rental market causes salary pressure and if salary pressure hinders competitiveness, absent productivity gains, then the strained rental market could make us less competitive.

In December, public policy responded to this strained market with rent-certainty measures. The survey suggests these measures will reduce pressure on employers to provide pay rises. In this case, landlords are subsidising private companies by forgoing certain rent increases.

By contrast, the need to finance a larger deposit for home purchase, coupled with supply problems in the housing sector, will put pressure on employers to give pay rises. In both cases, public policy decisions not related to salaries may have causal effects on salary levels.

Policy needs to account for unforeseen consequences, which it hasn't done in these cases. On Friday, it was announced that the Central Bank would review its mortgage deposit rules: if they are reversed, this would reduce salary pressure into 2017.

Our survey also examined salaries and sentiment in the ICT sector, especially in light of 2013 legislation that made it easier to hire non-EU candidates. Then, Minister for Jobs, Enterprise and Innovation Richard Bruton announced that over the period 2013-2018 the Government hoped that 75pc of vacant ICT jobs would be filled by Irish candidates, while also acknowledging that there was a shortage of skilled graduates.

The shortage of qualified Irish candidates meant that hiring non-Irish applicants was a necessity and 81pc of our respondent companies did so in 2015. Hence the legislation has allowed Ireland's ICT sector to fill vacancies and grow.

The survey findings have proven invaluable in putting context to public policy decisions. 2016 promises to be an interesting year at this intersection.

Dr Daragh McGreal is economic consultant to Abrivia Recruitment

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