Davy optimistic about expansion in first half
But risks including fast-rising interest rates may hinder recovery, warn analysts
Published 05/01/2010 | 05:00
THE economy should begin to grow again during the first six months of the year, but recent data has been "slightly disappointing", Davy Research has said in its first weekly outlook of 2010.
Having inched back towards growth, recent surveys of industry and services, such as yesterday's PMI survey of manufacturing managers, indicate that further progress has not yet been made, the analysts said.
"Core retail sales dipped below the April low in October, although industrial production in the multinational sector remains robust," the report said.
Most analysts do not expect the recession to end until the second half of the year, but Davy still expects the economy to bottom out by March or April.
It estimates that, by then, real national income (GNP) will be 16pc less than its peak in the first three months of 2008. Falling prices mean actual (nominal) GNP will drop by even more.
"It is worth making a point here: nominal variables matter greatly for credit growth and for tax revenue," Davy said.
"Nominal GNP is likely to fall due to price deflation in consumer goods, government service provision and investment in buildings, machinery and equipment."
Davy is looking to a fall in the level of household savings to compensate for deflation and add domestic growth to the economy.
"The savings ratio soared in the 18 months to mid-2009 as a consequence of rising unemployment, the desperate fiscal position and the loss of household wealth.
"But the ratio, at 12pc, has now reached a level not far behind the EU-27 average of 14.4pc and has probably overshot," Davy Research said.
It thinks the Irish savings ratio will be lower than the EU average because Ireland's young population should spend more than older ones in other states, while its spending behaviour is closer to the English-speaking world's pattern of high consumption and lower saving.
"We think an Irish savings ratio in between those of the UK/US and continental Europe is more natural than the present levels," the report said.
"We forecast that the savings ratio will inch about two percentage points lower in 2010-2011."
Davy outlined three risks to this more positive outlook: the banking crisis could deteriorate; the global recovery could slip; and interest rates could rise faster than expected.
"The ECB may decide to normalise rates more quickly than the two rate hikes of a quarter percentage point, which we anticipate in the second half.
"Or it could be that Irish banks get the balancing act wrong by increasing their currently low margins on mortgages and business loans too quickly.
"If these risks are avoided, our base case is that disposable income will be expanding again -- albeit moderately -- by the time rates start rising in the second half, so households can cope," the analysts said.