Wednesday 28 September 2016

The miracle growth figures are just a balance sheet mirage - so beware

Jim Power

Published 13/07/2016 | 02:30

‘In my teaching of economics, one of the first areas I concentrate on is the inadequacy of GDP as a measure of anything, and its inherent shortcomings. This was highlighted clearly by yesterday’s extraordinary data release’
‘In my teaching of economics, one of the first areas I concentrate on is the inadequacy of GDP as a measure of anything, and its inherent shortcomings. This was highlighted clearly by yesterday’s extraordinary data release’

The Central Statistics Office (CSO) releases the Quarterly National Accounts at 11am, but provides a very useful embargoed briefing to journalists and economists 30 minutes earlier.

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It is always interesting to observe the initial reaction from those attending the briefing to gauge the level of surprise - or otherwise - with what is reported.

Normally the reaction is pretty muted, as Irish national accounts typically do not throw up too many surprises, but yesterday was a different story entirely.

There was a look of utter shock and confusion around the briefing room as attendees came to terms with growth of 26.3pc in gross domestic product (GDP) and 18.7 pc in gross national product (GNP) in 2015. Even by the standards of the growth rate in the late 1990s, the 2015 numbers are off the spectrum, and interestingly the CSO did not include the Irish growth rate in its international comparison slide.

The slide used showed that Malta recorded growth of more than 6pc, which in itself is incredibly strong, but would be totally muted by the inclusion of Ireland.

What are we to make of the 2015 growth data?

This is a good question that is not easy to answer. Personally, I would find it difficult to stand in front of an international audience and with a straight face suggest that Ireland expanded by more than 26pc last year.

The CSO is abiding by strict international reporting standards and is subject to regular audit. Hence the headline number it reported yesterday is in theory correct. However, the problem with a textbook example of a small open economy that has such a significant presence of foreign direct investment is that a few individual transactions can have a massive impact on the overall data.

That is pretty much what happened in 2015.

The fact is that last year, a number of corporate restructuring transactions occurred that involved, among other things, a number of companies moving intangible assets such as patents into Ireland, aircraft leasing companies moving their activities and the redomiciling of companies to Ireland.

Simply put, there was a significant reclassification of balance sheets, with the net effect that the stock of capital assets in Ireland increased dramatically last year, and those capital assets generate activity that became part of Ireland's GDP.

Presumably these transactions are once-off in nature and were heavily motivated by international tax considerations. It is probably true to say that 2015 saw a once-off step adjustment to Irish GDP, and presumably we will revert to more normal levels of activity henceforth. Indeed, in the first quarter of 2016, GDP expanded at an annual rate of 2.3pc, with consumer spending expanding by 5pc.

In assessing real economic conditions in Ireland last year, as distinct from balance sheet effects, it is utterly mad to suggest that it was an economy that expanded by over a quarter in size and became the 11th richest in the world. If we look at some real indicators of activity on the ground, we can describe an economy that people can relate to more easily than yesterday's grossly inflated numbers. The underlying story is that, in the year to December 2015, total employment in the economy increased by 2.3pc, consumer spending increased by 4.5pc and total tax revenues expanded by 10.5pc in 2015. These indicators describe an economy that experienced solid growth last year, but not the sort of real growth that official data are suggesting.

The upside from the 2015 data is that the fiscal parameters now look a lot better than previously reported. For example, the debt/GDP ratio ended 2015 under 80pc. For the EU statistical agency, this looks good. However, the downside from the Government's perspective is that it may give rise to significantly heightened expectations for future budgets and is somewhat of a nightmare for officials in the Department of Finance and the Department of Public Expenditure and Reform, who are justifiably wedded to prudent management of the public finances. While the fiscal space of €1bn recently projected for 2017 is probably done and dusted, the potential fiscal space in subsequent years could in theory be greater than previously projected.

Policy-makers need to be very careful not to get carried away with the scope created by yesterday's extraordinary growth numbers. To base future policy on taxation and Government expenditure on the size of GDP in 2015 would be naïve and dangerous in the extreme. Rather, they should focus on real economic indicators as a more accurate gauge of what is happening in the economy.

The other downside is that yesterday's data release has attracted strong international attention, with one commentator describing it as "leprechaun economics". Given the international attention that has been focused on Ireland in recent times in relation to the tax arrangements of multinationals operating in this country, the activities of such companies that have contributed to GDP growth of more than 26pc will obviously garner even more unwelcome attention. Talk about giving a dog a bad name.

In my teaching of economics, one of the first areas I concentrate on is the inadequacy of GDP as a measure of anything and the inherent shortcomings that it is afflicted with. This was highlighted clearly by yesterday's extraordinary data release.

Irish Independent

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