Saturday 19 October 2019

Dan O'Brien: 'We're facing into a perfect storm over Brexit - and politicians must wake up to its devastating potential'

Paschal Donohoe forecasts Brexit will have modest effect on public finances. Photo: Gareth Chaney, Collins
Paschal Donohoe forecasts Brexit will have modest effect on public finances. Photo: Gareth Chaney, Collins
Dan O'Brien

Dan O'Brien

The Government is facing serious trouble. The conditions exist for a near perfect storm with Budget 2020, Brexit and the backstop. They are all coming closer together.

Start with Brexit and the demand that Britain signs up to the Northern Ireland backstop, designed to prevent any change to how the two jurisdictions on this island interact.

Until relatively recently, many smart and informed people thought it impossible that Britain would storm out of the EU without arrangements to smooth its exit.

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They held that view because the implications of crashing out in an uncontrolled manner are huge and, to a considerable extent, unknowable - such a rupture has never happened before. Why would any government take such a huge and avoidable risk?

This thinking underpinned the logic of putting the dramatic backstop gambit on the negotiating table in November 2017. Also important was the fundamentally weak position of Britain as one country against 27 in the exit negotiations with the EU.

These factors made Ireland and the rest of the EU calculate that Britain would have to swallow the backstop.

These calculations may ultimately prove correct. If they are, the next British prime minister, almost certainly Boris Johnson, won't eat his cake and still have it in the autumn. Instead, he will have to choke down a large slab of backstop humble pie. In that case, Britain will leave the EU on Halloween, but because it will enter a transition period of de facto continued membership, there will be little if any economic impact for anyone, including for this island.

In that scenario, Budget 2020, which will have been unveiled a few weeks earlier, will give yet another fillip to an economy that should still be growing strongly. The Government confirmed that on Tuesday with its Summer Economic Statement.

But the Government also knows that the assumption that no British government would risk a no-deal Brexit was wrong.

It is clear to even a casual observer of British politics that the backstop is the issue that brought down Theresa May and further radicalised pro-Brexit supporters.

For many of them, a no-deal Brexit is a 'clean break' from an entity they increasingly despise because they view it as attempting to humiliate Britain, among other things. The risk that the backstop would lead to this unhappy juncture has always been real, as this column has been pointing out since it was put on the table 19 months ago.

The time may come in the autumn when Ireland faces a choice between either keeping the backstop and having a disastrous no-deal exit, including a border on this island, or making a major concession on it.

If the gambit has obviously failed by then, it is clear where this island's interests would lie. But let's park that issue for the moment and look at what the Government is cooking up in the event that both sovereign governments on these islands commit giant acts of self-harm later in the year.

In last Tuesday's Summer Statement, the Government set out what it believes will happen to the public finances in a no-deal scenario. In short, the mandarins' figures show a deterioration in the budgetary position, but only a very modest one and certainly not one that would mean the public finances might run out of control.

Is this realistic?

Given that nothing like Brexit has happened before, it is impossible to be sure how the Irish economy and the public finances would be affected.

As such, the very benign outcome for Ireland set out on Tuesday cannot be ruled out entirely.

But a no-deal Brexit is much more likely to be a lot less benign for the public finances than the Government is now claiming. It would disrupt imports of goods - from food to fuel - that individuals consume every day and that businesses need to stay in business. It would damage the tourism sector, as the British pound would slump and make Ireland a more expensive destination to visit. The negative impact on the farming and food sector has been much discussed.

A crash-out Brexit would also generate uncertainty in Border areas and for companies selling into the EU market because the Government won't set out how it will fulfil its obligations to maintain the integrity of the EU single market.

Given all this, the very modest effect on the public finance foreseen in this week's Summer Economic Statement appears wholly unrealistic.

Another way of illustrating this is to consider what happened to the budgetary position the last time the Irish economy was hit by a modest deterioration in the external environment in a period when the domestic economy was doing well (as it is now). That happened in the early 2000s when a shallow international recession took place. That slump was not strong enough to cause a recession in Ireland. It merely caused the Irish economy to slow.

Yet despite this the government's budget position swung from a surplus of almost 5pc of GDP in 2000 to a deficit by 2002 (a 5.4 percentage point deterioration). Growth in government revenues in 2001 and 2002 fell to less than half the rate recorded in the previous few years. This shows just how sensitive Ireland's public finances can be even to mild shocks.

Now compare what happened then to the Government's latest projections for the most extreme budgetary scenario after a no-deal Brexit. Tuesday's figures suggest that a budget surplus of 0.2pc of GDP this year would turn to a deficit of 1pc by 2021. That is a swing of only 1.2 percentage points, far less than in 2000-02.

The Summer Statement correctly says that a no-deal Brexit would have "a severe impact on the Irish economy with output and employment adversely affected, especially in the short-term".

The notion that such an outcome would have such a small impact on the public finances, and one that was much smaller than the mild international downturn of 2000-02, is simply not credible.

Irish Independent

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