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Eighth Review Under the Extended Arrangement—Supplementary Information

Author(s):
International Monetary Fund. European Dept.
Published Date:
December 2012
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1. This supplement provides an update on economic and policy developments since the issuance of the staff report on December 3, 2012 (EBS/12/157). Budget 2013 was submitted to Parliament on December 5 and includes a €3.5 billion consolidation for 2013, meeting the prior action for this review.

2. Fiscal performance weakened in November, but the 2012 fiscal targets are not at risk. The cumulative exchequer primary balance (excluding some 2011 corporation tax proceeds received in 2012) through end-November 2012 was -5.5 percent of GDP, 0.1 percent of GDP under the authorities’ profile, but 1.4 percent of GDP higher than the balance obtaining over the same period last year. Tax revenues (including Pay Related Social Insurance (PRSI)) disappointed in November, the largest revenue month of the year, with a large underperformance in income tax returns by the self-employed outweighing continued VAT over performance. Even after incorporating the 0.2 percent of GDP in higher proceeds from the recent telecom license sale, aggregate revenues are now about ¼ percent of GDP lower than expected during the review mission, although December revenues could narrow this shortfall.1 The current expenditure over-runs, led by health and social protection, have stabilized at 0.2 percent of GDP, and continue to be offset by capital underspends. Given that the performance criteria are adjusted for revenue deviations from projections to protect against cyclical factors, the end-December 2012 targets are not at risk. The 2012 general government balance target of 8.6 percent of GDP for 2012 should also be achieved by a margin of at least ¼ percent of GDP.

Cumulative Exchequer Out-Turn Vs. Authorities’ Profile - January – November 2012

Sources: Department of Finance; and IMF staff estimates.

PS: To facilitate comparability, (i) the €251 million corporation tax payment delayed from December 2011 into January 2012 is excluded from both the 2012 tax profile and outturn; (ii) the €553 million in interest payments met in Jan-Nov 2011 via drawdown of the Capital Services Redemption Account (CSRA) are included in the 2011 exchequer interest bill; (iii) symmetric entries of €646 million in respect of the Sinking Fund in March 2012r?recorded as current spending and other receipts (capital receipts)?are taken out; (iv) the IBRC promissory note payment of €3.06 billion that was settled through bond issuance is included in capital expenditure for 2012; (v) the ILP payment of €1.3 billion is excluded from 2012 capital spending; and (vi) about €1 billion in one-off proceeds arising from the sale of the state’s shareholding in BoI is excluded from 2011 other receipts; (vii) the July 2011 bank recapitalization costs of €7.6 billion are excluded from non-voted capital spending for 2011; and (viii) the UMTS license sale proceeds are included in November 2012.

3. Budget 2013 includes concrete and durable measures to achieve the programmed consolidation of €3.5 billion in order to reach the general government deficit ceiling of 7.5 percent of GDP, consistent with MEFP (¶6). The new tax and current spending measures announced amount to €1.2 billion and €1.7 billion, respectively, after excluding carry-overs from policies implemented in previous years, capital savings specified in November 2011, and savings expected in the form of higher dividends from state-owned enterprises, while including additional measures to unwind the health spending pressures that emerged in 2012.

Composition of 2013 Fiscal Consolidation€bnpercent of GDP
Programmed Consolidation in 20133.52.1
Less:Capital savings previously announced-0.5-0.3
Carryover from measures in previous years-0.6-0.4
Revenue-0.2-0.1
Current expenditure-0.4-0.3
Additional dividends from state-owned enterprises-0.1-0.1
Add:Measures to offset health spending pressures0.70.4
“New” consolidation measures announced in Budget 20132.91.7
Revenue measures1.20.7
Current expenditure (net of fees and charges)1.71.0

4. The revenue package features a significant broadening of the tax base, while selected increases in tax rates avoid higher marginal rates on labor income. Key base broadening steps include (i) introducing a property tax for home owners, set at the rate of 0.18 percent of self-assessed value, with a higher rate for houses valued above €1 million; (ii) removing the exemption of the first €127 of weekly earnings for employee PRSI; (iii) subjecting unearned income to PRSI; (iv) capping of tax relief benefiting contributors to private pension funds to a level that delivers pension income of €60,000 or less; (v) removing the universal social charge subsidy for persons over 70 years old with an annual pension above €60,000; and (vi) expanding the carbon tax base to include solid fuels. A 3 percentage point increase in the capital gains and deposit interest retention tax rates is expected to be progressive. Indirect taxes increase on alcohol (first rise in a decade), tobacco, and vehicles. The package also includes measures to stimulate the economy, such as a one-off permission until 2015 for early withdrawal of up to 30 percent of additional voluntary contributions to pension funds, together with tax reliefs targeted at house purchasers and small and medium enterprises, including start ups and those undertaking research and development.

Savings from New Fiscal Measures Announced in Budget 2013
(in € bn)Yield in 2013Full year effect
Revenue1.211.70
Pay-related social insurance0.290.34
Local property tax0.250.50
Excises0.210.21
Vehicle and carbon taxes0.160.18
Personal income taxes0.140.43
Capital taxes0.130.16
Other (net of stimulus measures)0.03-0.13
Expenditure1.722.20
Health0.781.17
Social Protection0.390.45
Education0.090.12
Agriculture0.090.09
Justice0.060.06
Other0.310.31
Total2.933.90
Source: Budget 2013 - Summary of Tax Measures; Expenditure Report.
Source: Budget 2013 - Summary of Tax Measures; Expenditure Report.

5. The current expenditure package is anchored by the gross nominal departmental expenditure ceilings for 2013 set in December 2011. Appropriately, the sole exception is for social protection, where an increase of €0.15 billion is provided to accommodate pressures seen in 2012 arising from higher-than-budgeted unemployment. The €1.7 billion in new savings to deliver the unchanged ceilings are composed of (i) €0.4 billion in public sector wage bill reductions, made possible by a targeted reduction in staff numbers of 7,000 relative to the end-2012 ceiling, and productivity gains currently being negotiated with the public service unions; (ii) €0.4 billion in social welfare adjustments, led by cuts in universal benefits (€10 per month reduction in child benefit and reduced free telephone and electricity allowances for the elderly) and shortening the duration of the Jobseeker Benefit entitlement by three months; and (iii) €0.9 billion from tightening a range of subsidies and programs, predominantly in health. Measures to generate health savings include lower cost drug procurement, reduced fees for services provided by medical professionals, higher co-payments on drugs, a slightly more stringent means test for eligibility to medical cards for persons over 70 years old, and higher charging for private patients in public hospitals (MEFP, ¶4). Key measures in education include reduced allocations for colleges and vocational education centers, a 3 percent higher income threshold for eligibility to college grants, and a 10 percent (€250) increase in the annual student contribution to college fees.

6. If fully implemented, staff considers that these measures can achieve the program fiscal targets. However, buffers in relation to the fiscal targets appear to have narrowed, and the consolidation depends on many measures which can increase implementation risks, so budget execution will bear close monitoring. On the revenue side, the base for 2012 is modestly lower (¼ percent of GDP) than anticipated during the mission, but higher non-tax revenues are expected to offset the impact on the overall revenue outlook for 2013. Given the challenges with expenditure control in the health sector experienced in 2012, it will be critical to ensure full implementation from the outset of the specified health sector savings and ongoing management of any slippages, especially as some measures have uncertain yields, such as charging private patients in public hospitals. Careful preparation is also needed to ensure smooth introduction of and compliance with the property tax. Moreover, some measures still need to be finalized; in particular, agreement with public sector unions on steps that will ensure additional pay bill savings of at least €0.4 billion in 2013 (and €1 billion through 2015) is needed as soon as possible.

7. The 2013 budgetary package seeks to mitigate the impact of consolidation on growth and the most vulnerable in a manner broadly consistent with staff advice. The measures to broaden the tax base will strengthen revenues while avoiding adverse incentives from higher marginal tax rates on labor income, consistent with staff’s recommendations on growth-friendly consolidation in the 2012 Article IV consultation. At this stage, the overall distributional impact of the budget package is unclear.2 In addition to the rise in taxes on interest and on capital gains and acquisitions, staff has earlier supported a number of the budget measures that are expected to be progressive, including the introduction of a property tax, tightening of tax reliefs for private pensions and high-income pensioners, and the extension of PRSI to unearned income. At the same time, some measures also supported by staff impact more equally across income groups, including the removal of the PRSI exemption for the first €127 of weekly earnings, but persons earning less than €18,304 are protected. Cuts to universal benefits, strengthened means-tests for medical cards and student grants, and higher college fees, are also broadly consistent with staff’s calls for better targeting social supports and subsidies, although staff favored offsets for low income groups.

8. Budget 2013 also goes some way in specifying the consolidation over 2014–15, leaving a more manageable requirement for new measures coming budgets. The full year effect of the new tax and expenditure measures announced in Budget 2013 exceeds the yield expected to be generated in 2013, implying a carryover of about €1 billion annually for outer years. Furthermore, if the negotiations with public sector unions deliver the government’s targeted outcome, they will imply €0.5 billion in additional annual savings over 2014–15. Finally, the authorities’ commitment to the European Commission to introduce metered water charging is expected to raise about €0.5 billion in 2015. Together with smaller items, these savings amount to €2.2 billion, just over two-fifths of the programmed consolidation effort of €5.1 billion for 2014–15, helping to reduce uncertainties for households and businesses. The need to specify additional new measures in the next two budgets is also limited to a relatively manageable 1¾ percent of GDP. Staff sees scope for broadening the income tax base through adjustments in bands and credits, potential further pay and pension bill savings, and better targeting social supports and subsidies to protect the vulnerable, including further steps to reduce growth in age-related spending.

9. Other financial and real sector developments since the issuance of the staff report to the Board do not change the thrust of staff assessment:

  • High frequency indicators appear consistent with low growth of just under ½ percent in 2012. Consumer sentiment improved in the last two months following the September decline, registered unemployment declined to 14.6 percent in November, and PMIs remain strong, especially in the services sector. On the other hand, in October industrial production rose only modestly from the sharp slump in September that was focused on chemical and pharmaceutical products.

  • Irish government bond spreads relative to bunds have widened about 35 basis points on the 9-year benchmark, broadly in line with other euro area sovereign bonds. The National Treasury Management Agency announced that it has acquired holdings of bonds maturing in April 2013, and has cancelled €0.5 billion, reducing the principal outstanding on this issue to €5.1 billion.

  • The authorities are seeking a one year extension of the Eligible Liability Guarantee scheme through 2013. At the same time, they are preparing for the possibility of phasing out the scheme by mid-2013.

  • Newly available data on mortgage approvals show some pick-up since mid-2012, albeit from a very low base, with year-to-date approvals of residential mortgages up by 9 percent y/y. Nonetheless, the total value of approvals of €2.4 billion represents just about 2 percent of the outstanding stock of mortgages.

These figures for the exchequer primary balance and revenues include €0.45 billion proceeds from the telecom license sale in November—above the budget of €0.15 billion—even though they will be banked in December.

Researchers at the ESRI have prepared an initial analysis of the distributional impact of Budget 2013, although the analysis covers just under one-third of the new measures announced, comprising half of the savings in social welfare and about half of the tax measures. For 2013, the impact of those measures included in the analysis is similar for the middle three income groups, with a reduction in income of 0.9 percent. For the lowest income group, the income reduction is 1.1 percent, while for the top income group it is lower, at 0.6 percent. The researchers expect that inclusion of some omitted income and wealth tax measures would tend to make the impact more progressive, while other omitted measures—such as indirect tax increases—would have a more regressive impact, and the net balance between these factors is a matter for further investigation.

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