A very uncertain economic outlook, scenarios point to a deep downturn in 2020– Central Bank of Ireland

• Real time data for the Irish economy points to a trough in activity being reached in April, with activity now above this low point.
• However, economic activity remains significantly below levels seen prior to the pandemic.
• There has been a variation in the economic impact across different regions, with a greater impact seen in areas where sectors such as tourism and hospitality are more important.

The Central Bank of Ireland has today published its third Quarterly Bulletin of 2020, which focuses on the impact of the Covid-19 pandemic and the potential impact of a disruptive Brexit.

The widespread shutdown of businesses caused by the pandemic triggered sudden and large-scale job losses and, allied to extreme uncertainty, gave rise to a severe negative shock to both consumer spending and investment. While the impact of labour market developments on household incomes has been mitigated by the provision of large-scale income support by the State, the pandemic has had a severe impact across the economy.

The hardest hit sectors have been those with a high dependence on face-to-face contact or physical interaction, including accommodation and food services, retail and construction.  On a regional basis, there has been some variation in impact, explained largely by differences in industry and occupation composition across regions, with the impact being greatest where employment has less ‘work from home’ potential and where sectors such as hospitality and tourism are particularly important.  Elsewhere in the economy, other sectors such as high-tech manufacturing, computer services and the pharmaceutical and chemical sectors appear to have been less affected. These uneven effects of the crisis will have implications for employment and wealth and the longer term trajectory of the Irish economy.

Given the scale of uncertainty surrounding the economic outlook, two different scenarios are outlined in the Quarterly Bulletin. In the “baseline” scenario, the gradual reopening of the economy would allow for an initial rebound in economic activity over the near term.  Some containment measures would remain in place meaning that activity would be constrained in some sectors for a longer period. Beyond the initial rebound, recovery is expected to be gradual, in line with a projected gradual recovery in employment and incomes and a slow unwinding of precautionary behaviour as the effects of the shock on consumers and businesses lingers. The unemployment rate is set to decline from its second quarter peak of about 25 per cent as the year progresses and is projected be around half that level by the end of this year, before averaging just over 9 per cent next year and 7 per cent in 2022.

The baseline scenario sees output recovering to its pre-crisis level by 2022. However, the level of activity will be significantly below where it would have been had the economy grown in line with expectations before the outbreak of the pandemic.

In the “severe” scenario, the strict lockdown period is assumed to have a more damaging impact on economic activity and is not successful in effectively containing the virus. Stringent containment measures would remain in place, or would be re-instated, albeit not as severe as before, based on an assumption that there would be a resurgence of the virus at some point over the next year. In this scenario, there is a subdued economic recovery with a larger permanent loss of output. Unemployment remains higher for longer in this scenario and would average just below 17 per cent in 2020, while consumer spending is projected to fall by around 14 per cent and GDP by over 13 per cent this year. In this scenario, the projected recovery in growth in 2021 and 2022 would not offset the loss of output this year, leaving the level of GDP in 2022 about 5 per cent below its pre-crisis level.

Both of these scenarios assume that a Free Trade Agreement (FTA) between the EU and the UK, with no tariffs and quotas on goods, takes effect in January 2021. If such an agreement is not reached, then the EU and the UK would move to trading on WTO terms from January 2021. While the Covid-19 crisis may pre-empt the short-run losses that Brexit would have caused in some sectors, it may amplify them in some others, for example, in agriculture, where tariffs would apply in a WTO scenario. This makes it difficult to quantify the short-run effects, but it is likely that, in the case of a WTO outcome, growth in the Irish economy will be weaker than outlined in the above scenarios.

A Signed Article, written by Thomas Conefrey, Niall McInerney, Gerard O’Reilly and Graeme Walsh, explores alternative long-term recovery paths for the economy from COVID-19 and assesses the impact of fiscal and monetary policy supports introduced by governments and central banks around the world. The Article considers how hysteresis – or scarring ¬¬– effects could influence the pace and nature of the recovery from COVID-19. The analysis shows that, as an open economy highly interconnected with the global system, Ireland benefits from the positive effects of monetary and fiscal policy measures implemented abroad. The assessment of the combined effects of domestic and international policy supports indicates that the actions will help to meaningfully reduce the scale of the output loss in Ireland from the pandemic.

On the publication of the Quarterly Bulletin, Mark Cassidy, Director of Economics and Statistics, said:

“While there is considerable uncertainty about the outlook, the scenarios we present in this Bulletin point to a deep downturn in 2020, with a gradual recovery in coming years. The path ahead for the economy will depend on the path of the virus, which makes the strength of the recovery and the future impact on sectors uncertain” 

“The rise in government deficit and debt ratios was both warranted and necessary and we estimate that domestic and international policy responses announced to date could reduce the fall in output in Ireland by almost 4 percentage points in 2020. However, the high level of the debt leaves government finances vulnerable to future shocks to growth and interest rates.  While additional policy measures may be required to give some impetus to recovery, it will be important, in due course, for the government to provide for a clear and credible return to much lower and sustainable deficit and debt positions.”