Ireland's economic gloom deep

 

The creation of a "bad bank" to restore the flow of credit in Ireland and cleanse its lenders of risky assets will help soothe concerns about the former "Celtic Tiger" economy even as it heads for a second year of record recession, economists said.

A Reuters poll on Tuesday showed economists forecasting an 8.45 percent drop in Ireland's Gross Domestic Product this year, on a median basis, a deterioration from the 8.3 percent decline forecast in previous polls.

"Ireland is expected to be the west's worst performing economy this year" said Melanie Bowler, analyst at Moody's economy.com.

"The recession is likely to be deep and long, due in part to the government's decision to tighten fiscal policy. Higher taxes will discourage spending further and prolong the property market downturn."

The poll of 10 economists was carried out on July 28-31.

Ireland's over-reliance on the housing market during the height of the boom two years ago construction accounted for 21 percent of GDP has forced the government to hike taxes and cut spending to shore up its finances now that the property bubble has burst.

Dublin has also been left to deal with the financial mess from the decade-long property binge as tens of billions of euros in risky loans clog up the banking system, choking off the supply of credit and leaving the future of the system in doubt.

The government unveiled draft legislation last week giving a National Asset Management Agency (NAMA) sweeping powers to take over property loans with a nominal value of 90 billion euros, around half the country's GDP.

Investors in Irish sovereign debt want to know how much NAMA, dubbed a "major gamble" by the main opposition party, will cost the taxpayer and Finance Minister Brian Lenihan said he would give a rough outline next month. 

Economists said the prospect of further transparency on the project and its impact on the balance sheet of the government and the banks would help reduce lingering fears around Ireland's credit-worthiness.

"While the economy is likely to continue to suffer, these efforts are a necessary, but not necessarily sufficient, ingredient for a return to a fully functioning banking system" Dermot O'Leary, chief economist with Goodbody Stockbrokers said.

Fears of an Icelandic-style bust prompted an explosion in the spread between Irish debt and benchmark German paper to 284 basis points (bps) in March.

But, as Dublin has proven its mettle in squeezing its budget deficit and dealing with its banks, the premium investors charge for holding Irish paper has reduced to around 166 bps. The day before Dublin unveiled its NAMA legislation, the spread was 172 bps.

While economists are expecting unemployment to hit 15.5 percent at the end of next year, from nearly 12 percent currently, they are hopeful of a bottoming out of the recession in 2010 before a return to modest growth in 2011.

Faced with plunging demand, Irish businesses from retailers to law firms have been cutting prices, costs and staff to survive and the corresponding improvement in competitiveness will leave Ireland well-prepared for the upturn.

In the Reuters poll, economists forecast consumer prices would fall 4.15 percent this year.

"One key point is that about three-quarters of the recession is over. The economy is already 12 percent smaller in volume than it was at the peak. It will probably shrink by 16 percent from peak to trough - the bottom coming in early 2010" said Rossa White, chief economist at brokerage Davy's.