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ESRI warns against tax cuts as Irish economy expected to fall into a recession

The Irish economy is expected to fall into a recession this year and the Government may have less Budget cash to splash than it thought, a leading think-tank has warned.

In its latest forecast, the Economic and Social Research Institute (ESRI) described a tale of two economies, with domestic sectors set to grow while some multinationals falter.

With prices running higher than expected and the jobless rate at record lows, the think-tank has warned the Government against tax cuts on Budget Day that go above and beyond inflation.

The report comes a day after Exchequer returns showed a dip in corporation tax receipts, which could affect this year’s Budget surplus.

“It’s clear that the economy is really operating pretty much near to full tilt,” said ESRI research professor Kieran McQuinn.

“It really does make fiscal policy quite tricky,” he added

Gross domestic product (GDP), which includes volatile multinational activity, is expected to turn negative this year after double-digit growth during Covid.

GDP is predicted to dip by 1.6pc on the back of lower pharmaceutical exports and investment – reflecting a global slowdown – before recovering to 3.5pc next year.

But modified domestic demand, which strips out patents and aircraft leasing, is to grow by 1.8pc this year and 2.4pc next year, despite higher prices eating into consumers’ spending power.

Inflation is expected to come in at 6pc this year (or 5.6pc according to the EU’s measure, which excludes mortgage interest payments). It is set to slow to 3.2pc (2.8pc) next year, still well above the EU’s 2pc limit.

Unemployment is expected to continue falling from historic lows of 4.1pc this year to 4pc next year.

While tax receipts are set to grow, the ESRI predicts a Budget surplus of €8bn this year – the same as last year, but around €2bn shy of earlier Department of Finance estimates.

The surplus is expected to rise to €13.2bn next year, which is around €3bn short of government estimates from April this year.

Finance Minister Michael McGrath told an Oireachtas committee last week that earlier predictions of €65bn in surpluses out to 2026 are likely to be an overstatement.

While that still leaves plenty of money to spend, the ESRI has advised the Government to plough it into social and affordable housing and green energy, rather than on tax cuts or blanket cost-of-living supports.

“If you’re increasing investment rates in the economy and increasing government expenditure, that is going to be inflationary, there is no doubt about it,” Mr McQuinn said.

“If you start to cut taxes at the same time, that will additionally fuel those inflationary pressures.

“If you are going to focus on addressing the infrastructural issues and the deficits that are there, then I do think it means you have to be particularly disciplined as far as taxation policy is concerned, and that would mean very, very little tax cuts, if any.”

The ESRI says more money might be needed to meet the State’s housing targets.

ESRI research also shows that the Government had more room to spend on infrastructure, including housing, in the past, given high levels of GDP and population growth.

But Mr McQuinn said that sticking to the State’s 5pc spending rule, which has been breached every year since it was introduced in 2021, would be wise.

“I think if a government outlines a spending rule, it is probably a good idea to stick to it. And when you breach those rules, it’s generally not a very healthy sign in terms of fiscal discipline,” he added.

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