Central Bank's candour is refreshing

ANALYSIS:With more economists at its disposal, the bank can afford to be forthright in its forecasts, writes PAT McARDLE

CENTRAL BANKS are usually better known for their surveys and analyses than their forecasts. This reflects their nature – large and administratively cumbersome with lots of layers of authority. Like the OECD and the IMF, their forecasts frequently appear to be at least a month out of date. Moreover, while they regularly offer policy advice, they have to be careful not to tread on too many toes. The message is usually there but one sometimes has to read between the lines to find it.

Against this background, the recent experience with our Central Bank has been quite refreshing. A steady improvement in quality and transparency is discernible. This, no doubt, partly reflects their superior resources. Following the downgrading of the economics function in the Department of Finance and the more commercial mandate adopted by the ESRI, the bank now has the largest collection of economists in Ireland. In all, there are probably 40 economists there, with at least a quarter of them directly involved in forecasting and analysis.

The average stockbroker or bank economics unit, by contrast, will have just one or two. (Incidentally, we were told in the context of the recent Nama letter to The Irish Times that there are 250 economists in the six universities. Taken at face value, this seems to imply that there are more economics teachers than practising economists).

Equally refreshing has been the candour of recent Central Bank commentary. This appears to be due, in no small measure, to the retiring assistant director general, Tom O’Connell. He notably described the current economic situation yesterday as “bubbling along the bottom”.

While it might be unwise to dwell for long on the precise meaning of the phrase, it does capture the essential difference between yesterday’s Central Bank forecasts and the more optimistic noises emanating from stockbroking houses recently. The Irish Central Bank, like its counterparts abroad, is cautious about the upturn. Its forecasts are not significantly different from those presented in the budget last April.

While it does expect the economy to start growing again around the middle of next year, it cautions about the strength of the recovery, noting the strong headwinds that exist, not least the harsh fiscal medicine that we will have to take and the uncompetitive nature of our exporters.

Unfortunately, the bank does not produce forecasts beyond 2010. One would have thought that, with all those resources, they could easily afford to do so. However, it did allow that growth in 2011 was likely to be in excess of 1 per cent. This compares with a recent Reuters survey of 10 forecasters that produced a 2011 average growth rate of 2.5 per cent (with a range from 1 to 5 per cent).

A word of caution would not go amiss here. Turning points are notoriously difficult to forecast and economists are particularly bad at forecasting them. As recently as mid-2008, for example, every forecaster in the State had positive growth pencilled in for both 2009 and 2010 and the situation would have been no different abroad.

I prefer to use a slightly different watery analogy. The economy is like a diver plunging into a swimming pool. In the first quarter of 2009 we hit the low point amidst lots of bubbles and thrashing of limbs. In the second quarter, we began the ascent to the surface. While many of our trading partners appear to have broken through and are now treading water, we are still below the surface and likely to remain there for a few more quarters. The Central Bank use a different analogy but the message is the same.

The bank identify three key policy challenges:

(i) stabilise the banks;

(ii) restore fiscal balance;

(iii) regain competitiveness.

As regards the first, it is clear that the Central Bank, like most others, regards Nama as the only game in town. Indeed, its new governor is on record as saying that the extra 10 per cent being paid to the banks is a reasonable estimate of the long-term economic value.

Equally, it accepts that the Government has no option but to pursue the budget-stabilisation programme agreed with the EU. It notes that the five-year recovery period is the longest granted to any member state and sees little prospect or desirability of that period being extended.

While each of the three policy challenges is daunting in its own right, the third, which has so far received the least attention, may be the most difficult of them all. Data produced by the bank shows that Irish relative hourly earnings have deteriorated by more than 40 per cent since 2000. Its forecasts show us recovering perhaps 10 percentage points of this in 2009 and 2010 as wages here fall while they continue to rise abroad. However, there is no indication as to where the other 30 percentage points might come from.

We could, of course, pray that the euro plummets, for this would help our exporters. Failing this, and extensive euro weakness does not seem terribly likely, the wage cuts that would be required to restore competitiveness are of the order of 30 per cent. This is a message that has yet to percolate through to both trade unions and the public at large.