Government warned of risk to public finances from budgetary strategy

Central Bank governor Gabriel Makhlouf takes aim at Coalition’s revised estimates

Gabriel Makhlouf said the upcoming budget should ‘signal clearly a sustainable path to a more resilient medium-term position for the public finances’. Photograph: Nick Bradshaw

The Governor of the Central Bank of Ireland has criticised the Government's revised budgetary strategy, warning it poses a greater risk to the public finances.

In a pre-budget letter to the Minister for Finance, Gabriel Makhlouf noted the Government’s recent Summer Economic Statement (SES) envisaged a sequence of much bigger deficits between now and 2025, culminating in a budget deficit of €7.4 billion in 2025.

This is €6.6 billion more than the original target set just three months earlier in the Stability Programme Update.

Mr Makhlouf said “higher permanent current expenditure” accounted for close to two-thirds of this upward revision and would leave the Government’s debt ratio broadly unchanged – from what it is now – in 2025, 106 per cent of national income.


While noting the SES contained a commitment to borrow only for capital investment from 2023 onwards and taking into account the favourable economic outlook and current low interest rate environment, the Governor warned, however, that the larger annual deficits out to 2025 – with higher debt – increased "the risk facing the public finances and the economy compared to a plan that targeted a quicker pace of debt reduction and lower debt".

This is the first time the governor has responded to the Government’s revised budgetary plan.

Balanced budget

In the SES, Minister for Finance Paschal Donohoe appeared to dump a plan to gradually move towards a balanced budget in the wake of the pandemic, setting the State on an entirely different fiscal path.

The revised budgetary estimates anticipate an additional €18.8 billion in borrowing over the next five years, some of which will be used to fund housing construction and supports.

In his letter, Mr Makhlouf said the State had one of the highest debt ratios of any country in the industrialised world.

“Analysis by Central Bank staff shows that a scenario with higher levels of expenditure and a permanent loss in corporation tax receipts funded by additional debt would see the debt-to-GNI [gross national income] ratio increase further from its current high levels out to the middle of this decade,” he said.

Higher debt levels would also limit the State’s response to future crises and would have implications for the State’s sovereign bond yields, in other words the State’s borrowing costs, the governor said.

He also warned that “in an economy already experiencing strong economic growth (as is currently projected), there is a risk that higher government spending and tax changes – as well as resulting in higher debt – could generate excessive inflationary pressures, leading to the emergence of damaging imbalances in the economy.”

Sustainable path

Mr Makhlouf said the upcoming budget should “signal clearly a sustainable path to a more resilient medium-term position for the public finances”.

This would require “clearly articulated sources of funding for permanent current expenditure increases”.

The Government has attracted criticism from the Irish Fiscal Advisory Council and others for funding seemingly permanent increases in spending via increased corporation tax receipts, which may not be permanent.

Measures such as broadening the tax base, reducing certain tax reliefs or changing some tax rates may be appropriate to achieve sustainable and balanced long-run growth, Mr Makhlouf said.

The governor suggested that “any revenue windfalls – whether from unexpected corporation tax receipts or the proceeds from the sale of bank shares, for example – should be used to reduce debt levels rather than fund extra expenditure”.

Mr Makhlouf said that as the near-term impact of the pandemic eases, the focus of policy should shift “from limiting the effects of the near-term shock to minimising supply constraints arising from labour market mismatches over the medium-term”.

This would allow for more “targeted” labour market activation measures such as reskilling and training programmes to minimise “welfare traps”.

Eoin Burke-Kennedy

Eoin Burke-Kennedy

Eoin Burke-Kennedy is Economics Correspondent of The Irish Times