Significant economic slowdown forecast

Economic growth would shrink to 1 per cent next year if the construction sector was hit by the kind of downturn suffered in Britain in the late 1980s and early 1990s, a new study has found.

The new research from Standard & Poor's concludes that the Republic will experience a "significant slowdown" in gross domestic product (GDP) growth even under a "benign" retrenchment in construction.

The ratings agency notes that a decline in Irish housebuilding is already evident, with the main effects of this slowdown to be felt from 2008.

Irish house prices are up to 20 per cent overvalued, the research suggests. "The correction could be protracted," it says in the report, entitled, A sharp construction sector retrenchment would hit Ireland and Spain hard.

In a situation where activity eases gradually, the economy will grow by 3.8 per cent next year, following growth of 5 per cent this year, according to the analysis.

If construction sector output slows very sharply, however, this growth could decline to 1 per cent in 2008 from 4.8 per cent this year, Standard & Poor's finds.

It defines a sharp contraction as the kind of slowing seen in Britain in the late 1980s after the housing market boom in that country, or the slowdown seen in Germany after reunification.

The agency considered the probable effects of such a development on activity in both construction and the services sector.

It found that the Republic, along with Spain, would take until 2015 to regain the growth rate it might be expected to achieve in 2008 in a more orderly construction slowdown.

This would suggest that Irish GDP growth would remain below 4 per cent for seven years after a severe slowing in construction.

"A sharp downturn would have a much more debilitating effect for medium-term growth in Ireland and Spain," the report says.

Standard & Poor's also suggests that the heavily-indebted nature of the Republic's private sector (203 per cent of GDP) poses "significant risks over and above that of a construction sector slowdown".

Standard & Poor's notes that house prices in the Republic, Spain and the UK have been among the fastest-growing in Europe over the past decade.

"These countries are now leading the subsequent downturn," the agency says.

"Falling share prices for property-related firms and exposed banks so far this year have further highlighted the difficulty of the current environment for the sector."

In the Republic last year, construction accounted for 8.7 per cent of GDP, according to figures compiled by EU statistical agency Eurostat. This compared to 10.8 per cent in Spain and 5.1 per cent in the UK.

"Countries such as Ireland and Spain, where the construction sector accounts for a significant share of all employment, will experience the sharpest impact as the sector slows," the report says.