Economy and financial system strengthened, remains vulnerable to adverse external shocks

• Substantial growth in the economy, but Brexit poses major threat
• Higher degree of financial market turbulence in Europe over recent months implies greater potential for negative shocks
• Geo-political risk triggers include international tax arrangements, protectionism in international trade

The Central Bank of Ireland has today published its first Macro-Financial Review of 2018. It provides an overview of the current state of the macro-financial environment in Ireland and highlights risks to the economy and financial system.

The Central Bank report notes the domestic economy is growing substantially, but this in itself gives rise to potential risks. The assessment takes into account progress made to date in reducing private and public debt and non-performing loans in the banking sector.

The Review highlights that a key risk facing the domestic economy relates to the decision of the UK to leave the European Union. Brexit-related risks to the economy include:

• The potential for domestic businesses and households to postpone investment decisions until the future trading relationship with the UK becomes clear.
• A Brexit-related slowdown in UK and Irish economic growth affecting Irish bank loan portfolios, with a potential rise in NPLs.
• New operational challenges for Irish banks looking to issue debt through the UK.
• UK insurance firms potentially losing the right to do business in Ireland, affecting competition and product availability.

Sharon Donnery, Deputy Governor, Central Banking, said: “The risks arising from Brexit, especially a ‘hard’ or disruptive Brexit, are far reaching for Ireland. The window of opportunity for resolving a range of issues for firms is closing fast and contingency plans need to be fully prepared.”

Other risks to the wider financial system and economy outlined in the Review include:

• International financial market asset valuations, many of which appear high and vulnerable to changes in market sentiment
• Growth in residential real estate prices bringing valuations close to or above that explained by fundamental factors
• Concentration of bank exposures in property-related lending
• High levels of household and public debt, with the household sector in Ireland the fourth most highly indebted in the EU
• A relatively small number of payers accounting for a large share of corporation tax, leaving the State exposed to one-off shocks and political developments
• A more general move towards protectionism in international trade
• Changes in international corporate tax arrangements, both in the EU and the US. Many international firms that bring significant levels of foreign direct investment operate in Ireland as bases for their EU operations.

Deputy Governor Donnery said: “While the domestic economy is performing well, this in itself gives rise to potential risks. Stronger growth could add to overheating pressures if not managed prudently. The array of risks facing Ireland, coupled with the fact that we are a small and open economy naturally prone to volatility, make it hard to predict what the future holds. What we can do is to ensure that the banks and financial system are sufficiently resilient to withstand unexpected shocks. As such, it is right that we now give active consideration to using all of the tools available to us to help maintain sustainable and balanced growth.”

Transcript of media briefing with Deputy Governor Sharon Donnery