Quarterly Bulletin 2023:2 – economy operating at capacity

21 June 2023 Press Release

Central Bank of Ireland


  • Headline inflation has declined, but core inflation is picking up and is now expected to be 4.9 per cent in 2023.

  • The unemployment rate is now below 4 per cent, for the first time since 2004, with tight labour market conditions expected to continue.  

  • Modified domestic demand is forecast to grow by 3.7 per cent in 2023, 2.5 per cent in 2024 and 2025.

The Central Bank has today (21 June 2023) published its second Quarterly Bulletin of 2023. On the launch of the Quarterly Bulletin, Robert Kelly Director of Economics and Statistics said:

“With wholesale energy and food prices continuing to ease, domestic factors have begun to play an important role in the inflation outlook.  Growth in the domestic economy this year is expected to be slightly stronger than previously anticipated.  Various indicators, particularly from the labour market, point to the economy operating at capacity.  The tightening of monetary policy is beginning to feed through the economy and will contribute to dampening demand and economy-wide price pressures.  In this environment, it will be important that fiscal policy charts a careful course that does not exacerbate the imbalance between demand and supply conditions across the economy.”

Headline HICP inflation has slowed as wholesale prices of globally-traded commodities have fallen in recent months, but the rate of increase in consumer prices remains significantly higher than historical averages. Inflation dynamics in 2023 are primarily being driven by the second round effects of the energy and other commodity price shocks seen throughout 2022 and early 2023. These effects include the lagged pass through of some input prices to consumer prices, as well as businesses seeking to at least maintain profit margins.  As 2024 progresses and in 2025, the primary factor driving inflation will be the strength of the domestic economy and capacity constraints.  Headline HICP inflation is expected to average 5.3 per cent in 2023, 3.4 per cent in 2024 and 2.5 per cent in 2025.  Core inflation, which excludes food and energy and is a better reflection of domestically-determined price pressures, is not expected to peak until late 2023 and to decline relatively gradually thereafter.  Core HICP is forecast to average 4.9 per cent in 2023, 3.4 per cent in 2024 and 2.7 per cent in 2025.

Headline measures of growth in the economy continue to be distorted by the activities within and outside the State of Irish resident multinational firms, but domestic economic activity is projected to grow. Growth in Modified domestic demand is expected to be slightly stronger this year than previously forecast at 3.7 per cent, to be followed by growth of 2.5 per cent in both 2024 and 2025.  A number of factors are supporting demand conditions.  First, a gradual improvement in households real income as inflation eases and the tight labour market spurs higher wage growth.  Second, a more definitive reduction in the savings ratio to pre-pandemic norms that appears to be happening. Continued investment in the State in plant and machinery by high-growth sectors is also expected to support growth in modified investment.

Over Q4 2022 and Q1 2023, employment growth remained positive, the unemployment rate reached multi-decade lows, consumption was firmly expanding, as was the output of domestically oriented sectors of the economy.  These data give a clear sense of the recent performance of the domestic economy. National Accounts data published by the Central Statistics Office, showing two successive quarterly declines in GDP in Q4 2022 and Q1 2023, highlights the difficulties with meaningfully interpreting GDP in the Irish context.   The inherent volatility in GDP, and the significant proportion of it that reflects activities outside the State, means that it is important to look beyond this headline measure to gauge the temperature of the Irish economy.

The labour market is forecast to remain very tight with labour force growth being driven by continued net inward migration. The unemployment rate is expected to average 4 per cent, 0.4 percentage points lower than was predicted in the last Quarterly Bulletin, and remain in that region out to 2025. Slower employment growth and a pick-up in wage growth is expected as capacity constraints become more binding.  Compensation per employee is forecast to rise by 6.2 per cent in 2023, 5.9 per cent in 2024 and 4.4 per cent in 2025.  This rise in labour costs is expected to be accompanied by relatively muted growth in productivity and profit margins in order for the easing of the core inflation forecast in 2024 and 2025 to emerge as forecast. 

In a Signed Article accompanying this Bulletin, Conefrey et al (2023) show that, given the current cyclical position of the economy, discretionary government spending increases or tax cuts outside the bounds of the net 5 per cent spending rule would add significantly to demand and inflation in the coming years.  The analysis finds that even under current plans where (net) spending is forecast to grow at 5 per cent, there is still a risk of overheating pressures emerging given the current conditions in the labour market.  In both scenarios, albeit to different degrees, the results point to the potential rise of imbalances in the economy. An acceleration in domestic demand would crowd out the traded sector over the medium-term, as more upward pressure on prices and wages emerges.  This highlights the need to be very careful in setting the fiscal policy stance at the current juncture, in order to promote sustainable increases in living standards over the medium term.    

Previous Quarterly Bulletins are available to view on the Central Bank’s website.