Despite Quarterly Gain, Annual Contraction Remains Steep

According to the Central Statistics Office (CSO), the Irish economy emerged from its technical recession—defined as at least two successive quarters of declining real GDP on a quarter-on-quarter (q/q) basis—during the third quarter of 2009, and not in the second quarter as previously reported. Specifically, real GDP expanded by 0.3% q/q in July-September, after falls of 0.6% q/q in the second quarter, 2.1% q/q in the first, and 5.4% q/q in the final three months of 2008. However, the annual comparison continues to paint a very bleak picture, with the economy contracting by 7.4% year-on-year (y/y) in the third quarter and by 8.1% y/y in the first three quarters of 2009.

The CSO also indicated that gross national product (GNP) declined by 1.4% q/q in the third quarter of 2009, following drops of 1.7% q/q in the second quarter and 5.2% y/y in the first. Consequently, GNP tumbled by 11.6% y/y during the third quarter, a slight improvement from a downwardly revised fall of 12.2% y/y during the second quarter. The profits of foreign-owned enterprises are excluded from the GNP data, which are also affected by other income flows between residents and non-residents. The timing of the income flows can be variable on a quarterly basis. All of this can lead to significant differences in the rates of growth in the quarterly GNP and GDP data.

Recovery Weak and Not Broad-Based

The breakdown of the figures on the expenditure side shows that the end of the recession was due to a positive contribution from net exports, with imports declining at a faster rate than exports. Worryingly, private consumption, investment, and exports all recorded negative quarterly changes during the period.

Domestic Demand Continues to Be Squeezed

Private consumption fell back as expected in the third quarter, after appearing to stabilise in the second quarter. IHS Global Insight argued that the q/q rise in consumer spending recorded in the second quarter was merely a technical rebound from the very steep dip in the first quarter. More recently, household spending contracted by 0.7% between the second and third quarters, after a 0.9% q/q rise in the second quarter and a 5.6% q/q fall in the first. In annual and unadjusted terms, private consumption dropped by 7.3%, following a fall of 6.9% y/y during the second quarter. Clearly, households are struggling to cope with higher unemployment, tight credit conditions, and rising taxes. Meanwhile, real investment decreased by 9.9% q/q during the third quarter after a 0.5% q/q rise in the second quarter and falls of 12.6% q/q in the first quarter and 18.1% q/q in the final three months of 2008. On an annual basis, it continued to plunge, by a record 35.0% y/y. The business investment climate remains very tough, with firms overwhelmed by falling output, shrinking profitability, and historically low capacity utilisation. Furthermore, construction investment, which had been one of the stars of the Irish economy, continued to be squeezed as the over-extended sector adjusts to markedly weaker housing-market activity.

Government spending fell for the second successive quarter, by 0.9% q/q, in the third quarter. Consequently, it contracted by 2.0% y/y in the third quarter, after a 1.3% y/y drop in the second quarter, the weakest performance for several decades.

Net Exports Lift Economy Out of Recession

Overall exports declined by 0.6% q/q in the third quarter, following a rise of 0.1% q/q during the previous quarter, which had been the first quarterly expansion since end-2007. Furthermore, they fell by an unadjusted 2.6% y/y in the third quarter, the fifth successive quarter of annual decline. Despite the disappointing third-quarter performance, the Irish export performance has been relatively resilient compared with its Eurozone counterparts. A key factor has been a solid performance from the pharmaceutical sector, which is not highly linked to the business cycle. Moreover, external demand for Irish products has been helped temporarily by strong fiscal and monetary stimulus measures in many key export markets. Nevertheless, these measures are mainly short-lived, implying that the pace of anticipated recovery in Irish exports could be curtailed once the impact of the fiscal support plans wears off. Meanwhile, imports dropped alarmingly, down by 4.5% q/q, following a negligible 0.1% q/q rise in the second quarter. Therefore, they contracted by 6.9% y/y, following a fall of 10.6% y/y during the second quarter.

Building and Construction Output Suffers Biggest Hit

A breakdown of real GDP by value added reveals that building and construction output shrank by a record 34.4% y/y, after a 30.3% y/y dip in the second quarter. Meanwhile, the rate of decline in industry output decelerated to 9.6% y/y from 11.7% y/y. Finally, service-sector output dropped by 3.4% y/y in the third quarter, a moderately weaker performance than in the second quarter.

Output and Implications

The stronger-than-expected third-quarter performance suggests that the economy could contract by less than 7.1% in 2009, the prediction in IHS Global Insight's December interim forecast. Nevertheless, we still believe that the outlook for the coming quarters remains poor, with a dismal labour market (the unemployment rate stood at a 14-year high in November), tight credit conditions, and an increasingly tight fiscal policy weighing down on activity. The latest data and survey evidence suggest that the economy has failed to gain any momentum during the fourth quarter. The purchasing managers' index (PMI) for the services sector revealed that activity contracted for a 22nd successive month in November, and at a faster pace than in October. More encouragingly, manufacturing activity was closer to expansion territory in November, according to the PMI released by NCB Stockbrokers/NTC Research. Nevertheless, the main sub-components of the overall index suggested that any recovery is likely to be very gradual and fragile.

The outlook for 2010 is challenging, with the economy expected to slip into recession again in the first quarter of the year before stabilising in the second half. Consequently, real GDP is projected to contract by 0.8% overall in 2010 before recovering to growth of 1.7% in 2011, according to our December interim forecast. A major drag on overall activity will be weak consumer spending as households struggle to cope with rising unemployment and taxes, the prolonged housing-market slump, and tight lending conditions. Other areas of domestic spending are also likely to remain sluggish in 2010. The rate of decline in fixed investment is expected to slow next year, but will continue to be a major drag on overall GDP developments. Residential construction is set to endure a difficult 2010 as the sector is still struggling to shift an excess of supply of new homes in a very tough real-estate market. Meanwhile, investment in machinery and equipment is forecast to contract again in 2010, with firms deflated by difficult trading conditions, historically low capacity utilisation rates, dwindling profit margins, and disrupted access to credit markets. Investment by U.S.-owned multinationals may also be further undermined by a still fragile global economy. Government spending has started to fall and will decline steadily during 2010 as the government strives to lower the public sector budget deficit, which is expected to widen to a worrying 11.0% of GDP this year. More encouragingly, we expect net trade to provide a positive contribution to economic activity in 2010, driven by exports recovering faster than imports.

Global Insight (Reino Unido)