After a 14% drop in house prices and a sharp rise in the unemployment rate, Ireland’s economy has finally gone into official recessionary territory, defined as two successive quarters of economic contraction. “The numbers are awful and there is no doubting that the economy is in recession this quarter (Q3)”, said Rossa White, an economist at Davy stockbrokers.
But it won’t be the last. The entire eurozone is suffering from the impact of the credit crunch, with house prices falling, unemployment soaring and consumer spending drying up from Bilbao to Berlin. The European commission expects the entire eurozone to fall into recession by early 2009, with those “economies most at risk being where the crunch triggers a more substantial adjustment”, says Jonathan Loynes, Chief European Economist at Capital Economics.
Which suggests that Britain is next on the list.
First, look at the impact that falling house prices have had on the Irish economy. Squeezed by tighter lending conditions, the Irish have simply stopped buying houses. As a result, prices should fall by at least 30% from peak to trough, says Loynes. That’s led to a rise in the unemployment rate to 6.1%, as builders and plasterers suddenly find themselves out of work, which in turn has had a negative impact on consumer spending. Consumer spending was 1.4% lower in Ireland in Q2 2008 compared with the same period last year.
That hasn’t happened here yet, which leads many commentators to argue that the underlying fundamentals of the British economy are sound, and we won’t slip into recession. They’re wrong.
Irish house prices have been falling for 18 months. In Britain, they’ve been spiralling downwards for about 12. Yet Irish consumer spending has only just turned sour, which suggests that it takes several months of falling house prices for people’s finances to be squeezed.
And because “it seems odds-on that house prices will head downwards for some considerable time to come” in the UK, says Howard Archer, an economist at Global Insight, the British economy should teeter into an official recession within the next six months, “particularly as lending conditions could well tighten further in the near term.” He predicts a 15% drop in British house prices this year, and a 12% fall in 2009 – and he’s arguably optimistic.
Things aren’t all bad in Ireland. The fact that it has low corporation tax of 12.5% should continue to attract multinational manufacturers and financial businesses, especially now that they are looking to cut costs. Drugmaker Shire has already moved its headquarters to Ireland while 37% of British businesses are looking to relocate offshore, says accountancy firm BDO Stoy Hayward, in order to cut tax costs.
And because the Irish government has introduced bank deposit insurance of €100,000 (about £78,000 compared to £35,000 in the UK), the chances of a Northern Rock-style run on a bank may have been reduced.
Sadly, Britain may not be so fortunate. After all, many of those companies looking to relocate are escaping the tax regime in Britain, and with the Chancellor already set to break (or change) his borrowing rules this year, the chances of corporation tax being cut are slim to vanishing. Ireland might have beat us to it, but our downturn could be even worse.