The real story

Our previous post looked at changes to DoF nominal GDP projections.  There are none.  What about our GDP in real terms?  In nominal terms it appears that the DoF expect the GDP figure to be no different than it was before, but what about the price effects that will determine the real changes behind these nominal figures?

We can compare the Department’s HICP predictions to the end of 2014 made in December 2009 to those produced last week.

The Department is predicting less inflation (or more deflation) for every year up to 2014.  This is particularly true for 2010 to 2012 with lower inflation of between 0.25% to 0.70% forecast.  For 2013 and 2014 the Department’s forecasts are largely unchanged and are probably influenced by the units the Department chooses to present their forecasts in.

If the Department expects prices to fall faster in 2010 and rise slower in 2011 and 2012, the only way they can meet their nominal GDP projections if they are expecting real GDP to rise by a greater amount than they thought last year.  There must be a greater increase in activity to offset the effect of lower increase in prices.

To see this in practice we will work through the numbers for 2011.  Last December’s SPU has a real growth rate prediction of 3.3% for 2011.  Last week’s EBO gives a predicted real growth rate of 1.75% for 2011.  Surely this is a reduction and is in line with all observer expectations.

The EBO gives 2010 nominal GDP at €157.3 billion.  The real GDP growth rate of 1.75% for 2011 would give a real GDP in 2011 of €160.05 billion at 2010 prices.  The EBO gives a nominal GDP figure for 2011 of €161.2 billion.  This increase in nominal GDP over real GDP is line with the 0.75% inflation expectation.

But we are not comparing like for like.  The 3.3% predicted real growth rate from last December was based on a €3 billion adjustment.  The 1.75% predicted real growth from last week is based on a €6 billion adjustment.  If we again use a fiscal multiplier of 1.0 for the first year and zero thereafter to allow us to simply add back this extra €3 billion that the government is going to cut from the economy, we get a revised real GDP figure of €160.05 billion plus €3 billion equal to €163.05 billion.

Without the extra adjustment the increase in real GDP is predicted to be from €157.3 billion in 2010 to €163.05 billion in 2011.  This is equivalent to a growth rate of 3.66%.

Last December there was a predicted real growth rate for 2011 of 3.3%.  Excluding the effect of the additional adjustment the current predicted real growth rate for 2011 is 3.66%.  We’re not reducing our GDP growth prediction for 2011– we’re increasing it!

If we carry through the same analysis for the years 2012 to 2014 we get the following results.

We are pinning our hopes to higher growth rates in 2010 and 2011, a largely unchanged growth rate for 2012 and 2013, with the only notable decrease in 2014.  So much for moving away from a “favourable macroeconomic outlook”. 

And this is only achieved with very benign assumptions about the impact of the additional fiscal adjustment on the growth rate.  A more thorough consideration of this effect would probably reveal that the predicted real growth rates for all years have increased.

Did Ollie Rehn really buy into this?

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