The Fiscal Advisory Council has urged the Government to stick to plans for tax rises and spending cuts in the Budget, despite an improving economic situation and stronger tax revenues.

In a pre-Budget statement, the council warned that a premature easing of fiscal adjustment now would increase the risk of further consolidation in the future.

Last week's growth figures for the second quarter show the economy is performing strongly and the Government is getting a lot more tax revenue than it expected at the start of the year.

Minister for Finance Michael Noonan has said the Budget on 14 October could be '"neutral", with no more tax increases or spending cuts needed.

But the council thinks easing back now would be dangerous.

It said the very high Government debt level, which is 1.2 times the size of the economy, leaves the State finances vulnerable to shocks such as recession or interest rate rises.

It argued that a large part of this year's planned €2bn adjustment should come from a mix of tax rises and spending cuts, rather than relying on extra revenue from a rising economy.

This would leave the State far better positioned to deal with its big debt in a gradual way over time, it said.

The council argued the benefits of one final significant fiscal effort outweigh the likely negative short-term economic impact.

Tánaiste Joan Burton has said the Government will look very carefully at what the council had to say.

However, she said what is important and what they agree on is reducing the deficit and building a sustainable recovery.

Ms Burton said the council has huge expertise and it is important to get sustainable recovery and people back to work.

Sinn Féin spokesperson on Public Expenditure and Reform Mary Lou McDonald said she takes issue with any suggestion from the council that moves to bring relief to taxpayers is a message to "let rip" in the economy. 

Speaking on RTÉ's Today with Sean O'Rourke, Ms McDonald said while there was a need for responsible management of the economy, there needed to be relief for struggling families.

"People might be caught in a position where far from facing a neutral Budget, [they] will be facing now into a budgetary cycle - where the propaganda and the headline figures look good - but the reality of the cash in peoples’ pockets is very, very bad," she said.

Important to learn from past mistakes - McHale

IFAC chairman Professor John McHale said he appreciates that people's expectations will increase given recent economic growth.

However, he said the council felt it was important that the Government maintained focus and continued along the path of economic recovery.

Prof McHale said everybody knew the consequences of the "boom-bust cycle" and the negative impact this had on many people in recent years.

He said it was important that policy makers learned from this and insured the mistakes of the past were not repeated.

Based on Exchequer returns data to the end of August (and assuming no further revenue growth) the IFAC estimated that a €2bn adjustment will leave this year's Budget deficit at 3.7% of GDP, and next year's will be 1.9%.

This would be well inside the 3% deficit target for next year.

However, IFAC said 3% should be seen at the maximum tolerable level for the deficit, which should be brought lower to improve the ability of the State's finances to withstand economic shocks without the need for further consolidation measures.

It said its estimates face upside and downside risks, as they do not take into account an overrun in health spending beyond an assumed level of €500 million, improvements in nominal GDP contained in the most recent quarterly growth data, or savings from an early repayment of IMF loans.

In effect, the council urged the State to bank any unexpected gains from stronger than forecast growth and continue with the final €2 billion adjustment.

It said making permanent - or structural - measures to improve the State's finances will have long lasting benefits, unlike revenue gains from an upswing in the business cycle.

The council said debt levels remain very high, with general Government gross debt of €215 billion in the first quarter of this year, or 122% of GDP.

There is still a large gap between revenue and expenditure, estimated this year at €7 billion, which is being borrowed and which adds to the debt pile.

It pointed out that Ireland's debt ratio is the fourth highest in the euro area, and is over 30 percentage points higher than the Euro area average. It said consolidation measures introduced in Budgets since 2008 have stabilised the debt level, but more is needed to reduce the debt to safer levels.

The council said that while considerable progress has been achieved in reducing Ireland's structural deficit, it is highly likely that at least some of the remaining deficit is structural.

Failure to address this now could mean that a return to a more restrictive fiscal stance in future budgets could be needed to keep the public finances on track. It warned that would be costly and difficult to achieve.

It also warned against eroding or constraining the State's ability to raise further revenues, and said a growing and ageing population will make it very hard for the State to keep control of its medium term spending plans.

The council warned that there is little or no room to increase Government spending over the medium term.

'Challenging' expenditure benchmark predicted

The EU expenditure Benchmark - a technical measure designed to ensure that governments only increase spending in line with economic growth or increases in tax revenue - and the more ambitious national expenditure ceilings introduced by the Government - will be "extremely challenging", the council claimed.

Under the Expenditure Benchmark for Ireland for the years 2014 to 2016, aggregate spending growth is limited to minus 0.7% in real terms. It said the Government's own spending rules imply a larger real reduction in spending than required to comply with EU rules.

IFAC said the ongoing Comprehensive Expenditure Review - being carried out by the Department of Public Expenditure and Reform - should be used to identify spending priorities and efficiencies so as to limit the damage to public services and protections.  

However, it said: "Given the underlying pressures, care needs to be taken in pursuing policies that reduce revenue raising capacity or introduce significant new spending commitments as part of a scaled back adjustment package."

It also questioned whether the size of the Budget surplus required to start paying down the very high Government debt level can be maintained. 

The stability programme update published in April implied a primary Budget surplus (i.e. a surplus of income over expenditure before debt service costs) of 3% of GDP would be required for several years to set the debt firmly on a downward path toward safe levels.  

It cited recent research on 54 countries suggesting that while there have been a few examples of states running 3% surpluses for up to five years, "instances of larger and longer surpluses than this are rare in a historical context".

It said maintaining the fiscal discipline required to achieve primary budget surpluses will become politically harder as crisis memories fade.

There is also "a risk that public fatigue with prolonged fiscal retrenchment could make it difficult to achieve the primary surpluses needed to reduce the debt/GDP ratio significantly.

In this environment it is questionable that the right course of action is to now scale back to a significant degree on what was to be the last big push in the adjustment plan", the council cautioned.