Leaving the euro might well be our 'least bad' option
AS the scale of the fiscal adjustment required in December's Budget continues to climb, the 'cure' risks killing the patient.
With the ESRI now predicting that further tax increases and spending cuts of up to €15bn will be needed to meet the Government's target of cutting the budget deficit to 3 per cent of GDP by 2014, Ireland faces the bleak choice of either quitting the euro or facing a decade or more of depression and deflation.
This week the ESRI, which normally closely reflects Government thinking on the economy, broke ranks and publicly questioned whether sticking to the target of reducing the deficit to 3 per cent of GDP by 2014 made sense. Instead the ESRI argued that we should push out the target date to 2016.
While stretching the deficit-reduction period from four to six years would, superficially at least, be less traumatic for the economy, it doesn't address the key issue. This is that, when combined with the near-€15bn of tax increases and spending reductions the Government has already imposed since the October 2008 budget, almost €30bn -- close to 25 per cent the value of our current annual output -- will have to be taken out of the economy to achieve the 3 per cent deficit target.
Is the Irish body politic robust enough to survive such a shock? Under current circumstances I'm not sure that's an experiment I would wish to be conducting. Matters are likely to come to a head when, after having gone cap in hand to the European Central Bank (ECB) and the International Monetary Fund (IMF) early in the New Year for assistance in rescheduling our debts, the Irish economy still shows no signs of recovering by the middle of 2011.
If, after swallowing all of the unpalatable medicine prescribed by the IMF and the ECB, there is still no improvement in our economic circumstances, our continued membership of the euro will very quickly become an issue. In fact the only surprise is that it hasn't already done so.
In virtually every sovereign debt crisis in which it has been involved, a central part of the IMF's shock therapy has been a hefty currency devaluation. By making exports cheaper and imports dearer, it helps offset the impact of public spending cuts.
Unfortunately our membership of the euro deprives us of this safety valve. Instead, we are condemned to a decade or more of deflation and depression. While this might win us kudos in Brussels and Frankfurt, Irish voters are likely to prove less tolerant.
And guess what? They will almost certainly be right.
While reverting to an independent Irish currency, which would trade at a significant discount to the euro, would not be a cost-free option -- far from it -- it is almost certainly the least-bad choice we face.
Leaving the euro would not force us out of the EU. Several prosperous EU members, including the UK, Sweden and Denmark, have retained their own national currencies. Neither would it impair our ability to attract overseas investment as, not alone would we retain access to the Single European Market, the cost of doing business in Ireland would plunge when converted into euro, sterling or dollars.
Finally, with the exception of the banks, who have been forced to sell their overseas operations, leaving the euro would be very good for most of our leading quoted companies. These include CRH, Kerry, Aryzta, Smurfit, Ryanair and Grafton, which do the bulk of their business abroad, as the foreign exchange they earn overseas would be worth much more when converted back into Irish currency.