Things will get better, but never so good again
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FACED with the devastating analysis from the Economic and Social Research Institute (ESRI) today, there will be much comment as to whether we are back to the 1980s.
The right parallel is further back -- not the 1980s, but the 1970s. The dreadful crisis of the 1980s was the result of the failure to deal properly with the severe downturn which began in 1974. The task this time is to learn the lesson and make sure we do not turn this downturn into a prolonged crisis.
This probably is the most severe correction the economy has faced in those 30 years. There are eerie parallels. That one followed a domestic boom, described back then as "unsustainable" by the Central Bank. Oil prices rocketed, the economy stopped growing and unemployment rose to 9pc.
Yet the economy is probably in better shape facing into this recession than it was in the 1970s. Wage and price inflation were incredible by today's standards. Prices rose 20pc in 1974. Wages went up by 30pc. Rather than deflate the economy, the government chose to borrow. Just as now, the government had only a small borrowing requirement when the crisis broke. Within four years, it was borrowing 10pc of national income.
This illustrates the first problem facing today's Government. It must not panic over the steep rise in borrowing as the economy goes into recession. On the other hand, it must not use further borrowing or, just as bad, higher taxes, to evade the tough choices which will have to be made to return the economy to sustainable growth as quickly as possible.
That remains an achievable goal. The most significant figures in the ESRI report are not the ones which grabbed the headlines -- however scary those headline-grabbing numbers are.
They are the ones showing what the economy was doing over the past few years -- if one removes the impact of the house-building boom. That economy was doing very nicely. After averaging 3pc growth in the wake of the 2002 downturn, it grew at around 6pc a year. Even this year, the ESRI calculates, as the world economy splutters and stalls, the Irish economy will grow by over 4pc; if you forget about housing.
But you can't. The collapse in house building will wipe out all the other gains this year, leaving the economy in recession -- where total output falls -- for the first time in more than 20 years.
But the housing slump is a temporary phenomenon. House-building should cease dragging the economy down from the end of next year, as the number of houses built stops falling. The question, therefore, is how to cope with problems of the next couple of years, and what will happen after that?
As to the first, Brian Lenihan had better use the housing argument when he has to tell the EU Commission and his fellow finance ministers that the once-mighty Tiger economy is going to break the EU rules on borrowing in 2009.
By quite a bit, as well. The report reckons that the deficit on the government finances next year will be 3.9pc of output (GDP). That is a long way from the 3pc laid down in the rules, and even further from what would be regarded as a prudent budget position.
The politics of this are fascinating in themselves. By then, we will know whether Ireland is some kind of semi-detached member of the EU, fully returned to the bosom of Europe, or something in between, like a black sheep of the family. The amount of sympathy and tolerance Ireland gets may depend on the answer.
A sensible commission response would be that the effects of the housing slump are a one-off, that it would-be counter-productive to cut spending on infrastructure, and that the Budget should be returned to balance when normal growth resumes. This external refereeing would have been very useful in 1975. The fact is, it is very difficult for governments to return to fiscal prudence unless there is some outside pressure upon them.
Because it is going to be very tough. The ESRI estimates, bad though they look, are based on the Government getting the growth in public spending down to something like 6.5pc next year.
That is a third less than this year's budgeted figures, and half the growth of last year (and several years before that). Hence, senior researcher Alan Barrett's comment that governments "blew" the temporary windfalls from the building boom.
Now spending-growth must be cut in a stagnant economy, where living standards have stopped improving and unemployment is around 7pc. It is hard to envisage what the effect will be on public services, which have gorged themselves on money to little discernible purpose. It is hard to see how anything can be achieved without a virtual public sector pay-freeze for a few years.
Not even the anticipated recovery from 2010 can yet be taken for granted. The ESRI assumes just one rise in ECB interest rates, a stabilisation of energy prices and a global recovery in mid-2009. There is no guarantee that any if these will turn out to be correct.
A strong Irish recovery may require some significant improvement in competitiveness, without any help from a falling currency. The biggest challenge is to accept that, if and when such a recovery comes, the future will still not be anything like the recent past.
Government-spending growth will have to stay permanently below 7pc a year, although there will be scope to switch from investment to services. Living standards will have to rise only in line with productivity. Consumption will have to be less conspicuous.
After what might be called a wild adolescent spree, the economy has matured. Its inhabitants will have to do the same.
