News Brendan Keenan

Tuesday 30 September 2014

Brendan Keenan: Waiting for something to turn up is the Government's policy

Published 27/09/2012 | 05:00

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BE careful what you wish for. Those who wanted a slower approach to correcting the public finances may be about to have their wish granted -- although not quite in the way they intended.

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Right now, the omens are not good for the achievement of the budgetary targets by 2015. Many would say they never were, based on the "chasing your tail" dilemma that cutting deficits depresses the economy and therefore makes the targets impossible to achieve.

Events so far suggest that this view is not entirely correct. The deficit has been halved from its extraordinary initial heights. It has to be at least halved again, but that is a smaller absolute number.

These reductions were achieved despite a stagnant economy so the task is not, in fact, impossible.

Yet analysis in last week's quarterly commentary from the ESRI (Economic and Social Research Institute) shows how very difficult it is. So difficult that it can feel next to impossible.

Deficit reduction

The basic arithmetic is simple, and clearly displayed in the Budget figures. Spending cuts and tax rises amount to €23bn since the process got under way in 2009. But the reduction in the deficit is just €9bn. That is an awful lot of pain for the gain.

Progress has been especially slow on the revenue side. Budget announcements of tax rises and spending cuts are simple gross figures giving the size of the changes.

You have to look elsewhere to see the net effect after the impact of lower disposable incomes and higher unemployment.

Despite all the changes -- USC, higher VAT and so on -- government revenues, having plunged €9bn in 2009, have risen by only €1bn since. Day-to-day current spending, which rose by €2bn in 2009, has fallen by just €1.5bn.

The ESRI researchers say this one-third of a bang for your buck seems a poor performance. Their explanation goes back to 2009, and is a startling illustration of the complications of "austerity".

On paper, in gross terms, the late Brian Lenihan's emergency action took a whopping 6pc of GDP out of the economy. But the deficit hardly shifted. The reason was the dramatic fall in prices, as well as in output.

It was considered politically impossible to index social welfare and other benefits downwards in line with deflation, in a mirror image of increases when prices are rising.

That rise in current spending produced the remarkable result, according to the ESRI's tax and welfare model, which was that the 2009 Budget was mildly expansionary!

Since then, the picture seems to be the more usual one that fiscal corrections in a sluggish economy produce cuts in the deficit about half the size of the corrections. In the ESRI's book, real corrections began only two years ago, so no wonder there is still some way to go.

They make an interesting comparison with the corrections of the early 1980s; when Fine Gael and Labour were also in charge.

The 1980s' corrections seemed very rough at the time, but they were only enough to prevent deficits growing. They would have had to be twice as big to make significant reductions.

One can sense that, left to its own devices, the current Government would end up following much the same course, but it has not been left to its own devices.

Option

That option was not available this time. Ireland came close to being excluded from the borrowing markets in the 1980s but held on, just. Its exclusion this time, and the resulting bailout, means the troika sets the terms, although not -- it insists -- the details.

In effect, Garret FitzGerald's coalition, perhaps unintentionally, postponed adjustment while it waited for economic recovery.

This is the course urged by many in Enda Kenny's coalition. The figures suggest it is much closer to that position - also perhaps unintentionally -- than the critics recognise.

This seems as surprising a declaration as a similar claim would have done in 1985. But, thanks to that 2009 Budget, where the deficit remained unchanged, borrowing has fallen by little more than three percentage points of GDP in four years. It is something, but it is hardly dramatic.

Besides, government plans are quite specific that they are waiting for recovery. Over the next four years, the deficit is meant to fall by six percentage points, even though austerity eases off. Growth, you see, will do the trick.

Except, of course, we don't see it. Quite the contrary. The US economy has failed to recapture what most people think is its growth potential. China is using less steel -- a bad sign. Europe is probably in recession.

Perhaps we should not be too surprised by this weakness. It took more than five years from the 1980 oil-driven bust for sustained growth to resume. This is worse, and the five-year mark has not yet been reached.

Even so, there is talk (what economists call "anecdotal evidence") of things picking up a bit. The estate agents' windows are certainly more varied and there is even the odd cheery retailer. Time may yet do a bit of healing -- if we don't run out of time first.

The CSO figures tell us that nothing was happening in the second quarter and I am not suggesting that much happened in this quarter either. But with the Budget likely to be fairly light on the tax side -- although heavy on politics because of property tax -- a fair wind from abroad might stir a few shoots next year.

Europe is the key. It never joined in even the feeble US recovery and now it is shrinking back into recession.

Its leaders appear to be shrinking back into their astonishing complacency, even as recession looms and the ECB bond-buying plans offer a window of opportunity for the kind of action that might begin to turn the euro into a credible currency.

Other analysis shows the Irish economy and public finances desperately vulnerable to even a modest global recession.

It was precisely to provide some ammunition against this that the Fiscal Advisory Council suggested modest increases in what are, in truth, the modest deficit reduction measures from 2013-15.

They were dismissed by a government, which essentially is waiting for something to turn up. If it doesn't, the best option might well be to hold the deficit steady and wait some more. But the option may not be available.

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