Friday 21 October 2016

It's summer for the economy but exotic plants need care

Published 02/04/2015 | 02:30

THEY re-buried Richard III last week and everyone was quoting Shakespeare's opening line: "Now is the winter of our discontent made glorious summer." Which indeed it is.

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Remember all that talk of "green shoots?" Nobody knew what these tentative plants might be, or where they might appear. Now we can see, not only that they are blooming, but what kind of bloom it is.

As would have been expected, this flowering of the economy has been led by exports, followed by investment. That includes construction, the collapse of which did the most direct damage to the economy, but which is also an engine of recovery.

Building investment is up 15pc year, and associated jobs with it. In its quarterly commentary last week, the Economic and Social Research Institute (ESRI) speculated that the fall in long-term unemployment might have a lot to do with workers returning to the building sites. But the starting point is well below normal - something to be borne in mind always when talking about recovery. The report sees house construction rising to 18,000 units next year but that is well below the 25,000 new units it believes are required.

We know lots of other things better too. The descent into economic depression was unknown territory. The past was no guide and forecasts were even more than the usual informed guesswork. Now, there can be quite a bit of confidence around the ESRI's estimate of 4pc growth in national income (GNP) this year and 3.5pc next year.

The normal caveats apply of course, such as trouble on the markets from the Middle East. The imminent Chinese crash is always with us. But the "barring accidents" scenario looks very comfortable, with recovery in the Eurozone adding to continued growth in the US and UK.

There is a reassuring feeling of normality about these figures. It is not just good news, it is what we were used to. I have sympathy for those who have not yet enjoyed much from the recovery - a lot more than I did for the many who claimed to get nothing from the boom. Even so, the undoubted fact that a lot of people are still in a lot of trouble does not contradict the speed at which things are getting better.

It is not, however, all as familiar as it may look at first sight. There is a new set of unknowns in this situation - other things which have not happened before. It is hard to predict their consequences and even harder to know exactly what to do for the best. The ESRI mentions one fairly obvious one; the high level of household debt. People are still reducing those debts, whether because they want to or because their banks are forcing them to. The latest figures show credit still falling.

As a result consumer spending - the biggest single component of economic activity - may not grow as fast as in previous recoveries. The commentary suggests growth of less than 5pc over the next two years.

A less obvious phenomenon is the fact that government interest rates and inflation are both around zero, or even less than zero. This really has never happened before and all kinds of of responses can be suggested, especially on government debt.

The ESRI thinks the deficit will disappear and debt fall below the psychologically important level of 100pc of GDP from the end of next year. It's worth remembering that this would mean tax revenues are sufficient to cover almost €7bn of interest payments, as well as the cost of running the country.

Such figures surely prove the case for not allowing debt to grow faster than the economy, and even to reduce that ratio as quickly as possible. Another difference from the past is that governments can also reduce the interest cost by swapping old high-interest loans for new miraculously low-interest new ones - while the opportunity lasts.

This also presents an opportunity (or is it a temptation?) to reduce debt more slowly than would be the case if interest rates were at their historical averages of around 5pc.

These ESRI forecasts are based on "neutral budgets" where there is no increase or reduction in the deficit as a result of policy changes. Those revenues will grow by €5.5bn over the period, while day-to-day spending shows an increase of less than €1bn. But that is not how it will be.

Instead, budgetary policy will be designed to reduce tax revenues and thereby increase the deficit in advance of the next election. There is nothing unprecedented in that - quite the opposite - but the EU rules on spending are a new phenomenon which may limit government freedom of action.

SIPTU president Jack O'Connor has calculated the allowable spending limit to be less than half a percent of GDP. In his customary vigorous style, he warned that this could "strangle the recovery". That may be going too far but it would certainly throttle some of the more ambitious vote-buying strategies. This combination of circumstance means we remain in uncharted territory. The Government - and anyone who hopes to be in government - will have to learn to manage politics in a new framework, with considerable constraints and some unexpected advantages.

The political cycle cannot be abolished, no more than the economic one. The skill is in combining the two. Several analyses have noted that the political cycle in the economy seems unusually extreme. That does not mean Irish politicians are necessarily more cynical than those in other countries - the competition is too hot for that. It does mean that, in recent years, they have been more incompetent.

Bertie Ahern grossly overplayed his hand, doubling his bets at each election until he lost everything, for his party and his country. Fine Gael and Labour had a quarter of a century to watch and learn while seething on the opposition benches, but appeared to learn nothing except the supposed virtues of Ahernism.

They thereby wasted the critical first two years of their government dithering and squabbling, but now have at least a chance to play a cleverer game. If things go as forecast this means that a competent government must tighten things up early in the next Dail, both to stabilise a growing economy and prepare the ground for the next political cycle.

For what it is worth, a strategy along those lines is implied in George Osborne's recent UK Budget. Getting elected is only the start. Richard III thought it glorious summer once he had achieved the crown but a car park in Leicester awaited.

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