Wednesday 26 October 2016

The past is not a certain guide to future successes

Published 22/10/2015 | 02:30

Is it deja-vu all over again? Budget Day would have brought a tear of nostalgia to the driest eye. Two billion euro of spending increases, mysterious fiddling with debit card fees, and threats of strikes from none other than the train drivers and teachers. I could almost feel my hair turning black.

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These dreary steeples, and the integrity of their quarrels, have survived the deluge. So has much else. The obvious, if somewhat harsh, conclusion is that no lessons have been learned. There is still time to do things differently, but perhaps no more than a couple of years before we are back on the old primrose path.

Which lessons, though, and what to learn from them? That familiar old feeling was strengthened by the fact that wage pressures are already looming. The banking crash has rather erased memories of things like benchmarking, blue flu and spurious productivity deals, but it should not.

The advantage of looking back is that things can be seen more clearly. But not always that clearly, as a new paper on Ireland's competitiveness illustrates. The research, by economist Rory O'Farrell, who works with the OECD in Paris, appears in the latest edition of the Economic and Social Review.

Competitiveness, whatever exactly it means, is a relative measure and the wage moderation since 2008 has created cost advantages over the eurozone, while exchange rate movements have been favourable against both the UK and USA.

The trade unions responded by quoting smaller rises in unit labour costs, which measure how much output is produced by those paid the wages, and not just the wages themselves. They would also cite higher Irish prices as justification for higher Irish wages.

Ah yes, would reply the employers and even the state development agencies, but the presence of foreign firms making things like blockbuster drugs artificially boosts output, and high wages are partly the cause of high prices. O'Farrell's analysis agrees that all these things are indeed connected, but in fiendishly complicated ways.

And one simple way. Data graphs often start in the bottom left hand corner, which is a good way of showing relative changes over a particular period. But, though it may look that way, it doesn't mean everything was at the same level at the start of the period. Yet it is often interpreted as if it were.

This was the case with competitiveness. It is accepted that Ireland was "super-competitive" after the 1990s devaluation. Much of that had been whittled away by 2000. The big questions are how much ground was lost from 2004-08 and, even more important, how much was regained during the recession. O'Farrell argues that, in trying to answer those questions, it is not enough to look at wages.

For him, falling wages played a minor role in whatever gains Ireland made. Almost a third of firms said they cut wages, but a greater number said they paid increases. O'Farrell uses "nominal unit labour costs," which are cash wages divided by real output (deducting inflation), as his preferred measure. It is only preferred. When it comes to cross-country comparisons, he quotes the statistical agency Eurostat; "The 'perfect', multi-purpose indicator... simply does not exist."

The impact of the crash itself changed unit costs. Think of the near 200,000 building workers, many foreign, swarming over the housing sites, or the thousands more feeding the red-hot tills in the bars and restaurants. In a flash they were gone and the only hot thing left was the export sector - also mainly foreign but by no means entirely.

That is the puzzle. If wages in Ireland were uncompetitive, how could Ireland improve its export position so rapidly, and quickly move into surplus with the rest of the world, even though there was no general fall in wages?

A lot of work has been done, especially by the state development agency Forfas, in trying to unravel the puzzle. The presence of the multi-nationals, the more recent presence of firms which are merely headquartered here, and the growth of contract manufacturing all make it difficult to measure productivity in any meaningful way, even before one gets to international comparisons.

Wages themselves may not have fallen much overall, but they did increase rapidly during the boom. From 2000-08 compensation per worker rose by an average 4.7pc a year, while real productivity grew by just half a per cent. In the really booming sectors productivity actually fell.

One tends to think of competitiveness as applying only to the trading sector, especially manufacturing. In manufacturing, productivity grew an average 3.2pc a year in the early part of the decade, accelerating to 5.4pc a year from 2008, almost six times the rate in the EU-15. But all is not at it might seem there either. Jobs were more likely to be lost during the recession in smaller, Irish-owned, firms, which tend to be less productive. Marrying this with pay leads O'Farrell to conclude that roughly half the change Irish manufacturing unit labour costs compared with the EU-15 was due to these shifts in the type of firms within manufacturing.

By their fruits you shall know them, perhaps. Ireland's share of exports to its main trading partners did fall during the boom, but grew during the worst of the global recession, from 2007-09. Equally, the wage share of output increased by almost 12pc from 2000-08, but fell by a similar amount since.

Then there are the things which are outside our control, notably exchange rates. Irish owned firms were hit badly by the fall in sterling at the start of the crash, although they may have benefited from the difference in UK and Irish inflation rates which followed. By 2012 the sterling exchange rate was back to where it was in 2008 and since them has moved in favour of Irish exporters.

It is also the case that, while Irish waged did not fall markedly, they have risen more slowly than the Eurozone average since 2008; a difference of more than 11pc lower by 2014. O'Farrell's conclusion is that the fall in unit labour costs is mainly due to the collapse of the labour-intensive building industry, rather than a fall in costs within other sectors.

As for matters outside our control, the paper points out that so are interest rates and, by and large, inflation. That leaves wage bargaining and fiscal policy as the instruments to manage costs and prices.

The experience of social partnership bargaining was deeply dispiriting and as for fiscal policy, what can be said after last week's Budget?

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