Tuesday 25 October 2016

Fiscal space balloon is losing altitude

If we end up in crisis again it will be because we have made the same mistakes, writes Colm McCarthy

Published 10/04/2016 | 02:30

Central Bank chief economist Gabriel Fagan
Central Bank chief economist Gabriel Fagan

The fiscal space balloon has been losing altitude since its release during the election and the Exchequer figures for the first quarter bring it even closer to earth. There was another big overshoot on the health budget and the earnest discussions in Government Buildings are about schemes to dispense largesse which does not exist.

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Six weeks after the election there is no sign of a stable government. Populist pressures on the public finances have been building and the absence of a government encourages further demands. The latest is the push for public service pay increases. Every political group appears to favour easier mortgage credit and have been leaning on the Central Bank to relax the rules introduced last year. Some news media have even been linking the two issues, justifying pay pressure as a reflection of the loan-to-income limit in the mortgage rules. The circularity is complete and a dysfunctional housing policy is to be kissed better with easy credit and pay inflation.

The crash in 2008 had its principal source in the credit bubble and subsequent insolvency of the banks. The result was the State's inability to fund itself and resorting, for the first time since Independence, to rescue by official lenders, the IMF and European institutions. A factor contributing to this disaster was the failure to control public spending through the bubble years, including the public pay bill. If Ireland ends up once again in a financial crisis, a repetition of the same failures is the most likely source. The news outlets championing a repeat performance have short memories. Senior public servants have issued cautions against a repetition of these two policy errors.

The week before last the Central Bank's chief economist, Gabriel Fagan, explained that mortgage lending caps were introduced for good reasons and are here to stay. Last week Robert Watt of the Department of Public Expenditure briefed journalists about the evolution of public pay costs, explaining that pay rates have already been increased, and extra numbers have been recruited. More increases and more recruitment have been agreed and are in the process of implementation. He could have gone on to point out that direct taxation of personal incomes has also been eased, and that consumer price inflation is zero. The real income squeeze on public servants is already over.

That the two officials should feel the need to make these interventions reflects the absence of a functioning government and the inattention of some journalists. The Central Bank enjoys operational independence and it will not cave in to irresponsible demands from politicians for a new mortgage bubble. There is no such certainty that the gathering demands for a further public pay round, additional to the Haddington Road awards, will be resisted. There are good reasons why they should be resisted, including the precarious state of the public finances and the absence of evidence, beyond the assertions of trade unions, that public servants in Ireland are poorly remunerated.

The public finance crisis is not over - contrary to the impression created during the election. The Government is still a net borrower and State debt continues to rise. It is true that debt has fallen relative to output as measured by GDP but continues to rise in money and in inflation-adjusted terms. There are doubts anyway about the reality of the GDP growth figures, arising from the impact of multinational companies. The international debt markets are indulgent of over-borrowed eurozone countries right now, thanks to the commitment of the European Central Bank to support the sovereign bond market for a further 12 months. Beyond that date there is no guarantee of cheap borrowing and there is a mountain of maturing State debt to be refinanced.

There are threats to the recovery outside the control of domestic policy. Most recently the value of sterling against the euro has weakened on fears about a possible British exit from the European Union. This is bad news for countries for whom the United Kingdom is an important trading partner. The era of ever-declining oil prices seems to be over too. Next week the IMF is expected to release another downgrade of its forecast for the world economy. The recent recovery here in Ireland could prove to be sustainable anyway, but there are no guarantees.

There are two strands to the emerging campaign for an extra public service pay round additional to the increases already granted under the Haddington Road Agreement. The first is that public servants are paid poorly (recruits are living "in poverty", according to the union representing gardai). The second is that salaries are inadequate to attract recruits. Neither argument holds water. A newly-trained garda, after 32 weeks in Templemore, starts at €23,750. But there are payments for unsocial hours, overtime and other allowances. The actual average pay for a garda on frontline duty after one year on the job is €31,000. After seven years the basic is €42,138 and actual earnings average around €50,000. For un-promoted gardai (below the rank of sergeant) at mid-scale, the average gross pay at present is over €60,000 including all allowances and overtime. You may feel that this is not enough for a tough job but it is propaganda to describe it as "poverty". Teachers are not on the bread-line either: the scale for new entrant teachers runs from €30,702 in the first year to €59,940 on the top of the scale.

The restrictions on public service recruitment were lifted in January 2014, since which date the total has risen by 10,000 net of retirements and resignations. Most of the net increase has come in education and health with growth also in the civil service and in the gardai. A Garda recruitment campaign at the beginning of 2014 attracted 25,000 applications; 700 were chosen for training, of whom 550 have entered service. A new recruitment campaign is under way and has attracted 17,000 applicants so far, of whom 450 will be chosen for training. These numbers do not suggest that the package is inadequate to attract recruits.

In the central civil service about 4,000 appointments have been made from 63,000 applicants. Teacher numbers are up by 3,000 net, with no shortage of applicants for vacancies and strong Leaving Cert points needed for teacher training.

Should a government be formed, an immediate priority should be to inject some reality into the discussions about public service pay. Are public servants poorly paid, relative to those in the private sector and in comparable public employment in the UK and elsewhere? The best way to compare, taking account of pensions and job security, would be a thorough benchmarking exercise, done openly and with all details published.

The other priority is to let the Central Bank get on with its review of the mortgage lending caps. My guess is that the conditions for any relaxation do not exist. But the national central banks in the eurozone have statutory independence in regulating the prudential lending rules and cannot be bullied into irresponsible decisions by politicians. The best contribution the Government can make to housing affordability, particularly in the Dublin area, is to loosen supply and get house prices down to what public officials on decent pay can prudently finance.

Sunday Independent

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