Monday 22 January 2018

Brendan Keenan: Few votes in averting crisis as growth is built on construction

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Brendan Keenan

Brendan Keenan

READING the latest quarterly report from the Economic and Social Research Institute (ESRI), the words of veteran US Congressman Barney Frank came to mind.

The financial system was collapsing and then Treasury Secretary Hank Paulson was trying to persuade Congress to approve the bank rescue Troubled Asset Relief Programme (TARP) of $700bn (€642bn).

The USA is a big country but that was a lot of money even for it (although proportionately less than Ireland's rescue bill), especially when it was going to banks.

Mr Paulson explained the disaster which could ensue if the banking system were not rescued; to which Mr Frank sagely replied: "That's all very well Hank, but nobody ever got elected averting a crisis."

Unfortunately for governments the role enjoined upon them, especially since the Great Recession, is precisely to avert crises.

But scarred as people are by the recession, there may be few, if any, votes in policies intended to prevent it happening again.

There are several crises which need averting right now - including Brexit and Trumpery attacks on global trade - where the Irish Government has little scope to affect the overall outcome, but must try to minimise the consequences.

The most curious one in the ESRI report is purely domestic though; how to prevent the economy overheating.

Curiouser and curiouser, as Alice said, because the core of this new threat is none other than our old bogey, the construction industry. You can see why it is beloved of politicians. It is expanding fast again and that means lot of lovely jobs statistics. No other industry can boost, or burst, the economic data quite as fast.

But overheating, so soon after a 15pc collapse in output? Surely not. The ESRI gamely tries to explain this confusing turn of events, wheeling out its new improved model of the economy, COre Structural MOdel of the Irish Economy (Cosmo).

It must be borne in mind that the recession did permanent damage to the economy by way of lost employment opportunities, downsizing of companies and lack of investment in productive capacity. So it may well reach its capacity limits before regaining the peaks of 2007.

This is what Cosmo finds. It is also game of the ESRI to put a figure on that potential, saying the recovery will complete by next year. After that, any growth above potential risks inflationary pressures.

Even braver is the claim that 5.5pc unemployment is as low as the jobless rate can safely go. After falling to 6.4pc this year, that is the forecast for the end of 2018.

The idea that there comes a point when policy should not try to reduce unemployment any further is never popular - and indeed there are all kinds of statistical uncertainties around the actual figure, which might be subject to revision later.

Things get more complicated - construction is driving growth. The building collapse was the major element in Ireland's recession. On international comparisons, the rest of the economy held up quite well. It then made a good recovery from the losses it experienced. Now construction is picking itself up off the floor as well.

More comforting is the ESRI's estimate that the economy's potential growth rate is around 3pc a year. In the depths of the crisis, there was a view that the permanent damage was so great that any growth of more than 2pc a year would be inflationary.

That extra one percentage point would make an enormous difference to living standards over the long-term. The short-term is different, with the economy expected to expand by 7pc over the next two years.

There will be particular discomfort in the fact that part of this rapid growth is down to building and rising house prices. Who knew, for instance, that higher rents count as an increase in consumption and therefore boost growth?

Construction always presents special problems. The birth of the euro might have been different had it not seemed that the German economy had lost some of its pre-eminence. Turns out this was due mainly to the decline in construction after the post-unification boom and nothing had really changed.

Like Germany then, Ireland needs more building, and it is happening. The report points out that construction's share of what might be called indigenous investment rose from 29pc to 42pc over the past two years. Housing increased by almost a half, with the total number of residential units reaching 22,000 by 2018.

The industry needs to kick on from there, with a forecast requirement of 35,000 units of various kinds per year. Other ESRI analysis has queried whether the banking system can provide the necessary loans for such an expansion.

Last week, the trade union-backed Nevin Institute suggested this problem could be tackled by a new semi-state company able to borrow further afield with a better credit rating than the typical developer or builder.

What a pity government's own credit rating did not allow something like this five years ago. If its new improved credit standing is not to be eroded the rest of the economy will have to be managed so as to accommodate the construction boom.

A growing construction industry will make it easier to meet the government's medium-term targets - which are also the EU Commission's targets. This year will see the first significant surplus on day-to-day government spending - €2bn - which will climb to €9bn by 2021.

But unlike other economic factors, construction is supposed to start and stop. It is not possible to smooth demand and supply for stuff as complex as housing, offices and retail space.

When supply has met demand - one hopes some time in the next decade - or if demand falls because of a Brexit crisis, or a Trump-inspired trade crisis, or a euro crisis - it is time to dismantle the cranes and lay off the crews.

That is a big political ask and there is precious little sign that anyone is up for it. It is already clear that the next general election will be fought on the 'fake news' basis of lower taxes and more spending.

It looks even as if the Fine Gael leadership battle will be along similar lines. Mr Varadkar has broken cover with queries about the distribution of taxation, and whether too many people pay too little.

That would once have been party orthodoxy but it will be surprising if the idea of more taxes for those at the lower end of the income distribution makes it into a national campaign. Besides, who ever got elected averting a crisis?

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