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Growth in the economy is good, but not yet great


Investors looked set for another white-knuckle day as Chinese, Hong Kong and Japan shares dipped in and out of negative territory

Investors looked set for another white-knuckle day as Chinese, Hong Kong and Japan shares dipped in and out of negative territory

Investors looked set for another white-knuckle day as Chinese, Hong Kong and Japan shares dipped in and out of negative territory

Understanding how an economy is doing in the short term is usually best measured by how much it is producing and how many people it is employing. Hence, economists speak, mantra-like, of "output and employment" when discussing the clip at which an economy is motoring. Although more than a few countries have experienced periods of "jobless growth" (ie when output expands but employment doesn't) the two measures of GDP and jobs usually evolve in similar ways.

The publication three days ago of Ireland's quarterly GDP numbers (for the April-June period of this year) provided yet more evidence of a broad-based and strengthening recovery. There was little in the data to disappoint and much to celebrate, even if the tigerish growth rate of 6.7pc year-on-year exaggerates considerably the pace of recovery.

The latest figures underscore why Irish output numbers need to be treated with ever greater caution. That is because of the large presence of multinationals in the Irish economy, which, in various ways, flatter the headline GDP numbers, as do more recent changes to accounting rules which inflate the investment component of GDP.

Showing just how marked this effect is can be best done by looking at the gap between growth in GDP and jobs in Ireland, and then comparing that gap with our peers.

Consider the peers first. The eurozone economy was producing less last year than it was six years earlier when the crisis started - GDP was more than 1pc down on the 2008 peak. The numbers at work were down by 3.5pc, a small if not insignificant gap between the output and employment measures, as the first chart illustrates.

At the bad end of the growth spectrum, Greece has suffered a one quarter decline in both jobs and GDP. At the better end, Britain has seen both output and employment rise by 4pc.

Ireland is very different. Remarkably, given the severity of the crash, the Irish economy has been among the faster-growing economies in Europe and is among a minority whose GDP was higher last year than in 2008.

But anyone who has not been on another planet since 2008 will know there is something very fishy about this. These suspicions are confirmed when the employment pattern is considered.

The number at work in the Irish economy last year was a massive 10pc below 2008 levels, one of the worst performances in Europe.

What is also clear, and clearly depicted in the first chart, is that the divergence between output and employment in Ireland over the six years to 2014 was larger than any other European economy of any significant size (Spain does come close, with employment also having declined by much more than output).

As the headline rate of GDP is an increasingly irrelevant measure of activity for Ireland, let's focus here on the more reliable components of GDP, rather than those which cause so much distortion.

Among the spending components (as opposed to the breakdown by industry sector), the biggest is private spending on consumer goods and services. It is not only far bigger than the other components of the domestic economy (spending on investment and spending by government), it also among the best indicators of how the average Joe is doing.

The requirement to pay down debt, depressed wage growth, increased savings rates and austerity all took their toll on consumers during the recession and did so over a protracted period. The contraction in private consumption didn't reach bottom until 2013, by which time it was down by almost one tenth from peak.

Over the past 10 quarters it has recovered, but only modestly. That it has risen 6pc over those two and-a-half years reflects more accurately the overall pace of recovery than does the headline GDP rate.

As the second chart shows, the component showing the biggest increase in recent times has been investment. The amount spent on investment collapsed when the crash came, falling by almost half - far more than any other component. But it has rebounded very sharply over the past two years. While there is no doubt that there has been a turnaround, much of the sharp growth is the result of an accounting change, so - yet again - caution is needed in interpreting this data series.

Overall, and as the second graph also shows, all components of domestic demand remain below their 2008 peak levels.

As already mentioned, the noise in Irish output statistics means that the number of people employed in the economy is a better indicator of economic health than the level of activity as measured in GDP. And it will take another few years, at the very least, before employment recovers to pre-crisis peaks. As such, talk of having fully recovered from the crash is simply wrong.

A second important set of figures was also published last Thursday. The balance of payments records a country's transactions with the rest of the world. Included are earnings for exports and payments for imports, along with income that Irish residents get from foreign assets and income foreigners earn from Irish assets. Putting all these moving parts together allows one to see whether a country is paying its way in the world.

During the boom, a big deficit between foreign income and earnings required large sums to be borrowed from abroad to fund the gap. Things rebalanced after the crash in 2008. Led by strong export growth, this turnaround partly explains why Ireland's economy performed better than other bailed-out European countries.

In the second quarter of 2015, the new figures show that the economy was in surplus with the rest of the world to the tune of €2.7 bn - a considerable increase from this time last year. In terms of exports, both merchandise and services recorded growth.

Computer services, which account for almost half of all services exports, had a good year-on-year performance. Financial services did well too.

Earnings in the important tourism sector are included in the balance of payments as an export. Income from the sector rose by a whopping 19pc year on year, helped by a weaker euro. While these earnings are dwarfed by others, such as the aforementioned computer services, the impact is much greater than the figures might suggest, given the manner in which tourist spend is felt in so many local economies.

While all this appears quite positive, unfortunately there are caveats that accompany these statistics too, again due to the presence of multinationals and the IFSC. Moreover, recent revisions have shown that the surplus on the balance of payments in recent years was not as big as it first appeared.

This suggests that competitiveness gains have not been as big as was first thought. It also means that, as Ireland Inc owes the rest of the world a lot of money, the economy needs to record surpluses on its balance of payments over a long period if it is to have the wherewithal to pay down those debts.

The news on the economy last week was good, but not as great as much of the chatter might suggest. We are going in the right direct and moving at a good speed, but there is a still a distance to travel.

Sunday Indo Business