Thursday 22 August 2019

Why it's all too easy to sleepwalk into the next crash

'Our performance for four of the last five decades has been mediocre at best, with the Celtic Tiger period being the exception'
'Our performance for four of the last five decades has been mediocre at best, with the Celtic Tiger period being the exception'

Eoin O'Leary

It has recently been argued in these pages, that sooner or later Ireland will experience another crash. I would agree - and would argue that the lack of institutional reform since the most recent crisis would suggest that we are sleepwalking into the next crash.

In my recent book on Irish economic development, I argue that "serial under-achievement" best describes Ireland's progress since 1970.

Our performance for four of the last five decades has been mediocre at best, with the Celtic Tiger period being the exception. One of the main causes of under-achievement has been the Irish policy mind-set which I liken to a split personality.

Outwardly, Ireland Inc has been successful in attracting foreign businesses and lobbying governments. But inwardly, our pre-disposition to lobbying and rent-seeking has resulted in recurring self-inflicted crises.

Why have our policymakers been such slow-learners?

Since the 1990s, Ireland has become synonymous with large foreign-owned multinationals in the pharmaceutical, ICT and financial services sectors that have been hugely successful in using the country as an export base. The majority of these businesses have been engaged in productive activity in the country, due in part to the flair and commitment of their management and workforce.

This is the untold story of successful Irish entrepreneurship, as the transformation of many Irish multinational subsidiaries from manufacturing to service-based activities over the decades has been brought about by the guile of Irish-based managers who have innovated to maintain and grow the importance of the Irish operation within these corporations.

Without the continued buoyancy of these businesses exports, Ireland would not now be forecast to be the fastest growing economy in the EU in the coming year.

Ireland's economic development policy since the late 1950s can be characterised as 'industrialisation' - and more recently 'innovation, by invitation'. This means we have relied to a considerable degree on imported entrepreneurship. We have never had to seriously confront the problem of developing our country completely through indigenous enterprise.

Most other countries have never had this choice. For example, Finland has had little choice but to develop on the back of indigenous industry. It successfully built a world-class cluster around Nokia - and continues to perform exceptionally well, despite its current short-term woes, being ranked fourth in the recent Global Competitive Report (Ireland is ranked 25th).

Ireland has been unable to successfully develop world-class indigenous entrepreneurship to any significant scale for many decades.

It is well known that part of Ireland's attraction to multinationals has been its long-standing favourable taxation regime. This has had the effect of distorting Ireland's levels of productivity, exports and R&D spending - and has given rise to unique statistics about the Irish economy that are frequently glossed over in official rhetoric.

For example, Ireland's top 10 foreign businesses account for approximately one third of our exports. Few other countries in the world have such a strong exposure to a small number of large businesses.

Furthermore, the average productivity of the three largest foreign businesses are a huge 17 times that of our two largest indigenous enterprises.

This enormous differential is not real; it can only be attributed to Ireland's low corporation tax regime which results in massive overstatement of productivity levels in foreign-owned businesses.

Our governments were clearly successful since the 1980s in lobbying for EU agreement on our attractive taxation policies. Yet this has increasingly been seen as detrimental to the tax bases of other countries. This is why accusations of Ireland being a tax-haven can be levelled against us.

Since the 1980s tax competition between countries has been increasing in intensity, with the average corporation tax rate among developed countries declining from 46pc in 1983 to 27pc in 2012.

In future, as tax rates fall, Ireland's continuing attractiveness to multinationals through low rates will be seriously threatened. Unless policymakers develop a fuller understanding of the location advantages of Ireland and develop policies to support these, escalating tax competition could seriously undermine future Irish prosperity.

Since Ireland joined the EU in 1973, governments have put great stock in their ability to lobby in relation to the Common Agricultural Policy. However, by detaching rural communities from the discipline of the market, this policy has undermined the entrepreneurial vibrancy of agriculture and food processing.

The result is an over-reliance on commodity production, at the expense of innovation. This problem is being replicated in the surge of milk production following the recent removal of the quota. Truly innovative businesses would be reluctant to compete in markets where they have no control over price.

Tourism, which is also a successful exporting sector, has under-performed due to a lack of institutional focus on business development over many decades. Tourism should be acknowledged as a potential source of sustained prosperity in many Irish urban and rural areas. As a starting point, policymakers should cease to lump this sector with the ministries of transport and sport.

When it comes to sectors that are not traded internationally, the government tendency to accommodate rent-seeking over policies supporting productivity has had hugely detrimental effects.

There is compelling evidence of an unhealthy relationship between property developers and Fianna Fail, which combined with light-touch financial regulation contributed to the collapse of the property bubble after 2008 and the subsequent arrival of the Troika.

However, escalating wages, fed by the public sector benchmarking debacle was a source of rising housing demand during the 2000s. Rising wage costs were partly due to government acquiescence to calls for 'payback-time' by trades unions. In addition, from the early 2000s the escalating (non-pay) costs of doing business undermined Irish competitiveness, partly due to the failure by government to deal with anti-competitive practices in Ireland's sheltered sectors.

Yet the tendency to pursue re-distribution at the expense of growth also existed before the Celtic Tiger, where trade union militancy and inappropriately expansionary fiscal policy brought the country very close to a bail-out in the mid-1980s.

Indeed, Ireland's economic stagnation during the 1950s (due to its misguided pursuit of protectionism since independence), was also associated with anti-competitive policies that facilitated cartels of businesses and unionisation of the workforce.

For Ireland to be a high-performing EU state in the next number of decades would necessitate fundamental changes to these deep-seated policy mind-sets. There are opportunities through the EU's smart specialisation agenda to move in the right direction.

This would focus on entrepreneur-led bottom-up development, with policy being more evidence-based and resistant to the embrace of rent-seekers.

However, it is far from clear that our policy-making is capable of rising to this worthwhile challenge, which is a requirement for eligibility for future EU Cohesion funding.

Depressingly, the official response to smart specialisation (by the government-appointed Research Prioritisation Steering Group) involved a top-down exercise of identifying 14 priority areas for future investment in publicly-funded research.

This is clearly out-of-step with the requirements for smart specialisation.

There is an ingrained reluctance in government to accept that we should back rather than pick winners; that entrepreneurs are in a better place to discover profitable lines of business than appointed committees of central government; and that genuine decentralisation of control and responsibility is necessary in order to promote sustained indigenous business development.

Eoin O'Leary is a senior lecturer in Economics at University College Cork. His book, 'Irish Economic Development: High-performing EU State or Serial-Under-achiever?' is published by Routledge and can be purchased at http:// /books/details/9780415645126/

Sunday Indo Business

Today's news headlines, directly to your inbox every morning.

Don't Miss