Six per cent growth necessary but impossible

Ireland’s cosy social partnership means we’re doomed to low growth and unserviceable debtConstantin Gurdgiev 


Over the next two issues, I will look at the core targets and objectives set out for the Government in years ahead, provide analysis of the state of the economy after two years of current Government policies, and present some alternative policies that might deliver real economic recovery without derailing the progress achieved to-date in dealing with the fiscal and financial crises.

Whether one likes it or not, the last two years have seen an uncomfortable, but nonetheless consistent, extension of the ideology that has shaped Ireland since the late 1980s. Whatever might be said about the crises and  achievements   since then, the landscape of Ireland’s policymaking today does not manifest much-talked-about reform or social modernisation. Instead the core ideas of corporatist governance: consensus in policy formation, pre-eminence of appearance over substance in the delivery of policy, and preservation of the statist system of distribution of income and wealth still dominate within the unchanged geography of Ireland’s political and civil service élite.

After decades of growth and two asset bubbles, after waves of change across Europe, our leadership class offers no new ideas. The main feature since the budget is another exercise in farcical futility, where senior civil-service-employed union members again seat themselves opposite union-employed labour bosses at the Social Partnership table, where they attempt to negotiate changes to the terms and conditions of union members’ employment. The Croke Park 2.0 ‘negotiations’ offer all the suspense of a wet sponge cleansing a greasy kitchen counter.

In fact, the Irish state’s sole ideological pillar is this consensus – the modus operandi and the raison d’être for every Government.

This pathetic state of affairs has left unmanned the ship of our economy, thrown onto the rocks by the domestic and global crises. Consider the core objectives of current economic policy as set by the Troika and adhered to by the Government:

  • Reducing headline fiscal deficits to below 3% of GDP,
  • Debt stabilisation,
  • Regaining access to private funding markets, and
  • Delivering persistent current account balance.

In the Irish context, all three are simply incompatible with the economic targets that should be pursued by any functional government in a democratic state.

Achieving a 3% or lower headline fiscal deficit, taken in isolation from other policies, might be a good idea. However, achieving this target amidst severely-reduced economic output, a raging private-sector debt crisis and high unemployment can only be deemed economically and socially feasible if the deficit reductions come from structural reforms. In other words, cutting back capital investment by some 75-80% relative to the pre-crisis levels, while jacking up taxes and charges on the real economy, as Governments have done since 2009, is inconsistent with economic recovery.

Stabilising public debt – at any given level at all – is extraordinarily interpreted by the Troika as attaining ‘long-term debt sustainability’. For Ireland this means making sure that after peaking in 2013, the Government debt/GDP ratio moves on a declining trajectory. The speed at which this decline is achieved, as well as the sources of the decline are of virtually no importance to the Troika or the Government. Neither, since 2011, is the actual level at which the debt will peak. If before 2011 the ‘sustainable peak’ was envisioned at 115% of GDP, since the beginning of last year the ceiling has conveniently moved up to reflect the reality of the continued deterioration in our economy’s performance.

I have exposed before the absurdity of this ‘sustainability’ metric. Firstly, the Irish Government debt/GDP ratio is now set to exceed 120% this year – an upward revision from the original 115% projection set in 2010. Secondly, the Irish Government debt/GDP ratio this year will be around 144-150% of our GNP – the metric that has real meaning to the economy, as opposed to our tax-arbitrage-inflated GDP. Thirdly, our Government debt will be a whopping 54-67 percentage points ahead of what is deemed to be sustainable, based on hard evidence established by international research from past financial and fiscal crises. Fourthly, our Government debt will remain after 2020 above the threshold levels beyond which it effects significant damage to our economic growth. Fifthly, no one, save the IMF, is even acknowledging the mountain of other real economic debts – debts carried by Irish households and businesses, that cannot be deleveraged fast enough because the Government’s fiscal policies are reducing households and the economy to ashes.

Objective number three for the Government is a ludicrous exercise in vanity at best and  at worst the pursuit of what would be a Pyrrhic victory. Currently, Ireland has access to EU funding under the EFSF and ESM. In fact, the Government made access to the ESM the cornerstone of its successful campaign to pass the Fiscal Compact referendum in 2012. That funding will be available, starting this year, at a cost close to 2.5-3% per annum. Of course the actual deficit will not go away after 2015-2017, although it is expected to run at below 3% of GDP. But even assuming the international markets were willing to lend Ireland all the funds required to sustain its ongoing Government deficits and to roll over maturing debt, the cost of such funding will be well in excess of that to be extended by the ESM. Suppose, hypothetically, that the Irish Government average funding requirement in 2014-2017 is around 112 billion annually in new funding and roll-over requirements. In this case, the real opportunity cost of achieving the third objective of the State will be around 1240-1300 million euro per annum, cumulating every year. Factoring in  the likely price-reducing effects of a rise in the supply of Irish Government bonds on the market demand and this cost may well be even higher.

There are other, perhaps smaller-scale, but nonetheless painful side effects associated with achieving target number three. One of them is the potential for continued replacement on Irish banks’ balance sheets of real assets by Government bonds. With the Government ramping up its issuance of bonds to replace Troika loans and obtain new funding, Irish banks will have an added incentive to abstain from issuing real loans and instead to roll even more operating profits into buying Government debt. The result will be the strengthening of the ties binding Irish banks to the Government, and the concomitant continued starvation in the real economy of credit.

The last, fourth, objective relates to the overall balance of payments in the Irish economy and is closely linked to the Grand Pipe Dream of the Irish Government – the so-called exports-led recovery. As the most recent figures (through November 2012) highlight, growth in exports of Irish goods has virtually stalled. Yet our trade and current account surpluses continue to expand. What is happening behind this ‘positive’ performance is fairly clear: Ireland’s imports (both for production and consumption) continue to slide, as real economic activity continues to shrink, while the value of Irish exports rises on aggressive transfer pricing by the multinationals. Even more significantly, the value  of Irish service exports, led by multinationals (MNCs) – is booming. But this embraces few indigenous jobs and is driven predominantly by the sharp tax practices that have earned Ireland-based service  MNCs scrutiny from tax authorities across the EU and North America. Put simply, our current account has little to do with what really matters – jobs and household income growth – and more to do with tax optimisation by multi-nationals.

Achieving any progress on our current-account surplus is only meaningful insofar as   it represents growth by indigenous exporters and tangible job-creating investment by  MNCs on the one hand, and import reductions relating to wasteful (as opposed to   productive) consumption and investment, on the other.

All of these latter objectives can only be delivered  if we  institute deep reforms in our domestic economic policies and institutions, across both private and public sectors.

The problem, arising from pursuit of the above Troika-set objectives is that all of the targets combined will do absolutely nothing to restore the Irish economy to sustainable growth.

In essence, Ireland needs Gross National Income growth to converge with GDP growth and both to exceed at least 6-7% annually in nominal (or 4-5% in inflation-adjusted) terms to sustain current debt levels and start gradual reductions in unemployment.  These growth rates have to be achieved not for one or two years, but sustained over at least 5 years.

Achieving such growth rates requires a much more dramatic approach to policy-making than the current Government can entertain, given the impetus for consensus. In effect, the Irish Left is correct in saying that ‘austerity’ – as practised by the current Government – is killing our economy. Alas, the problem is that policy based on consensus between the vested interests (from both Left and Right) is simply incapable of delivering the frameworks of tax, funding, regulation and institutions, required to get us to the rates of growth needed to escape our debt.