Irish cuts 'sound worse than they are'

Philip Lane gives an account of Ireland's Budget that's less apocalyptic than some. Photo / Mark Mitchell

The Irish Budget passed yesterday sounds more savage than it is, says Irish economist Philip Lane.

He is professor of international macro-economics at Trinity College Dublin and is in New Zealand to look at this country's external imbalances.

In a lecture at the Treasury yesterday he gave a view of Ireland's current predicament that is less apocalyptic than that of some foreign observers.

The Budget Ireland has just passed, as part of a financial rescue deal with the European Union and International Monetary Fund, involves deep cuts to public spending, including benefit levels, while some taxes are increased.

In all the package amounts to €6 billion or nearly 4 per cent of gross domestic product. The equivalent here would be $7 billion.

So far there has been a cumulative €14 billion in Budget tightening or nearly 10 per cent of GDP, and as much again is still required.

But Lane said the public service pay cuts unwound big recent increases - a Budget in late 2007 increased spending by 10 per cent - and took public servants' pay back to 2006 levels.

Welfare payments, excluding pensions, have been cut but they had tripled over the past decade. The minimum wage has been cut by 12 per cent.

While fiscal retrenchment on this scale is undoubtedly a drag on the Irish economy, the impact is mitigated by the fact that so much of what the Irish consume is imported.

Only about half the drop in Government spending would flow through to Irish production, Lane said.

And the export sector has been doing well.

The low corporate tax rate which attracted a lot of foreign direct investment to Ireland during the Celtic Tiger years of the 1990s will "never, ever" be cut, he predicts.

Exports constituted a genuine escape route for the Irish economy, he said. As a member of the eurozone it cannot boost competitiveness by devaluing its currency, but the process of "internal devaluation" by reducing wages and other costs is under way, albeit gradually.

The deal struck between the Irish Government and the EU and IMF has been criticised for letting senior bondholders of the banks off scot-free.

The European authorities, fearing contagion, had insisted on that, he said. The Government had no reason to be nice to the bondholders, 99 per cent of whom were foreigners.

Lane is critical of the way the Irish central bank regulated the country's banks, accusing it of a timid reluctance to rock the boat and excessive concern for protecting local banks' market share.

But it would be wrong to lay Ireland's fiscal woes at the door of the decision to underwrite banks' debts in 2008, he argues.

The interest cost of bank-related Government debt obligations represents less than 10 per cent of the fiscal deficit, he says.

Its underlying problem was that the property boom triggered a building boom, to the point that at its peak one male worker in five was involved in the construction sector.

His account of Ireland's economic history has some uncomfortable parallels to New Zealand's:

* A property boom between 2003 and 2007 was largely funded by its banks borrowing abroad in a world awash with cheap money.

* The housing market peaked in 2006 but at first the price decline was modest. It looked like a soft landing - until the 2008 global financial crisis triggered a bust that has seen house prices plummet.

* Before the crisis the Government was running a surplus and by 2007 gross public debt was just 25 per cent of GDP and net debt 14 per cent - ratios close to where New Zealand is now.