Is austerity working in Ireland? Part two

Back on October 6th I discussed whether austerity was working in Ireland or not and it is time I feel to review again where she stands. In the meantime I have seen yet again commentators and the media veer between calling her (yet again) a poster boy for austerity and saying that she will founder under all her debts! I think that the conclusions are usually more influenced by the author’s bias than the evidence. One thing we can be sure of is that so far Ireland has put up a better economic performance than Greece and Portugal. This leads to the question will she be able to escape the economic black hole which is sucking them downwards?

What caused the Irish decline?

In essence a housing boom which turned to dust hit an economy which had come to rely on the tax revenues and employment that all the construction and associated economic activity provided. In addition the banks which lent the money to finance all this found themselves with a tsunami like wave of bad debts. If this was not bad enough the Irish government made a fatal error as I described on October 6th last year.

However when trouble hit the housing and banking sectors her political leaders panicked and in September 2008 they offered an absolute guarantee from Irish taxpayers to the debts of the Irish banking sector for two years. Either they did not realise that this was a move which was virtually impossible to reverse or even more seriously they were in effect in the pocket of the bankers. So Ireland ended up guaranteeing bank assets that were nearly three times her Gross National Product and became a banking sector with a population rather than an economy with a banking sector.

This meant that private-sector banking debts were now a public-sector issue and the effect on the Irish national debt was extraordinary. Ireland had (partly due to construction driven tax revenues) had a net national debt to Gross Domestic Product of 24.7% in 2006 but since then it has ballooned from the 44 billion Euros it was then to 119 billion Euros now according to the National Treasury Management Agency. Care is needed with the NTMA’s numbers as they are much lower than the latest Eurostat ones which are for gross debt but I use them for comparison over time.

If there is a clearer case of private-sector debt being transferred to the public-sector I do not know it!

A feature of the Irish economy: non-domiciled companies

A feature of Ireland’s economy is that she has a low corporation tax rate (12.5%) and by measures such as the tax-free financial business district in Dublin has encouraged overseas businesses to base themselves there. If you like the businesses are the corporate equivalent of what is called non-domiciled or non-dom for an individual.

So if they have come to Ireland for cheap and in some cases virtually no corporate taxes (Google) then if you try to tax them they will start to leave. Accordingly I feel that GDP is a poor measure for Ireland and prefer Gross National Product which is a measure that excludes the effect of such foreign businesses. To give you an idea of the scale real GDP in 2007 was 178 billion Euros and  real GNP was 151 billion Euros so the difference is substantial and economic output is suddenly potentially some 15% lower.

Another feature of Irish economic life: A Balance of Payments surplus

Here we have a clear difference between Greece,Portugal and Ireland and as Brian Clough so memorably put it she is in a “class of one”. Why? She has run a persistent surplus. If you look at the latest quarterly national income accounts then she ran a surplus of 9.59 billion Euros with exports growing by 1.9% on a year earlier and imports declining by 0.3%. We may doubt in the current environment how much export growth can continue but Ireland starts from a strong position. However a possible fly in the ointment occurs if you wonder how much of that is driven by the non-domiciled companies.

The International Monetary Fund should not be there

Under its old and to my mind proper role the IMF should not be involved in Ireland as it has a balance of payments surplus. We are seeing a bail out of political promises here which is not its role in my view and so far it has loaned some 13.1 billion Euros to Ireland.Please see my update on the IMF for a fuller explanation of this.

Where does Ireland stand now?

So far we have seen a public-sector debt explosion in response to a private-sector debt explosion and bust but we also unusually have a balance of payments surplus.

A  GNP recession over the past year

The latest national accounts for Ireland are only for the third quarter but they told us this.

Initial estimates for the third quarter of 2011 show seasonally adjusted decreases of 1.9 per cent in GDP and 2.2 per cent in GNP compared with Q2 2011.

If we stick we the GNP measure we see that as it only rose by 1.1% in the second quarter that it has fallen if we look back over the half-year. If we look back over the past year we get an altogether grimmer picture.

Comparing Q3 2011 with the same quarter one year earlier, GDP at constant prices registered a decrease of 0.1 per cent while GNP was 4.2 per cent lower.

This poses a problem for the definition of a recession (two continuous falling quarters of economic growth) does it not?

The Irish housing market

As this was a root cause of the problems we can look to see if there have been signs of improvement. First we see that house price declines have continued through 2011 and that they follow-on from falls in both 2010 and 2009 (h/t Nama Wine Lake).

The Survey of Chartered Surveyors Ireland report suggests that transaction values for a second-hand 3-bedroom semi-detached house declined by 12.6 per cent in Dublin in 2011. This compares to a decline of 14.3 per cent and 18.8 per cent in 2010 and 2009 respectively.

Actually looking at the report Dublin’s figures are better than others shown! I notice also that the spokesman for this body added a grim postscript for 2012 and also for the banking industry.

Until we see the financial institutions lending to qualified buyers, we will not see a recovery in activity levels in the property market.

So the banking sector remains constrained and if we recall that surveyors have an interest in a healthy market we can conclude that the outlook may be very poor still even after sustained house price declines. This is reinforced by the view on the commercial property market.

the commercial market was severely impacted in 2011 by difficulties in accessing finance.

There is a historical irony in the fact that the one sector which had a decent year was agricultural land! Actually agricultural output is rising too being up 18.8% over the 12 months to November 2011 and so there is room for some optimism there.

Industrial Production

Since my article on October 6th this has risen from 107.2 to 107.8 on the underlying index based on 2005 being 100. However the latest numbers for November showed a 9.5% month on month fall and gave an annual growth rate of 3.9% so the picture looks as though it may be about to worsen. If we look at the latest manufacturing purchasing managers report for manufacturing we see signs that it may have done.

 

Manufacturing production decreased for the third month running in January.

 

Operating conditions in the Irish manufacturing sector continued to deteriorate at the start of 2012 as output and new orders both fell at solid rates in January.

Retail Sales

We see some signs of hope here as they rose by 2.1% in December 2011 compared with the previous month and were up by 3% on a year earlier. However there is some recovery yet to come as we see that the index is at 95.8 where 2005 =100. Also the growth seems to have come from the motor trade (+26.3%) and I wonder if some initiative might have expired.

 The latest measure of consumer sentiment is hopeful although consumer sentiment often picks up with the January sales.

The overall KBC Bank Ireland/ESRI Consumer Sentiment Index increased to 56.6 in January from 49.2 in December.

Austerity is continuing

As Ireland faces 2012 she faces a further contraction of her public sector as part of a programme to cut 7.5 billion Euros over the period 2011-14. According to the IMF she can expect.

Budget 2012 targets further consolidation of 2¾ percent of GDP to lower the deficit to 8.6 percent of GDP, and sets out a clear path to reach the 3 percent of GDP deficit target by 2015.

So a hard road remains ahead and it will be harder if the current economic weakness continues around the European Union.

Comment

The IMF in its rather coded report uses the words “challenging” and “challenges” which give food for thought if we remember that it is prone to using rose-tinted glasses in reports where it is involved.

As we stand Ireland has avoided the black hole which has sucked Greece down and is currently drawing Portugal in, but the fundamental problems created by her construction and banking boom remain an issue. In many ways the answer for 2012 remains abroad as she needs to export but faces economic slowdowns across much of Europe.

There is an irony here with the UK being her main trading partner. Back in the 1920s the slogan for Irish independence was the “Kaiser or the King?” But having taken the Euro route and moved towards the Kaiser economic growth may well depend on 2012 on what happens in the land of the King or rather Queen.

So far Ireland has avoided being “sucked into the Super massive Black Hole” as Muse put it but a lot of work and maybe some luck will be required to keep out of it for good.

This entry was posted in Euro zone Crisis, General Economics, House Prices, IMF, Quantitative Easing and Extraordinary Monetary Measures. Bookmark the permalink.
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  • Andy Zarse

    Ireland; better than Portugal and Greece. It’s not much of a starting point is it.

    Interesting Brian Clough gets a mention. To paraphrase Old Big ‘ead, “Ireland! You want bloody shooting for missing the target from there!”

  • http://www.pcchecker.co.uk/ PC Checker

    Great post as ever Shaun. Off topic a little but just came across this new movement – thoughts anyone? http://www.moveyourmoney.org.uk/

  • JW

    Hi Shaun
    I think Ireland is a very transparent example of what is happening below the surface in all western economies. Because it is an ‘aircraft carrier’ for mainly US multi-nationals its GDP figures look OK because its in those multi-nationals that the western world’s wealth is concentrated. However little dribbles down to the rest of the economy. As Ireland nationalised its financial sector’s debt the debt overhang and consequent deleveraging will keep the indigenous economy depressed for years. Unemployment hasn’t gone through the roof because so many have left for the old commonwealth plus the US. As these emigrants are mainly young educated people it is a further constraint on recovery.
    I attach an interesting commentary on the ‘guilt’ or otherwise of the Irish population in their role in private sector borrowing and the property bubble.
    http://www.nakedcapitalism.com/2012/02/philip-pilkington-are-the-irish-people-to-blame-for-reckless-borrowing.html

  • ChrisLongs

    Shaun,
    Will new Mercozy EZ rules force Ireland to increase its corporate taxes and if Sarcozy re-elected a FTTax?
    Would Ireland adopt sterling if leaving the Euro?

  • Space Man

    Shaun, if Ireland had let their banks fall and covered the losses of the peoples savings and pensions like Iceland, what would be their situation now? It seems like they were in pretty similar situations, but Iceland has come out of it much better.

  • Anonymous

    Hi Shaun
    Great last two posts. I watch Simon Ward’s monetary analysis in which he puts great store. Do I understand it that if banks deleverage and dispose of their non domestic assets this negates the monetary effect of UK QE? On Ireland I remember the 2008 Irish decision to underwrite their banks. Everyone at the time thought it was an attempt to lure British depositors who were getting worried about British banks. I also recall that the Dail took professional advice before making that decision….. 

  • Anonymous

    Hi Andrew

    I am a fan of more banking competition as I feel it is one of the ways that much needed reform can be driven. It was one of my starting points at the beginning of my blogging life/career. However I do not know these people but will take a look…

  • Anonymous

    Hi Shire

    Thank you. The use of that phrase “professional advice” has hidden many cans of worms over time has it not?

    As to bank deleveraging then yes it can (and indeed has) offset the effects of QE to some extent. As to the disposal of foreign assets it is of course a reduction in lending which is an asset for a bank.

    Actually it makes me think of the amount of bank deleveraging going on around the world and it adds to the current winter chill I think.

    As to 2008 I remember that too and I do remember investments being made on that basisbut you are unlikely to be surprised that I was pointing out that it was getting more likely that the Irish could not payout in full!

  • Anonymous

    Hi Space Man

    I did not refer to it today but I put a link on my October 6th article to a post where I had recommended that Ireland did exactly that. However it is not a panacea and difficulties remain ahead for Iceland but I think it leads to fewer problems and issues than the grind of austerity.

  • Anonymous

    Hi Chris

    Taking your points in order.

    1. Merkozy have implied a corporate tax rise but so far as I am aware are not yet trying to enforce it.

    2. The Irish are very worried about a Financial Transactions Tax as they wonder how it can be applied in Dublin and not London. Also the “offshore” centre in Dublin was built on low/no taxes.

    3. If you look at recent events such as the Queen visiting Ireland you might suspect that some preparations are already being made ( I do not mean she will sign them up but in terms of perception and a softening-up of public opinion).

  • Anonymous

    Hi JW

    Thanks for the link. I put a comment on it quoting my section above about the culpability of her government and indeed her political class back in September 2008 but they have not published it.

    Also here are some numbers on migration.

    “Migration: The years of high immigration to Ireland were 2005 to 2008. In 2006, immigration peaked at 60,300 for males. A year later, it peaked at 52,100 for females. Since then, immigration has fallen very sharply to about 20,100 for males and 22,300 for females in 2011. Emigration rose steeply between 2006 and 2011 to about 38,700 males and 37,800 females, resulting in a net outflow leaving the country in 2011 of 18,600 males and 15,500 females (Tables 1.3 and 1.4).”

  • David Lilley

    Shaun,
     
    I have made many comments about Ireland over the last two years and they have all been dismal. Too much debt.
     
    The important statistics are as follows:
     
    -the culprit, the defaulter, had to get on the property boom by hook or by crook. A bigger property, a bigger mortgage, a second home, a buy to let.
     
    -the sucker, the state, benefitted from the stamp duty, income tax, booming revenues to solicitors, estate agents, builders etc. But most of all from the financial services sector that expanded its loan book by a step function (being able to take advantage of fractional reserve lending and selling on its mortgage securitised bonds to a welcome audience). I use the word sucker because they were supposed to govern and regulate.
     
    -the sucker gave away all its new found wealth by increasing benefits and state pensions three fold as if the gravy train would run and run.
     
    -when the property bubble burst property prices fell 60% and one in five houses were empty.
     
    -the last culprits had to make a decision. “Do I pay 300,000 Euro over the next 25 years for an asset that has just fallen in value from 100,000 Euro to 40,000 Euro or do I default?” He defaulted and the bank took the hit on his bet on the property market. Then the state took the hit when the banks took a tsunami of defaults.
     
    The austerity is only relative to the recent past. They have clipped public sector wages and benefits but not pensions. They need to get back to affordable levels of public sector spending.
     
    Ireland is a special case. It has two big plus points. They educate their young in science and engineering rather than arts and they have a 12.5% corporation tax. They have attracted the silicone valley companies that needed an EU market and hence the good balance of payments position. But now they are exporting their future. 100,000 of the educated young have left already. Everyone in Ireland has a relative abroad and the educated young can disappear overnight.
     
    The solution.
     
    You can scrouge from your neighbours and ask for more bailouts. You can default like Greece and tell your creditors “better take a 70% loss than take a 100% loss”. Or you can get real and get management and come up with a “business plan” for Ireland.
     
    It is not “austerity versus growth” or “liquidity versus solvency” but survival versus benefits from your neighbour. You might con them into believing you only need a fiver to get you to the next pay-day but you also need to convince your creditor that you will keep your job.
     
    Just like an SME seeking a loan, the PIIGS should only get a loan based on the credibility of their “business plan”.

  • JW

     Hi David
    This advise sounds like that of Walter Bagehot in the 19th century. Lender of last resort should lend at high rates against good security. If that advise had been followed throughout the crisis since 2008 , perhaps by now the insolvent as well as illiquid would have been cleared from the system.
    A quote from Bagehot is also apt for our times I think.
    ‘Democracy is the way to give the people the greatest illusion of power while allowing them the smallest amount in reality’.

  • Anonymous

    Hi David

    Thanks for the reply, I think you may be interested in the migration figures I have put on my reply to JW.

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