| | | | | | | | | | | | | | | International Economic Background
The economic facts are currently quite stark. The US, the UK, the Euro Zone (including Ireland) and Japan are all technically in recession. Emerging economies such as China, India and South East Asian economies are all experiencing a significant deterioration in economic conditions. Unfortunately the downward momentum in almost all economic indicators in these countries has still not been arrested.
Given this fact that the global economic momentum is still in a downward direction, it would be very naïve to believe that a sudden return to stronger activity will be seen anytime soon. There are some reasons to be hopeful however. Authorities globally are currently reacting very aggressively to the difficulties besetting the global economy. Interest rates are crashing down, fiscal policy is being loosened wherever possible, and oil prices food prices are coming down. On the fiscal side, many governments will continue to proceed with fiscal stimuli packages, but the big one will come from President Obama.
The hope is that all of these response factors will eventually re-ignite global economic activity. However, it will take some time and once the economic indicators eventually stabilise, the recovery path is likely to be slower than one would normally expect. This is due to the nature of the financial crisis that has occurred over the past year and the accompanying destruction of personal wealth and bank balance sheets, which together should militate against a so-called V-shaped recovery. However, before we talk about any recovery we will need to watch out for signs of stabilisation. Those signs are definitely not apparent yet.
Interest Rates
It seems certain that interest rates will fall further in the Euro Zone and the UK over the coming months. The ECB base rate currently stands at 2% and it is conceivable they could fall by another 1% over the coming months. In the UK, the base rate stands at 1.5% and they could well fall by another 1% over the coming months. With rates in the US and Japan now virtually at zero, there is not a lot more that can be done there.
The Irish Economy
Economic developments in the Irish economy continue to be very poor. Consumer confidence remains very weak, consumer spending is still slowing sharply, the manufacturing sector is being challenged by a very difficult external environment, sterling remains very weak, and domestic competitiveness is not good. The public finances continue to deteriorate and the labour market is awful. Any early improvement in Irish economic conditions looks highly unlikely. Although interest rates and oil prices are coming down, the labour market is deteriorating at a dramatic pace and fiscal policy is being tightened and will continue to be tightened over the coming months.
The labour market and the public finances are the key areas of vulnerability in the economy. During 2008 the number of people signing on the live register increased by 120,987, which is the largest ever-annual increase in Ireland. The unemployment rate reached 8.3% of the labour force at the end of 2008, up from 4.5% at the beginning of 2007. During the month of January, the number of redundancies at 6,708 was 141% higher than January 2008. This does not bode well for the labour market over the coming year. It is hard to identify any sector of the economy that will not be shedding jobs over the coming year and the live register could increase by over 100,000 over the next 12 months. The unemployment rate could easily hit 15% of the labour force by the first quarter of 2010.On the housing front, it is certainly conceivable that average national house prices could fall by up more than 15% during 2009 and house completions could be as low as 25,000.
In overall terms, the Irish economy looks set to contract by more than 5% in 2009 due to a combination of ongoing weakness in the housing market, weak domestic demand and a challenging external environment. In order to stimulate any semblance of economic recovery in 2010 it will be essential to try and restore national competitiveness. In this regard, public sector pay will have to be cut in line with the declines that are already occurring in private sector pay, utility costs will have to be brought down, and the general cost environment for business will have to be controlled.
There are massive challenges now facing Irish policy makers. The external image of Ireland has been seriously tarnished. The key issues have been the following: | | |  | Unprecedented fiscal deterioration, |
| | 78% decline in equity market – 98% in bank stocks and a nationalisation |
| | Dell & other multinationals scaling down – can become vicious cycle |
| | Anglo Irish scandal the final straw – image of corporate governance has been seriously damaged. |
| | | For a small open economy like Ireland, the external image is very important and is already resulting in much higher borrowing costs for the country as the credit rating comes under pressure.
How do we get out of the economic mess?
First and foremost the global economic environment needs to improve and once it does, Ireland will need to be in a position to exploit the recovery. In order to achieve this, competitiveness will be a key priority. The following developments are necessary to get the economy back on track:
Cost base of economy needs to be reduced across the board, including wages, professional fees, local authority and government charges. Private sector wages are already adjusting and will continue to adjust, but public sector wages must also adjust;
Public spending has to be tackled – outputs rather than inputs should be the focus of public spending;
| | | | Benchmarking 1 needs to be reversed – benchmarking must be adjustable downwards as well as upwards as market conditions dictate; |
| | Lower price of housing; |
| | Lower fuel & energy costs; |
| | Lower local authority charges including commercial rates; |
| | Quality of labour force – investment in education; |
| | IT capability needs to be considerably enhanced;
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| | We need to be careful with tax increases, as increasing taxes in the midst of a recession would just serve to exacerbate the economic downturn. The tax base will have to be broadened ultimately, with carbon taxes and property taxes inevitable at some point. However, the disincentive effects of higher taxes will need to be watched very carefully, to avoid the problems of the 1980s; |
| | We need a proper regulatory framework with teeth and a strong and very clear mandate for regulators; |
| | The banking mess needs to be sorted out. Anglo Irish Bank is now a blight on the Irish economic & financial landscape and should be run down in an orderly fashion – it is now surplus to requirements, but the potential liability for the Irish taxpayer is frightening. AIB& BoI should in theory not need to be nationalised, but the markets are finding this hard to believe and it is proving difficult to persuade them otherwise. They do need to be re-capitalised as quickly as possible.
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| Leaving the Euro as some are now suggesting would be a recipe for disaster. Ireland would quickly turn into Iceland, with interest rates soaring, the bond market collapsing and the currency would go into free fall. I believed back in 1999 that it was a mistake for Ireland to join the euro as it would create serious problems for an economy so out of synch with the rest of the euro zone. That has turned out to be the case, but we are where we are and exit from the system is not an option at this stage. However, if we do not get our public finances in order very quickly, Ireland’s international credit rating will deteriorate, making it more difficult to service the massive borrowing requirement that is building up. That would create a crisis that could necessitate some form of EU bail out.
Strong political leadership is now urgently required but is sadly lacking at the moment. We got it from Dukes, Haughey & McSharry in 1987, we got it from Mc Creevy in 2002, and we have not yet seen it this time around despite the unprecedented crisis we are encountering. This is not acceptable. |
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