Coalition in troika's icy grip on budget framework
ANALYSIS:In the summer of 2008, more than a year after the property bubble began bursting, the then government and the Department of Finance belatedly realised that the public finances had run out of control.
In the winter of 2010 that government lost office shortly after the consequences of its earlier recklessness and complacency led to an international bailout and a considerable loss of economic sovereignty.
Now, two years on again and more than a half-decade after the crash began, the constraints on the current administration remain severe.
Nowhere is it more constrained than in its framing of budgets. The extreme and multidimensional nature of the economic crisis; the terms of the EU-IMF bailout; and new and stronger budgetary rules governing all EU governments mean that these constraints will not ease until 2016, at the earliest.
The size of each annual budget package out to and including 2015 was set down two years ago. That happened in the context of the bailout and under the terms of the EU’s “excessive deficit procedure”, which limits a government’s freedom of budgetary manoeuvre when it is running imbalances between spending and revenues of more than 3 per cent of gross domestic product.
At more than 8 per cent of GDP this year, Ireland continues to run the largest budget deficit among the 27 members of the EU. Illustrative of the scale of the deficit-reduction effort still to come is that among the 21 EU members currently in the excessive deficit procedure, Ireland is the only one to have three more years in which to bring its imbalance below the 3 per cent of GDP ceiling.
And this despite the enormous size of the combined adjustments to date. Since the first emergency budgetary measures were introduced in August 2008, Irish citizens have swallowed a bigger dose of austerity than any developed economy (more even than the people of Greece), according to the Organisation for Economic Co-operation and Development.
On top of the €24 billion in cuts and new taxes that have been introduced since the crisis began, and the coming €3.5 billion slated for 2013 – the details of which will be unveiled on Wednesday – a €3.1 billion package must be introduced in 2014 and one of €2 billion in 2015.
If the Government is tightly constrained on the size of each budget adjustment over the medium term, it has much more freedom to determine the composition of budgets. While some measures, such as a property tax, must be introduced under the bailout terms, the detail of most new tax and spending measures is for the Coalition to decide.
This freedom gives the Government choices. But in times like these, all choices are hard ones. This has generated inevitable tensions within the Cabinet.
But the extent of conflict has been contained by constraints the partners have imposed on themselves. In the programme for government it was agreed that two-thirds of the cumulative budget adjustments up to 2015 would be achieved by spending cuts and one-third by additional revenue-raising measures.
Both Coalition partners recognise any attempt by one side to change that formula would unleash a viscerally strong reaction from the other, leading very possibly to the break-up of the coalition. Neither side wants to risk such an outcome.
Moreover, having jointly accepted the formula, each side knows any “win” on deeper cuts/higher taxes means a compensating concession to maintain the 2:1 formula. With little opportunity for gain, there is limited incentive to fight battles. This could hardly be more different from the 1980s, the last time the parties ruled in a period of extreme budgetary constraints.
Given its restraint-enhancing effects, there is a high probability that the cuts/taxes balance written into the programme for government will be maintained for the life of the Coalition.
A further reason to believe that the 2:1 balance will be adhered to is because it is broadly equitable – a shared priority of the parties. As spending increases in the bubble era were greater than tax reductions, it seems fair that reversing the excesses of that period be focused on the area of greatest excess.
After delivering large tax cuts in the late 1990s, budgetary policy shifted towards spending increases and away from tax reduction in the early 2000s. This was reflected in the distributional effects of budgets during the bubble era.
According to the Economic and Social Research Institute’s analysis of budgets in the 2002-2006 period, the incomes of the top 40 per cent of earners increased by 1 per cent as a result of changes in those five budgets, while the incomes of the bottom fifth were boosted by 17 per cent.
And even despite the greater emphasis on spending cuts since the crash, the distributional effects have continued to favour those on lower incomes. The latest assessment of the ESRI on the combined effects of all budgetary measures since austerity began shows losses for those on low incomes ranging from 4 to 6 per cent; from 7½ to 9½ per cent for middle-income earners; and close to 11 to 12 per cent for those on high incomes.
Depressingly, almost everyone is set to be squeezed further on Wednesday. If there is any comfort at all it is that the €3.5 billion adjustment will be the smallest since the recession began and a fraction of the near €10 billion slew of measures introduced over the course of 2009, the year of the most severe retrenchment.
But even that is cold comfort when more tough budgets are still to come.
From the Coalition partners’ perspective, that bodes ill for their re-election prospects. Only if deficit-lowering targets are met, if the Irish and European economies return to growth, and if they wait until the last possible moment to hold the next election (early 2016) will the Coalition get the chance to introduce a non-austerity budget.
It may well be that more members of the governing parties come to rue the decision not to be more radical in the early days of their term.