Stimulus to be welcomed but real effect will be small

Wed, Jul 18, 2012, 01:00

ANALYSIS:The psychological benefits of the package are clear. But it will only cut the jobless rate by 0.6% at very most, writes DAN O'BRIEN

STATE INVESTMENT spending has been scythed many times in recent years. The most recent cut was made last November by the Fine Gael-Labour administration. Yesterday, for the first time since the recession began, that same administration announced an increase in investment spending.

The Taoiseach, Tánaiste and Minister for Public Expenditure trumpeted an additional €2.25 billion over the seven years to 2018. The cash is on top of €17 billion already allocated for investment in the 2012-2016 period. None of the €2.25 billion will be borrowed by an already over-borrowed State. This is a stimulus package for an age of austerity.

What effect will it have?

Stimulating an economy is easy to do. If, say, a government employed 100,000 workless builders to dig the world’s biggest hole, the economy would be stimulated. Their wages and the money spent on machinery and the like would boost demand. Having the 100,000 workers fill the hole in again would provide another shot in the other arm.

But nobody advocates such make-work schemes because the stimulus effect ends the minute the hole is filled in and because the filled-in hole yields no returns.

By contrast, real investment, such as the construction of schools and roads, produces the immediate stimulus of the money spent and then goes on yielding returns long after the work has stopped – better-educated kids go on to have more productive working lives and better roads cut costs for users by reducing journey times.

The Government estimates its new plan will create 13,000 jobs, a number that is consistent with previous estimates of how much public spending – about €100,000 – it takes to generate one job.

But the number of jobs to be generated also shows the effect of the package will be small. At last count, there were 313,000 people out of work. If all the promised stimulus jobs materialised tomorrow (and nobody – not even the Government – is claiming they will), the rate of unemployment would fall from 14.8 per cent to 14.2 per cent. That would be important for the 13,000, but not transformative for the economy.

It is easy to see why yesterday’s stimulus will not turn gloom to boom. The €2.25 billion additional spending announced yesterday is spread over seven years, averaging out at €320 million a year. That is a fraction of 1 per cent of gross domestic product, or, in plain language, a drop in the bucket.

That said, announcements such as yesterday’s can have intangible benefits, mostly by boosting confidence. Headlines of multibillion investments in health, education and transport facilities can give a sense that a corner has been turned and that there is new momentum in the economy. They can also give the governed a sense that those who are governing are competent, in control and getting ahead of the curve.

That’s the theory. In practice, one would be unwise to make too much of the confidence effect.

Much more should have been made yesterday of whether the individual projects announced are good value for money.

The Department of Public Expenditure and Reform was unable to provide The Irish Times with the cost/benefit analyses for the individual projects. These analyses may be complete and provide unshakeable evidence that each investment stacks up, but that the department did not have the studies available raises questions, some of which are potentially serious.

Yesterday’s plan was short on detail in other ways too.

The reason the new investment will not add to the State’s debt mountain (€170 billion and rising fast) is because it will come from available Government resources and the private sector, with the whole lot packaged up in what are known as public-private partnerships.

On the public side of these PPPs, the cash will come from non-borrowed Government money: the remnants of the National Pension Reserve Fund, privatisation receipts and revenues from the sale of the national lottery licence.

Private investors will fund their contributions with money borrowed from the European Investment Bank (EIB) and the domestic banks. There are issues with both of these sources.

Yesterday, there was no indication of how much the EIB would provide or even an upper limit of what was available. And, as for the domestic banks, given the state they are in they may not be in a position to chip in much.

Nor were there even indicative figures of how much each source would contribute to the overall package. Minister for Public Expenditure Brendan Howlin made the valid point that as each PPP will have its own mix of funding sources, breakdowns of the total contributions from each source cannot be calculated now. Although the clear objective is to have as much private money as possible involved, not giving targets means the Government is less likely to be skewered by the Opposition if these PPPs end up being much more public than private.

Lacking in this, or any previous package of capital spending measures was an evaluation of how much public investment is appropriate for the economy.

It is well-known that since 2008 capital spending has been slashed (by more than half). It is less well-known that such spending has been cut far more than any other spending item. But it not widely appreciated that government capital spending here is still high when compared to peer countries.

In 2011, Irish public capital spending (as a per cent of gross domestic product) was almost 50 per cent higher than the euro zone average and ranked third-highest among the 17 single-currency countries, with only the Netherlands and Estonia investing more.

For a country whose budget deficit last year was the highest in the world – at 13 per cent of GDP – that is quite remarkable.


Dan O’Brien is Economics Editor

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