Economists typically want governments to use fiscal policy to smooth out the economic cycle, soften the rough edges. In practice that means spending in a downturn to boost demand and cutting back when the economy runs too hot or close to capacity. It’s sober, boring, Scandanavian-like but it’s how financially successful countries operate.
In Ireland we’ve tended to do the opposite. In the build-up to the financial crisis we used excess tax receipts from a buoyant property sector to egg on an already overheating economy with disastrous consequences. We doubled down on this pro-cyclical stance after the bust by embarking on a swingeing austerity programme just when the economy needed a lift.
Politics and economics can pull governments in different directions. Presiding over a fiscally restrictive budget when you have arguably the worst housing crisis in Europe and a treasure trove of tax receipts from the multinational sector was always going to be a problem for the Government here. Throw in a looming election cycle and an incumbent administration seemingly adrift in the polls and it’s not hard to see how the upcoming budget has gradually shifted from being one of economic prudence to one of political expedience.
The Coalition’s budgetary stance is shifting. It moved dramatically between the Stability Programme Update in April to the Summer Economic Statement – it might move again on budget day.
Minister for Finance Michael McGrath insists the Coalition’s budget strategy – which is expected to encompass €11 billion in additional measures broken down between extra spending, tax cuts and one-off measures to help with the cost-of-living – seeks to strike a balance “between investing to deliver improvements in public services while minimising the impact of fiscal policy on inflation and maintaining the public finances on a sustainable trajectory over the medium term”.
The Economic and Social Research Institute (ESRI), the Irish Fiscal Advisory Council and now the Central Bank beg to differ. They’re all warning the Coalition’s proposed budgetary envelope – in the context of near full employment and with big capacity constraints in housing and other areas – is likely to stoke inflation. It’s not obvious the Government is listening.