A quarter of a trillion euro. In a speech this week, Minister for Finance Paschal Donohoe threw in a reference to where Ireland’s national debt was heading after the pandemic.
Barely an eyelid was batted, or eyebrow raised in response. And the wider political debate is dominated by talk of more cash – for housing, health, climate change and more.
As one person who works with another senior Minister put it this week: “He just wants to spend, spend, spend.” A government with Sinn Féin snapping at its heels is nodding towards fiscal probity, but it is clear that Donohoe and Minister for Public Spending Michael McGrath have a job on their hands getting the rest of the Cabinet to sign up to significant reductions in the deficit.
The key question is will interest rates remain low – and specifically will they remain lower than economic growth rates
So can Ireland just carry on borrowing? To an extent we will, for some years anyway, but adding the guts of €20 billion to debt each year through spending, as in 2020 and 2021, is not sustainable.
It was exactly the right thing to do during the pandemic, but as the economy restarts, emergency spending must slow down. With senior Ministers keen to hold on to the budgets they have, that will be hard to do.
National debt is not like household debt. You never repay most of it. The crucial decisions are about sustainability. Today, every country is more indebted, but they hope that low interest rates will make it affordable.
The key question is will interest rates remain low – and specifically will they remain lower than economic growth rates. If they do, then debt ratios – the size of the debt compared with the size of the economy – keeps falling.
If they don’t, then trouble lies ahead. So it is all a question of risk – and how many chips you want to put on the table in the way the public finances are managed.
“Low interest rates give Ireland and other high debt countries scope to run higher deficits and should allow for a fast speed of debt reduction initially after Covid,” according to Dr Eddie Casey,
“But higher debt ratios are inherently unstable. That is, the higher your starting debt ratio, the higher the uncertainty about what happens next,” says Casey, chief economist of the Irish Fiscal Advisory Council (Ifac).
But Ireland’s national debt is now high, by any reasonable measure. The story of how it got there is straightforward. Before the financial crash of 2008 the national debt was below €50 billion.
Then we bailed out the banks. Even more significantly in cash terms, the State borrowed billions to bridge the exploding budget deficit as tax revenues collapsed.
By 2012 the national debt was more than €200 billion and it stayed there until the pandemic hit. Per head of population it is now not far off €50,000, near the top of the EU league.
As the economy grew after 2012, the debt ratio – a vital indicator monitored by investors – fell significantly. And Ireland benefited from the ECB’s policy of low interest rates.
This allowed old debt to be refinanced at much cheaper rates and longer maturities. After the pandemic broke, the ECB pumped even more cash into the markets and has been buying significant amounts of government bonds.
With some debt even being raised at negative interest rates, the total amount Ireland pays to service its debt has been falling, even as debt has been on the increase. If there is a magic money tree, it is in Frankfurt.
So why the stark warnings from Donohoe and other senior Ministers, including the Taoiseach, this week about the need to return the public finances to a more sustainable path? It is all about risk.
And because risk is, by its nature, not a matter of certainty, the political debate will rage here – and in many other countries – about what to do next. Does Ireland need to restore the exchequer to balance?
Should it avoid adding to the debt pile each year? Or can the country safely keep borrowing, for example to invest in housing, as ESRI research professor Kieran McQuinn has suggested?
So do you want the good news or the bad news ? On the plus side, a decent rule of thumb is that Ireland can probably carry the higher debt level built up during the pandemic.
This money has been borrowed at fixed interests rates, so the exposure comes when the borrowings have to be refinanced, many in eight to 10 years’ time. But Ireland must retain the confidence of the markets in the meantime.
So a plan for the State’s national finances is now required. Growth will boost revenues and cut spending pressures, though some other adjustments might be needed.
The not-so-good news is that there are huge bills coming down the tracks. Ifac calculates that the room for manoeuvre that growth will provide over the next few years has effectively already been committed.
An ageing population will push up spending significantly. So if this Government or the next one wants to add new permanent spending above that already committed, it must raise more taxes or cut other spending.
This won’t happen in the 2022 budget, or the one after that, but it might come on the table soon enough after that. The alternative is to roll the dice and run the risks.
Rock-bottom interest rates have given us something of a free pass during the pandemic. But while the country may be able to carry a higher debt level , it increase the risks and lower the room for manoeuvre in the future.
According to Dr Casey, work by Ifac based on cutting edge international research suggests that – assessing the risks to growth and interest rates – there is now a 20-25 per cent risk of the debt ratio staying high or rising further over the coming years. This is a higher risk than you would probably want to run.
This does not mean the debt is unsustainable, says Casey, but some adjustments in future budgets may be advisable. Aiming for a small deficit or a balanced budget by 2025 would steadily reduce the debt ratio and the level of risk.
That would position the Government to be able to respond to future economic shocks in the same way as it did to Covid-19.
The Government’s current forecasts promise a balanced budget by 2025, but the numbers do not include new spending commitments, which are coming along all the time.