Irish wage cuts and tax increases a big hit abroad

 

The fall in wages here is almost unprecedented in the developed world, and experts say it will greatly improve competitiveness, writes COLM KEENA

THE SEEMINGLY endless consideration of the current grim state of our economic affairs and the disastrous state of our banks was put on a sort of hold at the offices of the Economic and Social Research Institute (ESRI) in Dublin yesterday.

Economist John FitzGerald and his colleagues had produced a paper on Recovery Scenarios For Ireland, setting out when we might expect the Irish economy to begin to grow again, depending on certain assumptions.

But what was perhaps most surprising was an almost off-the-cuff remark by Prof FitzGerald concerning the views of fellow economists during a recent meeting in Vienna of European sister institutions.

The people there were apparently very impressed by the fact that the Government had implemented a de facto pay cut in the public sector, and that wage cuts were being implemented widely in the private sector.

The ESRI expects wage cuts in the private sector to average 7 per cent over three years. This sort of phenomenon may be unique in the developed world, and will improve our competitive position in the world, Prof FitzGerald said.

Likewise, people at the Vienna conference were impressed by the scale of the measures announced by the Government for this year and next year in terms of tax increases and spending cuts. The scale of what is proposed is large by European standards.

Prof FitzGerald said that if the Government makes the proposed budgetary measures for next year, and if the world economy recovers momentum in 2011 as the OECD believes it may, the budgets of 2011 and 2012 need not be particularly harsh and much of our structural deficit problem will have been dealt with.

However, if the world recession proves to be worse than expected, further fiscal measures will be required.

He was questioned about the Government’s plans for our banks but was anxious to concentrate on the rest of the economy, which he said was the larger issue. The banks need to be fixed and what was important was that whatever solution was selected worked. The important issue is that business will have access to credit when conditions allow for the economy to begin to grow again.

Meanwhile, the sharp contraction in the economy will manifest itself, in human terms, in increased numbers of people being unemployed. In the ESRI’s more optimistic scenario, if it can be called that, unemployment will peak at a rate of 17 per cent in 2010, and then fall to between 6 and 7 per cent by 2015.

In the institute’s more pessimistic scenario, where world recovery is delayed to 2012, the unemployment rate doesn’t quite fall so low and does so a little later.

The key point the ESRI economists were making yesterday was that the quicker action was taken to restore Ireland’s competitive position, the smaller would be the loss suffered by the economy and the scale and duration of the resultant unemployment.

“We need to price ourselves back into world markets,” said Prof FitzGerald. “If we act fast, we can minimise the cost” of the downturn.

Unemployment will eventually drive wage levels down, he said. But the downturn, and the extent of the resultant unemployment, will be lessened if competitiveness returns more quickly.

Colleague Dr Ida Kearney pointed out that, even when the economy begins to recover, it will be smaller than it would have otherwise been.

The ESRI believes there will be a “permanent scar” on the economy, equivalent to a 10 per cent loss of output compared to what would otherwise have been the case in its optimistic scenario. The scar will be more like 15 per cent if the world recession is more prolonged.

It will take until 2014 before income per head is back to the level it was two years ago, she said.

Likewise, there will be a reduced level of activity in the international economy.

The crisis in the financial sector is likely to make capital more expensive in the western world, making for a lower level of international growth than would otherwise be the case.

Prof FitzGerald said Ireland has done lots of research into long-term unemployment and it was important that measures were taken to prevent those who lost their jobs falling into long-term unemployment.