Public yet to accept need for 'tough love'

ECONOMICS:There are big differences between our present fiscal problems and those of the 1980s, writes Jim O'Leary

THE FACT that the Government's budget deficit has ballooned to a size not seen in over 20 years has prompted a rash of comment about parallels between the current situation and that of two decades ago.

Suddenly it seems the 1980s have come back into fashion, so much so that a couple of weeks back this newspaper devoted its entire Saturday magazine to a 1980s retrospective, covering politics, music, moving statues and much else besides.

From the point of view of budgetary policy, there may well be lessons to be drawn from the 1980s experience, but there are big differences between then and now. Probably the most important revolves around the distinction between acute and chronic.

The fiscal problem faced by the Government now is acute: it may have been predictable (God knows this column issued plenty of warnings), but the deterioration has been extraordinarily sharp and sudden. The mutation of last year's small budget surplus into this year's prospective deficit of 6 per cent of GDP is without precedent in the history of the State.

By contrast, the fiscal crisis that came to a head in the mid-1980s had been cooking for well over a decade. Outlandish though it may appear at this remove, there wasn't a single year between 1974 and 1986 when the budget deficit was less than 10 per cent of GNP.

As a result, by the time the problem was eventually addressed effectively in 1987, government indebtedness had grown to almost 120 per cent of GNP and annual debt service absorbed the equivalent of almost the entire income tax take.

By comparison, today the ratio of debt to GDP is about 35 per cent and servicing that debt costs less than 2 per cent of GDP.

A chronic problem is one that is likely to have survived a number of attempted remedies and so it was with the fiscal crisis of the 1980s. The Fine Gael-Labour coalition of 1983-87, for example, had tried to address it by means of a strategy that relied heavily on raising an already high tax burden, and had failed.

By the time that government collapsed, finding a solution to the problem had been escalated from urgent to imperative. Moreover, the options available had narrowed to one: the tax burden having been raised to a level that was clearly beyond the limit of the economy's endurance, spending cuts had become unavoidable.

In effect, policy-makers had run out of road.

The contrast with the current situation is stark. Objectively, the scale of the problem is of a much lower order as of now, and there are options around the remedial strategy, both in terms of its pace and its composition as between tax increases and spending cuts.

The existence of such choices means that there is much greater scope for debate than in 1987, much greater risk of policy error and much greater likelihood that a particular set of policy decisions will be stoutly resisted, as evidenced by the street protests of recent weeks.

Another feature of the 1980s crisis that distinguishes it from the present situation is that, by the time the decisive attempt to resolve it was launched, it was widely understood that the state of the public finances had become a profoundly negative influence on the wider economy. It was recognised, for example, that heavy government borrowing and indebtedness were exerting upward pressure on interest rates, undermining business and consumer confidence, and thereby depressing consumer spending and investment.

This recognition played a role in mobilising a consensus around the need to take remedial action.

Today's budgetary position, by contrast, is correctly seen as a result rather than a cause of weakness in general economic activity. That exacerbates the difficulty of galvanising public support for corrective measures.

When it comes to fiscal imbalances, it is tempting to resort to the analogy of the alcoholic who, left to his own devices, has to hit rock-bottom before discovering the will to overcome his addiction. Certainly Ireland's 1980s experience would chime with this. Perhaps, having spent a long spell on the fiscal equivalent of Skid Row in the recent past will galvanise us into doing whatever is necessary to avert a repeat and do it fairly quickly. However, the recent Budget and the public response to it would not encourage this hope.

Alternatively, we expect the EU's Growth and Stability Pact to supply the requisite dose of "tough love". However, the pact and its Excessive Deficit Procedure (invoked just this week for Ireland), have never had to be deployed in the kind of circumstances that currently obtain here.

The fact that Ireland's public finances have gone off the rails so spectacularly, despite the pact, is a sobering thought in this regard, and draws attention to the inadequacy of the institutional arrangements around the conduct of fiscal policy as a protection from the myopia of politicians.

Surely, one of the most obvious lessons to be drawn from the current debacle is that we need to strengthen those arrangements considerably, perhaps by introducing rules that limit political discretion in the spending of public money.

Of course, one of the problems inhibiting effective corrective action at this time is the absence of an electoral mandate. It is, after all, scarcely 18 months since all the major political parties in the State fought a general election on policy platforms that promised increases in public spending, cuts in taxes and the maintenance of budget balance, each based on economic forecasts that were determinedly and disingenuously blind to the clear and present danger of a serious downturn.

As a result, it may well be that another election is a necessary condition for the adoption of a coherent plan to restore order to the public finances.

Jim.oleary@nuim.ie