Upturn defied economic theory

MARCH 1987 was not a good time to be taking over as Minister for Finance. Ray MacSharry had already held the position briefly in the short lived Fianna Fail government, which fell in the autumn of 1982. As if things had not been bad enough then, during the intervening years the national debt had doubled, unemployment had increased by 100,000 and a further 100,000 had emigrated.

"It was obvious at that stage, after nearly 10 years of over spending by successive governments, that something needed to be done," according to Mr MacSharry. "It had to be done, because we were going through the roof in relation to the debt and the economy had stagnated."

The Haughey government took office in 1987, warning that the cuts proposed by the outgoing Fine Gael led coalition would hurt the vulnerable in society. But with the public finances worsening by the day, and a palpable sense of economic crisis, the new administration decided to go for broke by announcing even harsher spending cuts in the March 1987 Budget.

Mr MacSharry points out that he had tried to do something similar in a mini Budget in July 1982, when the government approved swingeing cuts of £120 million. But the government fell a few months later and, saddled with difficult international conditions, the incoming coalition failed to get a grip on the national finances.

By 1987, says Mr MacSharry, "we ourselves could see the seriousness of the problems and it was obvious it had to be addressed. In fairness to Alan Dukes and the introduction of the Tallaght Strategy (of supporting government financial policy) it was possible to then begin the rowback."

In retrospect, the cutbacks of 1987 are seen as the start of the economy's revival. But the newspaper headlines at the time told of the huge political controversy caused by the almost £400 million in cutbacks from Budget day spending.

"Obviously some of what was done was drastic," says Mr MacSharry. The first task for the new government was to pilot the Budget and the Finance Bill through the Dail. Playing one opposition party off against another and with broad support from Fine Gael the Finance Bill was passed.

"Then the avalanche of problems arose from the cutbacks in health and education and the public sector embargo. There wasn't a day without headlines complaining about the impact that these were having. Everyone accepted it had to be done, but as soon as it was done there was nothing but criticism all over the place. But that's politics."

Economic forecasters were also grim about the overall prospects for growth. "People were talking about negative growth rates," according to Mr MacSharry and his Budget forecast was for growth of less than one per cent.

For months the flak flew thick and fast. "It was a terribly abusive time, I had to take a lot of abuse and criticism," he says. So did colleagues such as Mary O'Rourke in education and Rory O'Hanlon in health.

"None of us could have done it without the full support of the government," says Mr MacSharry.

Was he concerned that the policy would not work and the economy be sent into a tailspin? "Yes, definitely I was worried. All of the outside advice was saying we would send the economy into a decline.

What happened surprised everyone. "Economic theory was thrown on its head," in Mr MacSharry's words. Instead of heading into decline, economic growth actually outpaced the Budget forecast in 1987, with Gross National Product expanding by four per cent.

Ray MacSharry is in no doubt about what sparked the revival. "The main thing that year which led to the beginning of the recovery was the reduction in interest rates. In four months they came clown by four points. That's what got the growth rate moving."

Ireland's high rate of home ownership makes the economy highly responsive to interest rate changes, and the reduction in rates put money straight back into consumers' pockets.

Crucially, lower interest rates also boosted business and consumer confidence and encouraged the government to stay the course of fiscal rectitude.

"It immediately gave people confidence that what was being done, critical and all as they were of it, was beginning to work and seemed to be working very quickly."

LOWER interest rates meant that falling government in investment was "very quickly replaced by private investment". With "the ball running in the right direction", the government cut further in 1988 and Mr MacSharry oversaw tight spending in the spending plans for 1989, before heading off for Brussels.

Attitudes were changing quickly. "A culture had built up in public bodies over the years that every penny allocated had to be spent and 20 per cent more demanded the following year, in the hope of getting 10 per cent.

"It had to be stopped and that time came in 1987." The first real effort at cuts is probably the easiest, he believes. This is because the initial reductions cut out fat and "did not dig into the bone".

The attitude towards job creation also changed as private sector activity increased. "Up to then people thought the State was the only creator of jobs. What they did not realise then and do now is that the State only creates the environment for others to create jobs, the real jobs."

Finally the era of social partnership dawned with the negotiation of the Programme for National Recovery. This was a key factor in securing moderate wage increases and building competitiveness.

While much progress had been made, Mr MacSharry believes more remains to be done to create an ideal environment for job creation.

"Tax and the cost of employment is still too high," he says. He would be a "a little concerned" over recent trends in the public finances, particularly as the level of EU funding is likely to decline in the years ahead.

In recent years there has been a bit too much emphasis on the public spending side and not enough on PAYE and PRSI reductions, he says. This is leading to public agitation and a message from the people that there must be lower taxes. The government must "control public expenditure diligently", he says. "It would be a pity to undermine the success of the last few years."