Expert international assessment of likely deflationary impact of measures now available
SCEPTICISM HAS been expressed about the prospect of achieving the projected rates of growth following the €15 billion spending cuts and tax increases to which we are now committed. Happily we now have an expert international assessment of the likely deflationary impact of these measures, namely the current bi-annual report of Euroframe, a body that comprises the 10 major euro zone economic forecasting agencies.
Basing its analysis on the Economic and Social Research Institute’s Hermes model of the Irish economy, Euroframe says that the cumulative negative impact of the €15 billion adjustment over the next four years will be a reduction of 4 per cent in our GDP. It goes on to explain how the fact that “the negative effects of such a large package on the domestic economy are not greater, reflects the openness of the economy”. It points out that the rapidly emerging balance of payments surplus – which by 2014 may attain 5 per cent of GDP – stems from a combination of lower imports and a reallocation of resources to exports, which will transmit some of the effects of the fiscal adjustment to our EU neighbours.
This analysis suggests that the negative impact of next year’s €6 billion adjustment upon our growth rate is likely to be about 1.5 per cent, and in each of the following three years about 0.75 per cent. With that data in hand it is possible to calculate the assumption that is being made by the Government as to what our growth rate would have been if we did not have to take the drastic measures imposed on us by our self-inflicted crisis. These basic pre-deflation growth rates emerge as 3.25 per cent next year; 4 per cent in 2012, and 3.75 per cent in 2013.
The question that arises, therefore, is whether those rates represent reasonable assumptions of what Irish economic growth might be in the next three years if we didn’t have to take steps to cut our enormous budget deficit. If Europe and the US recover, these post-2011 potential growth rates would, I believe, be a good deal too low. But at this stage it is wise to assume that growth in our main markets will not much exceed 2 per cent for several years ahead, which could hold next year’s growth rate of our very open economy down to 4 per cent or less – as the Government has wisely assumed.
At this stage the absence of data for overall Irish growth for the second quarter of the current year – which may not be available until mid-December – makes it difficult to assess our likely pre-deflation potential growth rate in 2011. But if, as the remarkable May to September manufacturing output data suggests may be the case, our economy has in fact been in recovery mode since May last, the Government’s forecast for 2011 should be realised.
Meanwhile, the four-year fiscal plan, with its €15 billion adjustment, seems to have the support of the European Commission, and also appears acceptable to the IMF. Moreover, the overall scale of this package has the support of both Opposition parties, which are committed to the target of reducing the budget deficit to 3 per cent of GDP by 2014.
However, a Fine Gael spokesman said on Thursday that, if elected to government, his party “would be seeking to replace policies within an agreed plan of our own, in order to strengthen it”. And Richard Bruton has said that Fine Gael in government would reverse the cut of €1 per hour in the minimum wage.
But as Declan Jordan of UCC pointed out in yesterday’s Irish Times, this minimum wage cut has to do with bringing about an internal devaluation in the economy, necessitated by the generally excessive level of many Irish pay rates by comparison with those in neighbouring economies. That gap needs to be bridged if we are ever to get unemployment down. Which is why, according to John Gormley the EU and IMF proposed this action to our Government.
Richard Bruton’s remarks were followed by a similar statement by Labour’s Joan Burton, which seemed to be backed by Eamon Gilmore on Thursday’s News at One interview, in which he modified his earlier Late Late Show commitment that in the present very difficult situation he would not make cuts in the budget. Instead he said on Thursday that he would now “examine budget decisions that are blatantly unfair”.
It does not seem wise for Opposition parties to seek to challenge this part of the fiscal plan, especially as by suggesting at this point that in government they can effect such changes they may be opening a political can of worms for themselves – provoking demands during the election campaign by various interest groups for all kinds of modifications to the fiscal plan.
Moreover, raising such issues at this point could adversely affect our external credibility – which may have contributed to the European Commission’s prompt reminder also on Thursday that any such modifications would need to be accompanied by measures to make up an equivalent amount elsewhere. “Any measure that changes the plan has budgetary consequences which will require it to be recalculated,” commented a spokesman for Olli Rehn. And, of course, any new spending cuts or tax increases that would have to be proposed in lieu of dropping a part of the plan would be almost certain to arouse more hostility than any deletion from the plan could attract support.
Finally, on a quite different issue that I raised on another page of this paper last Tuesday, I am puzzled by the proposal from some Fianna Fáil sources that Brian Cowen should be replaced before the general election. It is far from clear that a new leader of Fianna Fáil would at this stage be elected taoiseach by the Dáil.
It may be unwise of that party to assume that the Green Party would vote in favour of such a proposition at the very time when they are demanding a dissolution of the Dáil, and deputies Healy-Rae and Lowry have stated some time ago that they would not support such a nomination.
Thus the most likely consequence of Brian Cowen’s replacement as leader of Fianna Fáil would seem to be his replacement as taoiseach by Enda Kenny prior to the election – as happened in 1994 when John Bruton replaced Albert Reynolds as taoiseach without an election. That might not be a bad thing, but it seems surprising that Fianna Fáil should wish to precipitate such an outcome!