The Irish problem

9 October 2010

It isn’t spending cuts

Those arguing against spending cuts have recently adopted a one-word argument: Ireland. The case it stands for is as simple as it is bogus. Ireland had a deficit, now even worse than Britain’s. It adopted an agenda of sharp public spending cuts, on the same logic used by the British government. The result? A double-dip recession and a fresh round of misery. The lesson from Ireland is that cuts don’t work — and that George Osborne is leading Britain into the swamp.

The argument is seductive, but only if one is ignorant about what has just happened in Ireland. It is true that after bouncing back in the first quarter, the economy shrunk again in the second quarter, but such variability is to be expected in any country exiting a slump as severe as Ireland’s. But the real meteor that has just crashed into the government has nothing to do with the cuts, without which the Republic would almost certainly now be bust. It stems from Ireland’s hasty promise to guarantee 100 per cent of all bank deposits, and a subsequent failure to fix many of its most important banks. The decision to bail out Allied Irish Banks added some €50 billion to the national debt. Rather than disguise this by fiddling the accounts (as Gordon Brown did in Britain) the Irish have taken it on the chin. They have published a worst-case scenario: a one-off increase in its deficit to 32 per cent of economic output, assuming (unlike Britain) that the bank money has gone for ever. The markets were impressed, slightly lowering the interest charged on Irish government debt.

There is a crucial aspect of the Irish crisis that everybody appears to have forgotten, which goes a long way towards explaining Ireland’s problems: its membership of the dysfunctional single currency, an institution it should never have joined. Ireland, like Britain, had its economy deformed by debt — the result of year after year of dangerously cheap credit, aided and abetted by central banks. Ireland’s cheap money came from the European Central Bank, which kept interest rates even lower than the Bank of England, thus guaranteeing an even greater boom and subsequent bust. Even in January 2006, when many of the stupider lending decisions taken by Irish banks were being planned, eurozone interest rates were only 2.25 per cent. This arguably made sense for Germany, but was absurdly low for Ireland; it could have done with 9 per cent.

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Kevin Lynch

October 11th, 2010 12:39pm Report this comment

The argument that if the Irish authorities had had more contro over monetary policy outside the Eurozone, things would have been different is speciously seductive, but ultimately bogus. The Irish central bank could have imposed restrictions on bank lending, but did not, probably for political reasons eg. being accused of 'sabotaging the economy'. An indepenent Irish central bank would most likely have been accused of the same thing and backed off.

Snukes

October 13th, 2010 2:09pm Report this comment

Suspect that there is a lot of truth in the cost of borrowing perspective, combined with an over valuation of the Punt (interms of the Euro)

Colman Stephenson

October 15th, 2010 1:14am Report this comment

There are legitimate and serious concerns about the impact of the Euro in the peripheral economies.

But this article does not succeed in showing how the Irish governement 'fessing up to existing liabilities would cause economic recession.

The timing of the double-dip irish recession actually supports the Keynesian/Krugmans who blame the it on the spending cuts.

WilliamCB

November 15th, 2010 6:36pm Report this comment

Your argument isn't really clear. Are you saying that:
i) it doesn't matter whether Ireland gets economic growth now or not, it's destiny is already determined by euro membership, a mistake in guaranteeing banks etc etc; or
ii) it really does matter whether Ireland gets growth, but it's going to be fine and the double dip is just a blip.

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