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Analysis/Comment Last Updated: Dec 19th, 2007 - 13:17:15


Comment: The free lunch has yet to be invented - the tipping point for the Irish economy
By Michael Hennigan
Jun 24, 2006, 23:19

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  • Foreign companies were responsible for 87% of Irish exports in 2005 
  • Dell and Intel are Ireland’s biggest exports 
  • Irish investors ploughed €30 billion into local and overseas commercial property in the past 5 years 
  • Investment of €133m has been made in 75 Enterprise Ireland supported companies since 2001 
  • One in five Irish private sector workers are dependent on construction and more than 100,000 will become unemployed within 10 years 
  • No Irish-owned company has floated on the Nasdaq Stock Exchange since 1999 
  • Most workers in Irish-owned companies have no occupational pension 
  • The Irish Government awarded special pay increases to all current and retired public sector workers, including politicians, in return for a benchmarking performance system. Targets introduced are basically unmeasurable and aspirational 
  • William Prasifka, the chairman of the Competition Authority, recently said that “in too many areas, Ireland has not willingly embraced competition 
  • New Irish housing units are among the most expensive and the lowest quality in the Developed World 
  • Since the end of 2003, output per worker in Ireland has been almost static 
  • Most foreign companies will have relocated from Ireland by 2025 
  • In 1970, Ireland's national debt was as healthy as it is now: just ten years later it was one of the worst in the world

For nine years, American historian Arthur Schlesinger Jnr wrote, that the government had treated business as though it had “discovered the philosopher’s stone which could transmute the uncertainties of the capitalist system into permanent prosperity.”

 

Schlesinger was referring to the Roaring Twenties and in the ninth year of the present Irish Government combination, with an Exchequer awash with cash, and SSIA partytime just getting underway, it’s becoming evident to more than just economists, that the free lunch has yet to be invented.

 

Not alone is there not a path to permanent prosperity, but strikingly, the Government has singularly failed to use a period of unprecedented economic wealth and stability, to introduce significant reforms that would increase our chances of building on the gains of the past decade.

 

Dell headquarters Round Rock, Texas - Micheál Martin, T.D., Minister for Enterprise Trade and Employment officially opened  Dell’s EMEA Business Campus,at Cherrywood, Co Dublin on June 1, 2006, where ultimately up to 1,650 employed will be employed there. Dell is Ireland's largest exporter. The Minister said that Dell Ireland is the the 2nd largest ICT employer in Ireland (after chipmaker Intel) with over 4,300 currently employed between Dublin and Limerick.

Dell’s importance to the Irish economy is evidenced by  the company’s contribution of at least 5.5 per cent of Irish exports, 2 per cent of GDP and over 4 per cent of all expenditure in the Irish economy.  In the financial year ended 30th January 2004, Dell paid €160m in salaries in Ireland. For the financial year ended 30th January 2005, Dell paid €55m in Corporation Tax.

 

In a country that is 4 percent urbanised, compared with 12 percent in France and 20 percent in Italy, a small number are making huge killings from the artificial supply restrictions on land for development. We have the surreal scenario where a public planning tribunal has been sitting for almost a decade but no changes have been made to the system of development land price determination. Irish new house sizes are, at an average of 945 square feet (88 square meters), among the smallest in Europe. The average size of new houses in Denmark is 1,475 square feet (137 meters). The majority of new houses built in France are detached.

 

While there is enough land rezoned for the equivalent of 5 years housing output, our sclerotic centrally controlled local government system, gives no incentive for local authorities to compete for an increasing population. In contrast, in decentralised Switzerland and Germany, real house prices have not increased since 1970.

According to Bank of Ireland Private Banking, the Irish have invested €30 million (equity and borrowings) in commercial property both in Ireland and overseas, in the past 5 years. In contrast, Enterprise Ireland said last year that under its Seed and Venture Capital Programme, €133m had been invested in 75 companies since 2001. An Irish company has not floated on the Nasdaq Stock Exchange since 1999 and we have a handful of existing Nasdaq member firms compared with Israel’s 70 plus tally.

State agency Forfás said earlier this year, that foreign-owned firms were responsible for 87 percent of Irish exports in 2005. Our biggest private sector employers, chip giant Intel and Dell Computer, are currently facing challenges in international markets. Dell’s importance to the Irish economy is evidenced by the company’s contribution of at least 5.5 per cent of Irish exports, 2 per cent of GDP and over 4 per cent of all expenditure in the Irish economy.

 

Forfás Chairman Eoin O'Driscoll
Forfás
chairman Eoin O'Driscoll who chaired the Enterprise Strategy Group which produced a report in 2004 on future enterprise strategy, said last year that most of the products made in Ireland are developed, designed, marketed and sold by people overseas. 

 

Also in 2005, the group of experts who produced the State-funded Rural Development 2025 Report, said that most foreign companies will have moved to low cost locations by 2025 and that the number of full-time farmers will have fallen from 40,000 currently to 10,000.

 

William Prasifka, the chairman of the Competition Authority, recently said that “in too many areas, Ireland has not willingly embraced competition. European Directives forced the introduction of minimum levels of competition in the telecommunications and energy sectors. In other areas, such as taxis and pharmacies, legal advice or court actions precipitated change.”

 

The OECD said again last May, that rolling back Irish anti-competitive regulation in services, should be a priority as it would spur productivity growth and restrain inflation. It also said that the deteriorating competitiveness of Irish products

implies that net exports will contribute very little to growth in 2006 and 2007.

 

Why challenge vested interests when popularity can be assured by transferring more than 10,000 public servants to favoured constituencies?

 

So instead of decentralisation reform, incorporating for example some aspects of the Swiss system, Ministers opted for a back-of-the-envelope scheme without any coherent planning.

 

Benchmarking

In the public service, the opportunity to link responsibility with accountability was flunked with a sham benchmarking system. The recent national partnership deal has provided for some public service reforms including a removal of the ban on outsourcing "core work" but these are essentially baby steps.

Irish public service workers come from the same gene pool as those who work for the world class companies that power our economy. However, senior managers can sign-off on multi-million euro projects without having to take any responsibility for it.

In December 2000, a Public Service Benchmarking Body, established under the Programme for Prosperity and Fairness (PPF), was asked to undertake a fundamental examination of the pay of public service employees vis-a-vis the private sector. Former Davy Stockbrokers' economist Jim O'Leary was a member of the body for a period but he resigned before it reported.

In 2004, O'Leary who had joined the Department of Economics at Maynooth University, published with two of his colleagues, the results of six months' rigorous and painstaking research into public-private sector pay differentials in Ireland - Public-Private Wage Differentials in Ireland, G.Boyle, R.McElligott and J.O'Leary, ESRI Quarterly Economic Commentary, Summer 2004.

O'Leary and his colleagues wanted to discover whether similar people in similar employment circumstances were better or worse off working in the public than in the private sector. In order to do this, they had to control for attributes like age, experience, gender and education, and also for job characteristics like occupation, type of contract and size of establishment.

As the CSO data does not permit this kind of analysis, the dataset that they had to use is one based on a large-scale survey conducted by the Economic and Social Research Institute (ESRI) and used for much of its research into poverty and inequality.

The core finding was that on average, public servants earned 13 per cent more than their private sector counterparts on a like-for-like basis in 2001. The researchers also discovered that the size of this margin (the public sector premium) in 2001 was not significantly different from what it had been in 1994, suggesting that pay increases in the public sector had kept pace with the private sector throughout the Celtic Tiger period.

Another discovery was that the margin by which public service workers outearned their private sector counterparts tended to be significantly larger at the bottom of the income distribution than at the top.

A particularly striking finding was that the estimate of the public sector premium for Ireland was more than twice as large as the available estimates for other countries.

The Public Sector Benchmarking Body recommended pay increases which averaged 9 per cent across the grades examined and cost €1.2 billion a year. Government Departments introduced aspirational targets for staff that would make a laughing stock of a manager in the private sector who emulated the farcical exercise.

O'Leary says that the Public Sector Benchmarking Body never published its research results and at no stage in its 278-page report did it explicitly state or opine that public sector pay had fallen behind that in the private sector.

Ministers, other politicians and all living former employees of the Irish public service received special payments.

Last November, Davy Stockbrokers said that Irish public sector pay is on average around 120 percent of private sector earnings, having risen from 113 percent in the past five years, according to Davy Stockbrokers.

In a weekly market comment, Davy said  that figures from the CSO (Central Statistics Office) indicated that average earnings in the public sector are now more than €43,000 a year. This compares with €33,500 in the private sector (industrial, construction, distribution and other sectors).

"Moreover, these crude comparisons take no account of the superior pension entitlements available to the public sector," Chief Economist Robbie Kelleher said.

The benchmarking awards have widened the gap significantly even though these were supposed to help the public sector catch up.

There are no credible performance targets and there are jobs for a full working life.

From cracked pavements that can remain unrepaired for years, to huge IT and infrastructural projects, the public perception is that there is no real accountability and the buck stops nowhere.

In recent years, both Ministers and senior civil servants have approved big value IT projects without having employed the services of IT experts with significant international experience.

Pensions

Ministers, members of the Oireachtas and public servants who make decisions for the rest of the population, are the ultimate Insiders.

Public service pensions are linked to the wage deals negotiated by government employee unions, not inflation. When Ministers and the rest of the public service got special increases in recent years because it was falsely claimed that differentials with pay in the private sector had fallen, public service pensions also went up.

It's the equivalent of a company that improves its earnings through developing new markets, increasing productivity etc., paying resulting increases  also to past workers.

A private sector worker can provide for the equivalent of a public service pension for a maximum of two-thirds of final salary for retirement. However, 28% of salary would have to be put aside every year for 40 years to do so. Not many people can afford to save this amount.

This figure is based on an assumption that a person's salary increases by 5% per annum; annual investment growth is 7% and annuity rates (which buy a pension on retirement) are 4%.

The solution that is available to the small few who get top positions in the private is to have their company agree to set aside large amounts in a pension fund as funding of 28% for four decades is only something a public servant could dream of, without worrying about who was doing the paying.

Even where the private sector pensioner ends on the same salary as a public sector counterpart, the latter will continue to be a winner.

It’s a scandal that after more than a decade of the Celtic Tiger, most private sector workers in Irish-owned firms, do not have an occupational pension.

Almost half the Irish workforce of 2 million have no entitlement at all to any pension other than a social welfare pension. Outside of the public sector, foreign-owned private sector companies, the construction sector and large Irish companies such as those in financial services, occupational pensions are more the exception than the rule.

There are in fact two economies operating in Ireland. In one, the average annual industrial wage is 30,200 and pay rose at a rate of 2.1% in 2005. In other sectors, pay is rising at multiples of this rate and in the construction sector, average pay is almost 40,000.

With the National Pension Reserve Fund for future public sector pensions currently valued in excess of 16 billion, isn't it time to take action and introduce a mandatory pension system that would be funded by both employers and workers?

There is no shortage of funds to ease some of the adjustment pain, in the short-term.

More than 100,000 Construction Jobs at risk

National House Prices in Ireland have risen by an average of 14.9% for each of the last ten years according to a special edition of the permanent tsb House Price Index that was recently  published.

More than 17 per cent of the private non-farm workforce are in construction. The total rises to 20 percent when jobs in services related to construction are added. The corresponding proportions for the UK and US are 7 per cent and 5.4 per cent respectively.

There are more than 250,000 directly employed in the Irish construction sector. When an estimated 80,000 in financial and business service jobs that are dependent on the construction sector are added to direct employment, we get a total of 330,000 - just short of 20% of the private workforce according to Central Statistics Office (CSO) figures. Business service jobs have increased by 100,00 in recent years.

Employment of 290,000 in Production Industries follows job losses of 30,000 in the past five years. Not alone are there more construction related jobs than industrial jobs in the economy, average annual earnings in construction are almost €40,000 compared with €30,200 in industry - a difference of 33 percent.

As the infrastructure and house building programme winds down, it is likely that more than 100,000 construction workers will be seeking employment elsewhere in the economy.

Most construction workers have limited if any IT skills.

The Tipping Point

As the impact of the SSIA spending bonanza dissipates in the next two years, against an uncertain international outlook, the economy may well hit a tipping point. An increase in unemployment and the impact of the closure of a number of significant foreign-owned plants, could have a devastating impact on consumer confidence. However, the National Pensions Reserve which is currently valued at €16 billion, will delay the need to hike taxes in response to a contraction in the property sector.

The longer a boom continues, the more people delude themselves into believing that the economic cycle has been abolished. While change domestically is proceeding at glacial speed, the world class companies that we so depend on, are not resting on their laurels. IBM has announced plans to increase investment in India by $6 billion in the coming 3 years. Since December 2003, its payroll there, has increased from 9,000 to 43,000 currently.

Group Business Editor of Independent Newspapers Brendan Keenan, recently wrote that in 1970, Ireland's national debt was as healthy as it is now: just ten years later it was one of the worst in the world.

A rise in unemployment would trigger a housing slump as first time house buyers would be forced to sell.

“Some economic analysis suggests that a small economy like Ireland's is more vulnerable to this sort of shock. Changes in economic growth produce unusually rapid changes in the budgetary position, for good or ill,” Keenan wrote.

Keenan said that in the short run, it is dangerous to let public spending commitments exceed the likely long-run available resources.

The worry is that this is exactly what is happening now. True, it is not easy to know what the long-run revenues will be, but the present growth in spending exceeds any plausible figure.

This year's 13% rise in current spending is being funded by the extraordinary taxes from property. That kind of growth will not continue even in the short run; not even if house-building and house prices stay at high levels. Should either fall significantly, there will be a fierce crunch for the public finances.

At the same time, all kinds of long-term commitments are being made in the social partnership process, which now has a ten-year framework.

Dr. Garret FitzGerald has written in the Irish Times that during the brief Celtic Tiger period from 1993 to 2001, our living standards rose by one-half. But this was due to two special factors - both of which were essentially temporary in character.

 

The first was the impact upon our national productivity of a quite exceptional inflow of new US investment. For a number of years Ireland, with only 1 per cent of Europe's population, attracted up to 25 per cent of all US greenfield industrial investment in our continent. The new technology and skills that this inflow brought contributed to a 4 per cent annual increase in output per worker at national level, ie productivity.

 

The second factor, which played an even larger role in boosting our living standards during this time, was the huge increase in the total number of people at work, and the corresponding drop in the proportion of dependants in our population. Several factors contributed to this: the exceptional inflows of young workers emerging from the educational system and of women transferring from "home duties" to the labour force, and also the flow of unemployed people returning to work and of recent emigrants coming back to jobs here.

 

Within a decade these inflows into our labour-force reduced from 230 to 115 the number of dependants that every 100 workers had to support, either directly within their families or indirectly through taxation.

FitzGerald writes that the huge increase in the proportion of our population engaged in work, and the consequential drop in our dependency ratio - more rapid than had ever previously been seen anywhere in Europe in peacetime - accounted for more than half of the improvement in our living standards. But that extraordinary combination of productivity growth and reduced dependency, which distinguished the 1990s in Ireland from any other decade, was a temporary phenomenon.

“In future, our standard of living is likely to rise much more slowly than we became accustomed to during the 1990s. However, I don't think that with most people this particular penny has yet dropped,” FitzGerald writes. “Since the end of 2003, output per worker in Ireland has been almost static. It seems to have risen by only 1 per cent in 2004 and not at all in 2005. Even if the CSO was in due course to revise upwards its current estimates of economic growth in those two years - which is quite possible - any such revision is unlikely to be on a scale that would show any appreciable rise in productivity…. in the absence of improvements in output per worker, the current spending spree, financed by borrowing, could not continue indefinitely. And, on top of the uncertainty created by our huge growth in dwelling construction, this new factor introduces a further element of uncertainty into our economic prospects in the latter part of the current decade.”

Cassandras are seldom welcome during partytime and while the aftermath may not follow Louis XIV’s après moi, le deluge prediction, as we head to stormier waters, we will surely wonder why so little was done, when we had an unprecedented period to set the foundations for more challenging times.


© Copyright 2007 by Finfacts.com

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