Recession Ireland 2008: The Celtic Tiger is declared dead today and while it may be like a feast and famine, all is far from lost but the illusion that the free lunch had been invented, has also crashed to earth.
|Department of Finance, Merrion Street, Dublin 2
The forecast of a recession in 2008 by the Economic and Social Research Institute (ESRI), coming in the aftermath of the Lisbon Treaty rejection, is a deep psychological blow to Ireland Inc., on the world business stage. The confluence of an inevitable bursting of a housing property bubble with the international credit crisis and both the UK and US economies on the brink of recessions, together with rising inflation that will result in interest rate hikes, is the perfect storm.
The ESRI expectation of a contraction in both GNP and GDP of 0.4% in 2008 will likely result in adjustments in private sector forecasts by even the most ardent optimists.
The ESRI, as a publicly funded but independent institute, was the inspiration of TK Whitaker, the architect of the modern Irish economy, whose seminal work, Economic Development, was published fifty years ago this year.
"Everyone knows the downturn in the public finances is because government blew the finances from the boom which everybody knew would be temporary," Dr. Alan Barrett of the ESRI said on Monday.
The biggest indictment against the Government is that during a period of a manna-from-heaven of riches, the opportunity was not used to seriously reform governance, public sector and barriers to competition in the private services sector.
Labour Finance Minister Ruairi Quinn had announced a restrained budget in advance of the 1997 general election but his successor Charlie McCreevy opened the throttle with an wide extension of property related tax incentives, when they were not needed coupled with a cut in capital gains tax for property investment to 20%, and an ECB interest rate of 2% from mid 2003, property became a "slam dunk" to borrow an expression from George Tenet, George Bush's Iraq invasion era CIA chief.
The Central Bank could have done much more as the frenzy gathered pace:
European report says Irish house prices should be left fall further; Real mortgage rates in Ireland were zero or negative between 1999 and 2005
I was advised by the Central Bank last year that they did not keep any data on interest-only lending by the banks, for example.
During the recent partytime, anyone who questioned the conventional wisdom was "talking down the economy" and last July, former Taoiseach Bertie Ahern, wondered why "cribbers" from the sidelines didn't commit suicide.
Property man Ken MacDonald lamented in the Sunday Independent in March 2007: Why do we allow scaremongers and doomsayers with unfounded pessimism and unbridled negativity dictate our thinking and blunt consumer confidence? The Irish economy is the envy of the world. Job creation is phenomenal with more than 7,000 new jobs being created each month - despite the gloomy attention given to periodic job losses in some sectors.
Unemployment stands at 4.1%, the lowest in Europe; there are 750,000 more people in the workplace than a decade ago. We have revitalised cities and towns, a conveyor belt of entrepreneurial business people operating successfully on a world stage, a rich cultural and artistic heritage, a vibrant talented young population, rising by almost 100,000 per year, confident in their own and their country's destiny. We should be celebrating our success on a daily basis. In any event, the Irish love affair with property will continue undaunted despite the knockers.
The forecast of a recession should help the Government in the current pay talks and the ESRI says that any increases to public servants under the pay round should reflect the likely developments in the private sector. "While the argument will be made by public sector unions that allowance should be made for inflation, we would argue that the economy generally and the public finances in particular are in a vulnerable state and that national interests would be best served through wage restraint in the public sector," the Institute says.
Some people unfortunately did fall for the Government spin in past years that the philosopher's stone had been found to engineer a permanent prosperity.
Our membership of the European Union had little to do with our good fortune and we were storming new overseas markets like China but the truth was a little murkier and less self-serving.
More than 90% of our total exports are made by foreign-owned firms and we are more dependent on the sector than at the start of the Celtic Tiger.
Financial Times columnist Wolfgang Münchau wrote on Monday on the aftermath of the Lisbon Treaty rejection: What strikes me the most about this extraordinary turn of events is the perception in Ireland that a break with the EU would be no big deal. I received a large number of letters from Ireland last week from readers who steadfastly maintain that the country’s economic success had nothing to do with the EU and everything to do with domestic policy – in particular with low corporate taxes and skilled labour.
The view expressed by those correspondents is as wrong as it is revealing. If so many people are delusional about their country’s economy, then we should perhaps not be surprised about the outcome of the referendum. It is therefore perhaps worth looking in some detail at the nature of Ireland’s economic success over the last 30 years to gauge what life might be like outside the EU.
There are several interactive factors. The importance of EU subsidies is almost certainly overrated. They played some part, especially in the early phase of the country’s economic renaissance. In any case, Ireland is on the verge of becoming a net contributor to the EU budget. But one would be even more mistaken to conclude the opposite: that the EU matters nothing or little.
Ireland was one of the early and enthusiastic members of the European Monetary System in 1979, which brought much needed macroeconomic stability. Membership of the eurozone in 1999 led to lower interest rates, which have contributed to the economic growth ever since. Low corporate tax rates certainly helped Ireland attract foreign investors. But never forget that Ireland is also the only English-speaking member of the eurozone, the one place where eurozone and Anglosphere meet.
The country naturally benefited from membership of the EU’s internal market. Without it, Ryanair, the Irish low-cost airline, would not be able to offer its popular flights across Europe. The Irish have also proved influential in the management of the internal market, not least through Charlie McCreevy, the Irish commissioner in charge of the EU’s internal market and financial services. As a member of the EU, Ireland has been in a position to veto motions that would have impaired the country’s economic success. Without steadfast opposition from Ireland, the EU would have made more headway in imposing corporate tax harmonisation.
Ide Kearney and John Fitzgerald write in today's Irish Times that the the huge cost of the excessive housing boom is now being laid bare.
They say that over the coming two or three years, as the building sector contracts, the economy needs to price its way back into a competitive position to allow new activities in the manufacturing and services sector of the economy to grow, providing a full recovery in 2010 or 2011.
The problem is that when firms have to cut employment this happens very rapidly, as is the case today, while it may take a few years to grow the new firms providing the employment of the future.
The ESRI's Quarterly Economic Commentary says that the economy is experiencing considerable difficulties right now: The forecast for the re-emergence of net outward migration is possibly the most vivid illustration of this and may give rise to comparisons with the 1980s. Given the likelihood of such comparisons, it is worthwhile stressing that the economy is better placed today to emerge from these difficulties than it was in the mid-1980s. However, a return to higher growth rates is predicated on ensuring that public expenditure is both efficiently provided and effectively managed. In such a context, a return to positive growth in 2009 and 2010, forecast both here and in the Medium- Term Review 2008-2015, can be expected with a reasonable degree of confidence, something which could not be said in the mid-1980s.
The top earning US fund manager in 2007said last week that the credit crunch has much further to run.
In addition to a rate hike by the ECB to 4.25% on July 3rd, the key 3-month Euribor inter-bank rate is likely to retain its premium of about 0.8% over the benchmark rate well into 2009. Commercial loans in particular, have been hit by the equivalent of 3 typical ECB rate hikes since last August as such loans are priced at Euribor +
Funds for lending will remain tight while past investors in second houses/apartments in the expectation of making a quick profit within a few years, will be under increasing pressure to sell.
For example, many investors got five-year interest only loans and capital repayments will now start to put pressure on owners.
As to where the money has gone, much of it from developers and farmers on EU welfare, who benefited from the rezoning system, has gone to purchasing most of New Bond Street in London for example.
Irish investment of €13.9 billion was put into European property deals last year. In contrast, the Irish business sector does not even get a total of €200 million in venture capital investment. The Irish have invested about €60 billion in commercial property - mainly overseas - since 2001.
Property dominates the news on Irish investment. Last month, a consortium of Irish investors led by Ulick and Des McEvaddy acquired a majority interest in an 86-acre site beside the new airport in Berlin. I guess that Ulick gets help in reading or depends on advice in respect of the legal documentation!
A report on investment intentions among corporates in 15 countries, relating to the coming five years, which was published last week, said that had "the research been carried out five or ten years ago, Ireland might have expected to feature as a preferred place to invest for many respondents looking for a business-friendly, low tax environment.
Today, corporations are looking elsewhere, and Ireland is not cited in any of the areas covered by the study."
Irish land prices are the highest in Europe and Dublin office rents are among the highest in the world - - - more than double Toronto's and almost twice the level in Brussels - capital of the European Union.
Troubling times indeed, but what is needed is political leadership to match the challenges ahead.