Shipwrecking the Economy and Capsizing the Lifeboats

Editorial from the Observer today.

Ireland has been betrayed by its leaders.

The need for a bailout is the consequence of the government’s incompetence. It should pay for its failure

It never seemed to matter in the boom years, but strictly speaking, there is no such thing as a Celtic Tiger. The image was coined in the mid-90s to compare Ireland with voraciously expanding economies in east Asia. Now that boom has turned to bust, and Ireland is negotiating a European bailout, the mythical nature of the beast is poignant. There were no big cats in Dublin after all.

But there were fat cats. The Irish boom saw a vast property bubble puffed up by appallingly managed banks with the complicity of idle regulators and political cronies. House prices between 1994 and 2006 rose by around 520%. The relationships between developers, their financiers and the officials who authorised the building spree were usually cosy, often corrupt. Towards the end of the growth years, the country’s financial sector descended into full-blown mania. Banks doled out credit indiscriminately and borrowed on international capital markets on a scale that far exceeded the nation’s economic output. When the bubble burst, the government stepped in to rescue the banks, but their debts were ultimately bigger than the state’s capacity to raise revenue. Ireland started sliding towards insolvency. Hence, the bailout.

Not all of the boom was bogus. The initial expansion was driven by growth in exports. A young, well-educated, cheap labour force attracted investment. So did an aggressively competitive 12.5% corporate tax rate. Ireland positioned itself as a lean, buccaneering start-up economy, challenging Europe’s unwieldy giants. Membership of the single currency gave seamless access to export and capital markets.

But there was a shift at the start of the 21st century. As success fed into higher disposable incomes and demand for houses, the returns on property investment soared. The government, in turn, became dependent on tax revenues – and in some cases bribes – from the building trade. Politicians kept consumer demand buoyant with generous public spending, while rewarding developer friends with public works contracts. Ireland’s narrow elite ran the economy like a casino and awarded itself free chips. No one, save a few lonely economists, had much incentive to call time on the party.

By 2007, around one in five Irish jobs depended in some way on the property market. Much of that story is familiar from other countries caught out by the credit crunch. But Ireland’s unique misfortune is to have, in Brian Cowen’s Fianna Fáil government, leaders who shipwrecked the economy and then capsized the lifeboats. The initial crisis response in 2008 was designed in such a way as effectively to absorb the doomed banking sector into the state, with no safeguards for taxpayers. While fitting as a kind of poetic commentary on what had happened in the boom years, as policy it was insane. Every cent of tax revenue disappeared down a black hole of debt; a ballooning budget deficit demanded brutal austerity measures – public sector cuts, tax rises – which drained any remaining cash out of the economy and prolonged recession.

Ireland is not bankrupt yet. The Treasury is forecast to run out of cash some time next spring. Finance minister Brian Lenihan had hoped to bring the deficit under control and appease nervous investors before then. But the country’s eurozone partners are not waiting to see if domestic remedies work. They are forcing Ireland to take medicine prescribed by the European Central Bank and the International Monetary Fund.

The exact shape of the package is not yet known, but it is likely to include tens of billions of euros in bailout money in exchange for more tax rises and spending cuts. It is a dark day for Ireland. It is also a momentous event for the rest of Europe. When Greece needed bailing out in May, the EU was unprepared. Markets were demanding action and a panicked response was cobbled together.

Dublin’s case is subtly different. Creditors were certainly nervous, but the European intervention is essentially pre-emptive. Ireland has sacrificed control of its budget for the greater good of restoring investor confidence in the wider eurozone. It is easy to portray that as an act of cruel martyrdom. Eurosceptics in Britain have been quick to weave a tale of Irish sovereignty surrendered to Brussels bureaucrats. Thus is the folly of the single currency proved, they argue.

But on the question of sovereignty, the European angle is overplayed. It is debt that has deprived Dublin of budget autonomy. Countries that suffered financial crises ended up taking money and policy dictation from the IMF long before the euro was born. At least today, Ireland retains its political rights in EU institutions. Arguably, the fact that this is a pan-European rescue gives Dublin more clout than it would have in a lonely one-on-one fight with the bond market. Besides, without access to ECB emergency finance, Irish banks would have collapsed last year, possibly taking the Irish state down with them. The ensuing panic would have infected the UK, regardless of its euro-aloofness.

The threat to Ireland now does not come from visiting European officials. And the last thing the country needs is a surge of embittered introspection and “ourselves alone” nationalism. In the past, when Ireland has suffered economic malaise, younger generations have sought a better life elsewhere. One of the great achievements of the boom was to retain the services of a young, cosmopolitan, entrepreneurial class. They helped transform the country’s economic prospects and its self-confidence.

Now the Tiger generation is eyeing the exit. There is a real danger of Irish society being hollowed out, with a discredited political elite holding nominal power and no legitimacy while an angry, disoriented, heavily indebted and increasingly poor population chase dwindling jobs.

Ireland needs social and political renewal as much as it needs economic recovery. That cannot happen under the current government. Fianna Fáil and Brian Cowen have no authority left. Their task now is to oversee the technical agreement of the European rescue to the satisfaction of international creditors and then, with some stability restored, call an election.

The situation is not irreparably bleak. There is much productive potential in a young, well-educated – and increasingly cheap – labour force. Private sector investment has proved surprisingly resilient in the downturn. Ireland can still be a good place to do business. But it needs to rediscover the vigour and imagination that fired the early years of the boom and jettison the lazy cronyism and corruption that marked its decadent demise.

The moral bankruptcy of Irish politics is the biggest obstacle to recovery. The EU can bail out the budget; only a public vote can clear out the government.