Ladies and gentlemen,
Introduction
I would first like to extend my thanks to the organisers of this event for inviting me back to speak before you today; it is a great honour. I always worry when I speak at an event I like that another invite might not be forthcoming. It is always a pleasure to come to Donegal.
You may recall last year, I was speaking at exactly the same time as Ireland successfully re-entered the markets for the first time since the bail-out. Sadly, I was not able to organise such a momentous milestone to serve as backdrop for this year’s speech.
Today’s Topic
Today our topic centres on a word which, over the past few years, has been allowed to become indelibly engrained into the Irish lexicon: “austerity”.
But it is important to realise this is not a new issue for Ireland. Even back in 1929 policymakers were cognisant of the importance of prudent fiscal management and ensuring access to credit. In his 1929 Budget day speech, Minister Ernest Blythe stated “good national credit is practically essential to the growth of industry through private enterprise because in its absence there cannot be stability and continuity of financial policy or any certainty that the state will not be driven by dire need to resort to the imposition of unforeseen and arbitrary burdens…”. He continued “instead of too freely seeking loans we have… kept a deadweight burden of national debt down to a figure which, considering all the circumstances of the past few years, is astonishingly low”.
However, there was an awareness that sound fiscal management must be accompanied by policies which are supportive of growth. This was, after all, the same year the Government commissioned significant investment into Shannon, in the form of the Ardnacrusha power plant.
Austerity however is an issue which continues to loom large, not just in Ireland but across the developed world; dominating debate and dividing opinions. It is a topic which often elicits feelings of unease and fear, and one which, I feel, is often misunderstood or, at least, misrepresented.
This issue, as you can imagine, requires a very delicate balance.
While this is of little concern to countries running large budget surpluses, countries such as ours, who face annual revenue shortfalls, need some way of raising cash to keep the lights on and so need to manage the speed of deficit reduction so as not to destroy the economy but also so as to keep creditors on side.
Without market trust and liquidity at reasonable rates, the government cannot access funding to finance the deficits and the whole show stops without external help.
Ireland’s Fiscal Position
Let us first recall some of the unassailable realities of our situation. On entering into the EU-IMF programme in late 2010, the Irish economy was in free-fall. Unemployment was high and rising, with employment falling by an average of about 6,000 per month. The Irish banks were shut out from market funding and deteriorating international confidence saw non- residential deposits in the covered banks fall by over €60 billion in the second half of 2010. The public finances had become heavily imbalanced with the underlying primary balance deficit – that is, the deficit excluding interest expenditure - peaking at 9.3 per cent of GDP. In the space of just five years the Irish debt-to-GDP ratio increased by about 90 percentage points. Private investors turned their backs on the Irish economy and investment fell by around 50 per cent.
Ireland found options closing off: unable to access funds from the international markets as interest rates on Irish debt propelled to unsustainable levels, and we had to turn to the Troika. I recall last year when speaking to you mentioning 2 year rates of 23% in 2011.
Those who suggest we could have forgotten about balancing our books and just rolled out additional stimulus during this period, or even now, must necessarily answer the question - which they have not done - who was or is going to lend us the money to finance such a decision?
Bank Recapitalisations – it is not the only problem
Of course, it is often said that our only problem was the onerous bank recapitalisations. It is true that the debt accumulated by the bank recapitalisation has been enormous and has added to the problem.
However, a fact which is often ignored is that more than half of the accumulation of debt over this period is not down to bank bailouts. Let us not forget that large underlying primary deficits (that is, the deficit net of interest payments and bank recapitalisation) have now been run in every year in Ireland since 2008.
Automatic StabilisersThe underlying deficits have been run for two main reasons:
The first was causal: the overreliance on transitory sources of construction-driven revenue which developed during the boom. This resulted in a large hole in Government finances once the housing bubble burst, and has forced us to re-shape the structure of the tax system but this structural reform could not be done quickly.
The second was reactionary: the decision in spite of falling revenues, to continue to supply money to the economy to try to limit the economic downturn. This money was spent:
1. Supporting incomes of the most vulnerable and those who suddenly found themselves out of work;
2. Avoiding the drastic reductions in public services and public servant numbers that we’ve seen elsewhere;
3. Continuing a capital investment programme – albeit a reduced one.
To hear the public debate on the topic since I came back to Ireland in 2010, one would think that the choice adopted had been an immediate correction in expenditure, in line with falling revenues. Instead, the government continued to support a less dramatic adjustment of the fiscal imbalances, borrowing funds to that end.
Between 2008 and 2012 government spending on income supports increased by 36 per cent, with expenditure on Jobseeker’s Allowance nearly tripling over this period.
In this way, the automatic stabilisers served to support economic activity during the downturn. This large increase in spending on those most in need - stimulus by any other name - is seldom recognised by those assessing the official reaction to the crisis.
Of course, markets stopped agreeing to support this choice in 2010 and we were left to seek assistance from the IMF and EU partners to fund the annual deficits.
The suggestions that the country could simply have defaulted on its debts and somehow have found enough money to keep the lights on are misguided.
The Stark Choice
I am not for a minute suggesting that the path has not been tough; it has been very painful for many of our fellow citizens. The individual pain is also often masked by averages and statistics but the impact on individual households should always be up front in our analysis.
I do think however that any discussions we have should be grounded in the reality of our situation, both back in 2008 and up to the present.
The reality is that the large budget deficits we were running were not sustainable over the long-run and the country had lost credibility among international investors. Considerable fiscal adjustment was not an option but a necessity.
ESRI Research – the other option was worse
Let us consider the counterfactual – opting against implementing these reforms from 2010-2013. In this regard some recent work recently published by the ESRI is instructive. Assessing the cumulative impact of the measures over the three years, the Institute’s work showed that, in a no policy change scenario, Ireland’s debt would be 16 percentage points higher than it currently is and the general government deficit 6 percentage points higher.
It is worth considering that had we allowed our debt to surge to such a level, the extra interest bill we would now be facing annually would be €1 billion more (using today’s rates) or €2 billion more at the rates prevailing on the eve of the bailout. The latter might even be the better proxy for the cost of borrowing since, had we not displayed the determination to fix the imbalances, as has been done in the past couple of years, it is likely that our borrowing costs would be at the higher end of the scale. Remember, Greek 10 year rates are over 10 per cent today.
I think when faced with this reality it is hard not to reach the conclusion, as the ESRI does, that there was simply “no choice” but undertake such adjustments. Piling debt on debt into the medium term is not possible as interest rates rise to unsustainable levels. I simply do not believe it is honest to speak about the measures undertaken without reference to the fact that since 2008 we have borrowed around €53 billion to support services in the economy (other than the banks) and even this year, we continue to support the economy by running an expected underlying primary deficit of over €4 billion.
Meeting the targets - a delicate balancing act
Having taken the more realistic option, we have seen a successful effort to move towards a sustainable fiscal position where we can soon start to reduce debt.
As I mentioned, it is a delicate balance. The government must annually decide on the pace of change by reference to the facts available at each budget time.
I am often asked, especially since we negotiated the promissory note restructuring, what will be the level of consolidation required for this year. As I also said back in February, I think such talk is premature. We’re committed to producing this year’s draft budget by October 15th, a full two months ahead of previous years, meaning we have already two months less data to base our projections on. The promissory note deal is but one factor. We also have very important indicators to come in September, allowing us to better understand what has been happening to growth and tax revenues in our economy in the second quarter and what we can expect for the second half of the year.
Let me make things clear though: we remain committed to meeting the targets set out in the Programme but what exactly that requires needs to be determined at the time of the Budget (and not before).
Securing borrowing at affordable rates
To date our efforts have been successful and have been recognised by international onlookers, but most importantly by our international creditors. This has led to a fall of around 10 percentage points in Irish 10 year bond yields - a fall which has reopened the option to us of market funding for continuing a gradual reduction of deficits.
Key though is on-going market willingness to work with us, which is itself based on our continuing and demonstrated commitment to hitting our targets. I’m sure many of you are aware of the recent disappointing growth figures from the CSO, which makes the job somewhat more difficult than anticipated before the release.
Support from the troika
I realise that trust without action is scant consolation but the considerable concessions that have been won demonstrate the merits of such goodwill.
a negotiation of a lowering of the interest rate on our EU programme funding
the extension of maturities on lending
most notably, the successful restructuring of the promissory note
Taken in total, this has reduced by around €40 billion the amount the State will have to borrow in the next decade, reducing re-financing risk and interest costs by limiting our exposure to external stresses in the bond market over the long term.
Looking into the future
I would like today to also look to the prospects and choices for the medium term.
What are we to do over the next couple of years? Clearly we need to reduce the debt overhang and associated interest burden. The interest cost of our debt is expected to consume €8.2 billion, or 14% of all government revenue, this year.
Countries that reduce debt successfully must in my mind deploy multiple strategies, of which sound fiscal policy is necessary but not always sufficient. However, looking at previous episodes of debt reduction, it seems there are four points which stand out.
1. The consolidation effort must emphasise persistent, structural reforms over temporary measures
2. While fiscal consolidation is required, it must be supported by a policy mix which supports growth
3. The external environment has been an important contributor to past episodes of successful debt reduction.
4. Governments cannot do it on their own - private sector investment is a key to economic recovery.
1. Structural Reforms
On structural reforms, a key facet in tackling Ireland’s elevate debt levels must be ensuring that the measures taken offer long-term gains, rather than short-run measures which seek to wallpaper over the cracks.
In this regard we have made solid progress. Ireland’s structural balance – that is the balance removing the cyclical component - is now on a downward trajectory and is expected to balance before the end of the decade, in line with our medium-term objective.
The danger was evident in the case of Italy which, having reduced their government debt ratio by around 20 percentage points in the decade following 1994, was unable to preserve the improvement in their fiscal balance and ultimately saw debt levels rise sharply in the years that followed, primarily due to very weak GDP growth.
2. Supporting Growth
On the necessity of supportive growth policy, I think it is worth starting out by putting one commonly cited myth to rest. Neither I nor my team in the Department are under any illusions about the negative short-run impact on growth that consolidation entails.
I hope I have explained though why we cannot continue on an unsustainable basis, supporting positive short-run impacts on growth, if the debt and interest rate effects outweigh such impacts.
We also have to remember that Ireland is a small, open economy. Much of the international debate about stimulus versus austerity refers to large, closed economies, from which we could not be more different. Most of us know that Irish exports are well over 100 per cent of GDP, but many forget that imports are over 80 per cent of GDP. Quite simply, a large amount of stimulus will leak out of the Irish economy through the import channel. So measures enacted to allow for fiscal adjustment have to be framed in such a way as to limit this negative impact and to support job creation. For example, the capital programme has been re-calibrated to move away from large, capital-intensive schemes to smaller, labour-intensive ones so that more of the spending stays in the domestic economy.
In the absence of economic growth, Ireland cannot hope to emerge from this period of crisis; putting in place the conditions for supporting such growth has naturally therefore been a focus of much of the work of my Department.
We cannot expect to prosper in isolation but it is imperative to ensure that, once conditions in the international environment do improve, we are in a position to benefit and I am confident that this will be the case given developments in the Irish economy in recent years such as the considerable gains in competitiveness.
3. External Environment
To that end, we have also been maximising other support from the EU.
A strong Ireland needs a strong Europe and though the economic bonds may have strained in recent years, it is together and not apart, that we are best served. It is together we must plan for the future.
Ireland has long discarded the virtue of isolationism and with it, the fantasy that we can go it alone. As such, domestic polices alone will not suffice and strong, decisive action at a European level is needed to ensure a robust recovery. While I’m sure everyone would like European reforms to progress in a more expeditious manner, I am encouraged by some of the movements we’ve seen of late, owing in no small part to the efforts of Irish officials during our EU Presidency, especially on banking sector repair.
But while measures on the banking side tend to dominate the headlines, it should not be ignored the Presidency also involved a highly ambitious agenda focused on jobs and growth.
These included key work on the €960bn Multiannual Financial Framework – the single biggest tool for investment in jobs and growth. Of this, €8bn has been dedicated to the Youth Guarantee, a fund focused on talking youth unemployment throughout Europe, while €70bn will go towards research and innovation grants.
Less well known perhaps is the role of the European Investment Bank. People may know that I was recently appointed by the Minister to the board of the European Investment Bank. Already it has revealed many things to me. The EIB is the development bank for all of Europe, including Ireland. EIB lending comes at rates and maturities not generally available in Ireland from other market sources. Funding is however key to economic activity. It stands to logic therefore that the more successful we can be sourcing this type of funding, the better that is for our economy. The EIB can do for us what other less constrained AAA governments might do themselves – lend at cheap governmental rates to stimulate economic activity. Ireland cannot currently do this as its rates are not low enough.
So can it work? The facts speak for themselves. In 2010 total EIB lending was €256 million. Last year it was €505 million and in the first seven months of this year it is already at €579 million. What was particularly interesting about the last board meeting was the approval, of not just support for the expansion plans for an Irish university, but also the approval of funding for a private company’s investment in new technology and infrastructure. There was also approval of EIB commitments to work to solve problems of exporters in securing export credit in peripheral countries and how the EIB might work to generate better SME funding lines in countries like Ireland with higher rates than in the core.
While our own challenges seem huge for us (and they are large), they pale in comparison to the size of resources being made available across Europe to battle the economic crisis. The same single EIB board meeting approved €15.2 billion of funding across Europe but had less than €250 million of funding to approve for Ireland, whether public or private projects.
These funds, which will be a vital aid in stimulating activity in the Irish economy can and must, in my view, be deepened even more. We need to put extra effort into finding ways to connect these funding sources and those projects (not just Government infrastructure projects) looking for funding and also find ways to be more flexible in defining our needs to match the programmes available.
4. Private Sector Investment
Creating the most favourable environment for private investment, conducive to employment creation, is also a vital condition for a robust Irish recovery. We are now seeing very important positive consequences of growing confidence in Ireland. Last year the IDA reported that 66 new companies came to Ireland for the first time. To underline the benefits of this for the Irish people, net job creation for IDA firms was that highest in a decade. FDI has also been strong in the year-to-date with 70 projects – 35 of which are from companies new to Ireland – announced in the first half of the year.
Close at hand, I’ve seen Great West Lifeco return to these shores, making a very significant investment into Ireland by buying Irish Life from the Government for €1.3 billion and in doing so, ensuring a full return on the State’s investment.
We have also seen the number of new businesses setting up in Ireland approaching pre-recession levels, with an average of 33 companies incorporated every day this past July, which is a 28% increase on the same period of last year and the highest number of start-ups incorporated in a single month since July 2008. Added to this we’ve seen strong real estate investment growth, with investment in the first half of this year - €612 million across 52 transactions – already exceeding the volume recorded in the whole of last year.
The pension fund is being converted into a €6.4 billion fund to stimulate economic activity by investing in strategic commercial investment in Ireland. But given the limited resources available at Government level in the years ahead, it is vital that private sector investment is supported to the maximum to take up some of the slack. SME activity is the key to recovery and must be supported to the fullest.
The Activating Dublin report - published yesterday from the group I chaired - looking at how to make Dublin a world leader for start-up tech companies, shows how many things might be done without involving the expenditure of large amounts of money.
Similar efforts must continue to map out what we can do into the future.
Medium-term Strategy
Looking to the near-future, Ireland is set to exit the EU-IMF Troika Programme at the end of this year – the first country inside the euro area to successful exit a programme. While I’m sure there are many among you who may say “good riddance” to the Troika, it is important that we do not see our exit from the programme as an excuse to slip back into the patterns of old. After all, the job is not complete. Ireland’s underlying deficit is forecast to fall to 7.4 per cent of GDP this year – a figure, while within the EDP deficit ceiling, will mean Ireland’s deficit remains amongst the highest in Europe this year.
Although the level of external scrutiny may diminish somewhat, we should not allow this to detract from our commitment to returning Ireland to a long-term, sustainable growth path and must ensure the recent momentum we’ve seen in the jobs market is sustained over the coming years.
With this in mind, Minister Noonan and the Minister for Public Expenditure and Reform, Brendan Howlin, recently brought a proposal to Government to develop a medium-term economic strategy to cover the period out to 2020. This strategy will set out the direction for economic policy for the period after the EU-IMF Troika programme. The strategy is to focus on how we can boost the growth potential and the performance of our economy, providing a platform for sustained job creation, while at the same time addressing our fiscal imbalances over the medium term.
As the Minister outlined recently, given the focus on growth and employment, it is anticipated that key structural policy areas considered will include industrial and innovation policy, competition policy, labour market activation and skills policy and the whole area of access to credit. And as we move into this new era for the Irish economy, attention must turn to how we can adjust the orientation of policy in these and other areas in ways that improve competitiveness and productivity, leading in turn to increased economic activity and growth.
We must repair broken sectors of the economy like construction and position others to operate to their fullest potential.
The strategy will be an integrated, whole-of-Government effort, involving full stakeholder consultation, which will draw on sectoral plans prepared under the aegis of other Government departments and complement the sectoral focus of the Action Plan for Jobs. It will also be a broad-based approach, safeguarding against any overreliance of specific sectors and allowing for a diverse economic base.
Moreover, a coherent, whole-of-Government strategy will enhance decision making and, in a time of scarce resources, will ensure these resources are utilised to their fullest, in a way which delivers real benefits to the people of Ireland.
Conclusion
To sum up, Ireland has come a long way over the last few years. We’ve had to act swiftly and decisively and the decisions taken have not been easy. While considerable challenges remain, the end is now in sight but we are not there yet.
We can’t control the economic developments in the UK or US; we can’t force a European recovery but we can ensure that when the prevailing international headwinds do subside, we are in a position to benefit.
There are those who speak in derisory tones about Ireland’s achievements to date; those who sardonically ascribe labels like “poster boy of Europe”, wishing to portray our actions as the meek acquiescence of a nation subservient to the higher powers of Europe. We must not be swayed by such cynicism. The actions undertaken have been and continue to be for the economic and social betterment of Ireland.
It is imperative therefore that we remain committed to returning Ireland to a sound fiscal footing; that our better judgement is not clouded by wishful thinking and that the efforts up to now are not undone by complacency. I realise it’s not the message that the people of Ireland want to hear but seldom do necessity and desirability make comfortable bedfellows.
This is and will remain our primary goal and I am convinced that the Irish people have the determination to see this through. Last year, I highlighted the absolute necessity to see results in terms of job creation to reduce forced emigration.
When I spoke here in 2012, the unemployment rate stood at 14.9 per cent, the corresponding figure now is 13.5 per cent and over 20, 000 jobs have been created in the year to March 2013. It is an important start.
While we may not have reached our destination, we’re at least now walking in the right direction.
Thank you for your attention.