How to mitigate the next recession..

The madness, it seems, has returned. Perhaps like those insects that lay eggs that can survive drought and then swarm back, it never left, just lay dormant. Santayana’s maxim of the inevitability of repetition if one comes from a position of ignorance could be the warcry of Irish policy “ we repeat our mistakes, and we’re proud of it. Vote us” And we do. 

 Booms and crashes are part of the inevitable cycle of modern capitalist economies. One does not have to be a Marxist to appreciate the need for a historical perspective. In fact, the lack of a historical awareness, of a historical context, is arguably a major cause of the recent global financial crisis.  Cycles happen. The role of government is not to try to eliminate them – they may as well try to declare pi to be 3 – it is instead to recognise their existence and to mitigate against them. That means leaning against the wind, best achieved by some modicum of automatic stabilizers that keep government spending smoother than the path of GDP. Such stabilizers mean that in a recession a government runs a deficit, in a boom a surplus (which can then be used to finance the deficit). It also means that the government keeps its spending changes smooth. That is of course to go agains the economic illiterates who crop up with dreary frequency and deadening unconscious deadpan to wonder why the government doest do like a house and balance its budget. This is the economic equivalent of wondering why petrol is not a useful fire suppressant, or a katana a good present for a five year old. This is not to suggest that there are not lessons form the non-government sector. A better metaphor than the Swabian Housewife and Prudent Hans is corporate dividend policy.  Government spending should be like corporate dividends. Cutting dividends (or government spending) is rarely a good signal, and it should rise slowly and only when we are clear that we can sustain it.

The problem for Ireland is that we are already spending the surplus when we have not got it. There is a persistent myth amongst the population that we are bankrupt because of the bank bailout. We are not. That we should have imposed losses on more capital holders, bondholders, now is generally accepted. We didn’t. However if we look at the debt compositon we can see that while what we did was foolish, costly and morally indefensible, it is not the major part of the problem. This year we will spend about 8b on debt service. Of that an estimated 1.6b is attributable to the banks. Leaving aside the issue of straws and the spinal strength of camels, this means that 6.4b in debt service is down to historic overspending.  Our national debt in 2007 was €37b, now it is just over €174b. Of the €137 increase just over €41b is attributable to the banks. Thus, 70% of the added debt is down to the government spending more than it takes in. A large part of that is that we did not put in place a modern tax system. Indeed we voted persistently for those that flew agains it, cheerful and united in our unwillingness to face economic or even accounting reality. There is literally no constituency, in Ireland for a modern tax system, there is an infinite  constituency for spending SEM (someone elses money) and for tax breaks and reductions for pressure groups of all stripes.  the banks may have been the straw but the bricks on the camel were loaded on by our own decisions. A great tragedy of the bailout is that in addition to borrowing we also flushed down the pan an emergent sovereign wealth fund. A fund such as that run by many countries would allow us to both earn money and to use some of the income or capital as an alternative to borrowing in times of recession.  We bought Anglo.

A large part of the increase in the debt noted above is that for decades we have voted ourselves that which we do not have. We have consistently refused to elect politicians who would put in place a modern European style tax system – where most things are taxed moderately most of the time allowing a solid flow of income to the state. We have exempted, in particular, physical property and now face the horribly painful need to balance the books. Nobody likes more tax. Everybody likes more services. Into the gap step politicians with mantras and spin that somehow a magic money tree exists, can be both cut down and carefully harvested, and they know where it lives. Perhaps it is with the millennium trees…. Sinn Fein, who have been making great strides, are wedded to the economic equivalent of a pushmepullyou – a wealth tax that exempts property despite it being the largest source of wealth.  Even with all that we have endured we have still got a deficit this year, mostly it is true down to the interest on the debt. In that context, to start to hear the discussion on tax cuts, on wage hikes, on the need to at one increase spending and decrease tax, that is to hear the sound of a nation of inveterate gamblers wandering back to the table. What is worse, the government, who should lead, are fixated on the rapidly approaching election and are at best not dampening and at worst encouraging this behavior. We see this in regard to house prices – now is a good time to put in place mechanisms to cool the housing market. Instead we see denial and fuelling.   We see it in public sector pay. Brendan Howlin expressed a hope that we had broken the boom bust cycle, talking as he entered cabinet this week. I am sure he was, at the time, 100% truthful and believed himself.. Last year the government broke solemn promises (yes, yes, politician promises…we know) that they would not come back to the public sector pay well. They did, for 300m, the saving of which was presented as being existentially required. Now, his party is rife with talk about pay rises and tax cuts. If that is not inherently cyclical then it is hard to know what is.

A medium term, that is 3-5 year, budget should be the norm.  A clear statement that the government will neither cut nor raise its spending by the same amount as the economy would help defuse the “act procyclically to reduce volatility” economic illiterates. A commitment to reintroduce the National Pension Reserve Fund, to expand it to a Sovereign Wealth Fund and to ringfence it for a decade would also introduce stability.  A return to auction politics does nothing but harm. If we buy into it, as I suspect we will, we engage in economic self harm. We are in the beginnings of an upswing. That will turn into a recovery. As sure as the sun rises that will end, and we will face a recession. The depth, extent, and duration of that recession depends in large part on decisions we make now. If we participate in the auction now before us we will have nobody to blame but ourselves for it being deeper, longer and more harmful than it need be,

This is a version of my column in the Irish Examiner 13 September 2014

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One thought on “How to mitigate the next recession..

  1. Pete

    Ireland has only been independent for a short time, and much of that time it was utterly dominated by the Catholic church. Now, it’s like a fresh graduate who has just emigrated to Australia with a big student debt. Free, at last, to take whatever decisions it wants. But will it take good ones? Inevitably the transition to adulthood will be painful and studded with bad choices. Perhaps the parents will have to provide a bailout if things go badly wrong. But in the end, the child becomes an adult. Usually. Eventually. Hopefully!

    Good article, Brian!

    Reply

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