Budget Deficit Target About Right

While there is a lot of detail to absorb and plenty of issues to debate, internal consistency demands that I welcome the Minister’s budget deficit target for this year of 10.75%.  I argued a few weeks ago that when considering whether the government was sticking to the plan it had sent to Brussels in January, it was best not to focus on the target of a 9.5% budget deficit for the year as a whole but on whether the measures taken would, if implemented over a whole year, put us on a 9.5% pace.  Based on current information, I think the budget does this.

Last week’s Exchequer Returns indicated that we were on path of a deficit of 12.75% this year without further corrective action.  On a full-year basis, this would require an adjustment of 3.25% to get to a 9.5% deficit.  Assuming that the corrective actions taken in this budget would have only 60% of their full year effect during 2009, then these measures would reduce this year’s deficit by (0.6)(3.25)% = 1.95%, which would imply a budget deficit for 2009 of 10.8%.  As such, I would interpret the government’s actions today as putting them back on track with the plan sent to Brussels in January.

Another welcome element of the budgetary figures was that the GDP projection of -8% were more realistic than the -6.75% mentioned in last week’s Exchequer Returns.  Both the QNAs and the recent unemployment data point towards a GDP decline for this year of at least the 8% now projected by the government.

I’m still reading over the governments plans for the banks and will post my thoughts later.

Update: I should probably have also pointed out that it is perhaps a bit disappointing that the targets for 2010-2012 have slipped a bit since January. But then again, these relatively small adjustments should be seen as realistic in the face of the govenment’s projections of -8% and -3% GDP growth for 2009 and 2010, compared with projections of -4.5% and -1.1% in January.

8 replies on “Budget Deficit Target About Right”

Also somewhat encouraging to read that

“Spending reductions that the Government has decided on for 2009 to 2011 will have a cumulative full year effect on current spending of €2.7 billion in 2010 and €4.2 billion in 2011. Reductions in capital spending will accumulate to €1.3 billion in 2010 and €2.4 billion in 2011. The policy decisions underlying these reductions are already in train. They entail further reductions in pay costs, programmes and numbers.”

Assuming that these decisions have real substance — and we await details — they promise quite a bit of momentum.

Why is Ireland the only country in the world being required to deflate demand through tax increases and spending cuts at the present time?

Is it because the balance-of-payments deficit is too high, the traditional reason why countries deflate demand? No! According to current forecasts, Ireland will have a balance-of-payments surplus in 2009. Countries like Spain, Greece, Portugal and most of eastern Europe have balance-of-payments deficits of 10 to 20 per cent of GDP. Yet, they are not being required to deflate demand. Even the UK and US have balance-of-payments deficits of 2.5 per cent and 5 per cent respectively. Yet, they are having budgets designed to expand demand.

Is it because total government debt is too high? No! Its actually one of the lowest in the world as a percentage of GDP.

So, that leaves us with the budget deficit as the only possible reason. It is now projected that this will be 10.75 per cent of GDP in 2009. But, In Britain, whose media is full of Paddy-bashers constantly portraying Ireland as heading for bankruptcy, the budget deficit is forecast to be 11 per cent in 2009. Is Britain heading for bankruptcy? Will Britain be having a deflationary budget in 2 weeks time? Unlikely! While the US is now forecast to have a budget deficit of 12.7 per cent of GDP in 2009. And, according to the Sunday Telegraph, the average OECD budget deficit in 2009 will be 8.7 per cent, only marginally lower than Ireland.

If current forecasts are correct, Ireland may go from having a balance-of-payments deficit of 7 per cent of GNP in 2007 to perhaps a surplus of 3 per cent of GNP in 2010. To deflate demand sufficiently to bring about a 10 per cent turnaround in the balance-of-payments in 2 or 3 years would be considered excessive at any time. The financial markets would be ecstatic if the US reduced its balance-of-payments deficit by 1 per cent of GDP a year for a few years. But, to deflate demand sufficiently to bring about a 10 per cent of GNP turnaround in the balance-of-payments in 2 or 3 years, moreover 2 or 3 years of global recession when its difficult to increase exports, will be seen by future generations as madness.

But, if we’re going to do it, the least that should be expected is some kudos from the financial markets for doing it. Why, for example, don’t Cowen and Lenihan point out to the financial markets the dramatic improvement in Ireland’s balance-of-payments deficit? They are both solicitors. Do they even know what the balance-of-payments deficit is, and the difference between it and the budget deficit? I’m beginning to think they don’t. If they do, why are they allowing Ireland to be lumped in with Iceland, whose balance-of-payments deficit was 30 per cent of GDP in the last quarter, or with countries like Spain, Greece and Portugal, whose balance-of-payments deficits are stuck in the range 10 to 20 per cent of GDP and show no signs of coming down.

After all, its through balance-of-payments deficits that countries go bankrupt, not through budget deficits. The budget deficit in Ireland is primarily down to the fact that Ireland has given up on buying cars, consuming alcohol and going on foreign holidays, which of course is why the balance-of-payments deficit has vanished, even though a side-effect is a fall in tax receipts. How exactly does giving up on buying cars, consuming alcohol and going on foreign holidays indicate that a country is becoming insolvent?

If a country has a balance-of-payments surplus, then, by definition, it has enough savings to fund its budget deficit without recourse to foreign borrowing. If a country has a balance-of-payments deficit, then, by definition, it does need to borrow from abroad, whether that be government borrowing or private borrowing.

Which helps explain why the last issue of bonds in Ireland sold as fast as tickets for the Millennium Stadium the week before, while in the very same week the UK issue of bonds failed to sell for the first time in a decade.

The opening estimate of €34,500M is completely unattainable. Projecting the figures forward based on the first 3 months would suggest a final figure between €28,500M and €31,000M.

The expected additional yield seems a little high. Taking the levies and the removal of TRS on mortgages, that is expected to take about €200M a month out of income. This is very high looking at the February & March returns. The other sources of tax are minor and have all been very flaky for sometime. There is also no hit against other taxes for the various cutbacks, in particular VAT.

The decline in prices also seems very low. It seems to me that prices may fall by up to twice the expected level. This will have a huge influence on VAT yield.

The intended taxation of Child Benefit will be a nightmare. It is very hard to see how it can be done. The previous attempt by clawing back the old child tax free allowance was withdrawn very quickly. We no longer have any tax credit or deduction for children and also post the Murphy case & individualisation, which parent do you assess?

Also, the Public Servants most likely to depart early are all going to have to be replaced. For example, school principals, Senior Managers and specialist technical staff. It is unlikely that many lower earning clerical/ admin. staff will opt out. Many bodies are going to find it difficult to replace the people leaving quickly

@ John – I think you raise a very interesting point. Without wishing to in any way excuse the Irish Govt for the mess we are now in, I think we are suffering from not only being one of the economies worst affected by the recession but also one of the economies FIRST affected by it.

If you follow the commentary in other countries – and Brian J Goggin references a UK example – you’ll see that the discussion is very much following the same discussion that occurred here 6-9 months ago. Not every country will be impacted as badly as Ireland but I do wonder when those countries catch up with where we are now, whether the same medicine will be required/imposed.

Absolutely the budget should be assessed on what it would do to the deficit target in a full year but also should be assessed on its effects on the economy. What I find puzzling is that contributors to this site have previously argued that international evidence shows that fiscal adjustments that focus on tax hikes tend to fail. Surely this is the core issue with the budget given that the deficit target has been achieved…surely the cure (tax hikes) will seriously injure the patient.

I find the lack of focus on out of control public spending to be odd in the extreme….it will surely be the main focus come December and if the public sector spending bill is not tackled well then we’re looking at a boston tea party situation…there’s only so much taxpayers can take…all this taxation & high spending and for what! Some of the worst public services in Europe. It’s a joke.

are british workers asked to pony up from their pocketslevies and the like to save their nation

considering problems of ireland, spain and greece I think it is possible to say a country with a chronic balance of payment deficit problem is not suited for european monteary union in the long term, even if deficit level is within limits of maastrich criteria. this argument is particularly relevant because member states of monetary union do not have devaluation tool of their own currency as they used to do, by which they could easily offset their trade imbalances and also reduce their internal debt level. tools left for their use are playing with interest rates for borrowing and changing taxation levels to change consumer attitude. these left tools however results with increased debt level of country which becomes unsustainable after a certain point.

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