Goodbye to All That

I’m not a fan of the Ireland Inc line of chat. But the concept has more immediacy and policy relevance since the balance sheet of the main banks has been more or less socialised. Recent discussions about the BOP turn-around, fiscal stabilisation, the rising savings ratio, NAMA, (State purchase of bank assets, risks of over-payment), and about off-balance sheet financing wheezes to sustain construction activity can all usefully be thought about in the context of the national balance sheet.

In addition to fiscal stabilisation, bank re-construction and the restoration of competitiveness, the national balance sheet needs to be shrunken and de-leveraged. By 2007, we had created an economy with an emerging public finance crisis, iffy banks, weakened competitiveness and a balance sheet with too much debt supporting over-valued assets. The balance sheet was in any event too big for comfort, even had the assets (property, equities) turned out OK.

They did’nt, net worth declined sharply in line with asset prices, and credit markets turned nasty. The declining net worth supports a smaller balance sheet anyway, and the nasty credit markets suggest contraction even if net worth was unimpared. So the decline in private sector credit demand, rising savings rate and improving BOP are to be welcomed, and substitution of private with public borrowing to be mourned, in this view. The macroeconomic strategy is to avoid  anything that looks even remotely like a return to 2007. This was not a good place to be. 

The Canadians had a phrase, in the 1980s, for the national inferiority complex occasioned by the decline in the Can $ versus the real thing. They called it ‘parity nostalgia’. There is a mood beginning to emerge, in policy proposals from opposition parties, social partnership talks, lobby group suggestions and from some economists, that I am going to call ’07 Nostalgia’. Things were better back then – we had higher employment, (incuding jobs for graduates!), higher investment, easier credit. So lets have some job creation, off balance sheet spending on infrastructure, banks that can lend again etc etc. This is 07-Nostalgia.

In three or four years time, if we are lucky, we will have an economy which needs to look very different from 2007, the final year of the first credit-fuelled bubble in the State’s history. It should look like this: (i) Government debt ratios stabilised and sovereign credit spreads back to low levels; (ii) competing banks strong enough to lend (a little); (iii) a competitive economy producing more exports, less houses, and (iv) a smaller and less leveraged balance sheet. This economy will inevitably be smaller than 07 for a while, have lower employment, a smaller construction sector, smaller aggregate bank balance sheet, bigger Exchequer debt, lower public spending, higher tax rates and possibly BOP surplusses for a few years.

All policy wheezes emanating from the commentariat over the next few months should be smell-tested for 07 Nostalgia, and rejected at the merest whiff.  We have been there and it did’nt work.

46 replies on “Goodbye to All That”

Colm – to lump well crafted active labour market policies in with the “off-balance sheet” spending pointed out by Karl is a very strong view. Find an economist anywhere who disagrees with your basic aims of a lower government debt, more exports, solid banking. The way you make this adjustment is also important and the problem is that it does not seem that we have enough ideas to put forward an actual adjustment mechanism that minimises the carnage that a full-flight recession can inflict on people caught in the worst end. It seems to be the case (would be delighted to be corrected) that our understanding of negative equity in Ireland amounts to a blogpost and that our labour market response amounts to placing an embargo on hiring while leaving very nostalgic 2007-level salaries mostly untouched. As well as macroeconomics there is also a subject called microeconomics and we better start trying some of that as well.

Well said Colm. This process of deleveraging is necessary and the signs of it being allowed to happen are welcome,albeit painful. The unsustainability of the 2002-2007 period has to be unwound. As a result domestic demand has to take a hit. Its a pity that a similar process is taking place in the US amd UK at the same time,but so be it. The role of global imbalances in this whole debacle is fascinating, and has been very well discussed by Martin Wolf in the FT. It also highlights the problems of expecting the banks to go back to ‘old’ levels of lending. There is little demand right now for consumer credit,why would there be with an expectation of 17 percent unemployment. Similar story for firm investment. Lets have some creative destruction or restructuring by letting unsustainable firms fold and get the process done as soon as possible. Hopefully the increased size of the public balance sheet, which partially offsets the reduction of the private sector balance sheet, will be used appropriately by providing meaningful and strategic labour market support to ease the transition. All in all what we’re seeing now in the macro data is a necessary evil for the ills of 2002-2007.

Colm. Provocative stuff. It reminds me of arguments made by “shock therapy” advocates during post-communist transition. Few would quibble with your claim that the end-point must be very different from the 2007 structure, notably in terms of the traded/non-traded balance and the structure of the fiscal system. The big question is how we get from here to there.

Your de-leveraging/liquidation approach is one contending strategy. But it is hardly the only one. Instead of scoffing, we should be working hard to find transition paths less costly in human terms. While many ideas are sure to be suggested and rejected, I would prefer to see creative thinking in areas as such as countercyclical investment policies (recognising relatively low opportunity costs in an underemployed economy) and micro-focused policies to limit lasting scars from unemployment.

Agreed that 2007 nostalgia is dangerous. But what 2000 nostalgia (or some date around then?). Such a reference point seems positively useful to me.

@LiamD. I agree with the point that you, JohnMcH and others have been sressing about not letting unemployment slide without attempting corrective action. But this will not get a serious hearing unless it can be discussed in almost cost-neutral terms and — apart from the obvious and unapalatable nominal wage issue — nothing has yet been put on the table that meets that criterion. The Bell-Blanchflower paper you pointed us to some days ago had interesting ideas. Can they be turned into a package that is sort of cost-neutral and might therefore attract effective policy interest?

Liam, thanks for drawing my attention to the existence of microeconomics, I will look it up on Wikipedia.

At latest count (to Dec 08), 118,000 jobs have gone since the peak in the private sector, while public sector employment was still rising to December last. Hence the hiring embargo. 2007-level salaries were unsustainable, and need to fall, at least in line with the private sector declines already under way, wherever they survive. Including universities, banks, State companies and the rest of the sheltered sector.

We already have some ‘well-crafted labour market policies’. For example, the rise in the Live Register to date includes c. 40,000 extra people on three-day weeks, who can still draw some dole, thus minimising benefit withdrawal, and hence can still register. Throughput on FAS courses is up, and courses have been re-designed. Further costed, and ideally cost-neutral, labour market interventions may well be possible but all I hear about are construction-boosting schemes of the type which bother Karl Whelan and Edgar Morgenroth, or proposals for indiscriminate credit loosening. Schemes which massage short-term unemployment figures, but which hinder the inevitable adjustment, are irresponsible. Especially job-creation stunts – we have been here too, in the 1980s.

There is more available on the decline in net wealth than a blogspot on negative equity. For example, the decline in pension fund assets has been quantified and it would be a worthwhile exercise for someone to construct, say, the Q4 07 national balance sheet versus Q2 09.

John, you seem to think that de-leveraging is a policy option amongst many. This is bubble-denial. Minimise the NPV of aggregate macroeconomic pain by all means, including labour market scarring. But there is no point codding anyone about the size of the Irish bubble, or the costs of unwinding it.

Patrick, I would be loath to accompany you on the odyssey all the way back to the year 2000. Real GNP was 72% of 2007, population 556,000 lower, employment 426,000 lower. You are on firmer ground with bank assets – BoI had 42% of 2007 levels, AIB had 45%. Best to synthesize 2013!

@Colm, Patrick. (before the handbags come out) Seen as we’re doing history lessons (and perhaps it’s all the Dublin South news recently) should we look back as far as Lemass?

Personally, while I enjoy the history lessons, I think that we are in a unique situation at the moment. The level of debt, indeed the level of employment sustained by debt, currently in this economy does not have a historical precedent. We can learn from history to an extent, but a unique situation demands an unique solution.

I raised the Lemass point, not because his actions are particularly relevant now, but because he was willing to try something new to stimulate a stagnant economy.

David McWilliams has an interesting article in the Indo today. (I think the idea is mad, but at least he is trying to open the discussion to new ideas) So my question to the E20 letter writers is, what do we do now? Or are you all too concerned about your personal academic reputations to stick your heads too far above that particular parapet?

Whether it is macro or micro, economics where people turn to for answers, not historical debates.

Or on the other hand….

Colm, the more I think about your stance the more realise how much I disagree with it. First a point of agreement: a significant amount of post-bubble deleveraging and liquidation is undoubtedly necessary. But you are experienced enough and pragmatic enough to see that this process can greatly overshoot due to vicious cycles. Jobs, homes and businesses will be lost because spending falls in anunfocused way. We should all be thinking hard about minimising economic waste associated with the post-bubble transition.

A few late-night observations:

First, we need a much better understanding of the fiscal (or solvency) constraint that is hanging over the economy (and the debate) like the Sword of Damocles. Oliver Blanchard made a masterful presentation at the Carnegie Endowment last week. [Link to slides: While there is much that is interesting in the presentation (including his discussion of vicious cycles), Slide 8 is of particular relevance to the Irish economy. The left-hand panel shows the evolution of CDS spreads for a number of sovereigns including Ireland. Of more interest, the right-hand panel shows the evolutions of the CDS spreads for the Irish government, AIB and BOI. There is again much to discuss concerning these evolutions, not least the causal relations between them. My limited point here is that we need a deeper understanding of the extent and drivers of the solvency constraint. I hope that blog commentators closer to the debt markets can help here.

Second, I believe that one of the government’s failures is that it has not yet put in place a credible medium-term fiscal framework. Philip Lane in particular has laid out the lessons from the literature on effective fiscal rules. Taking advantage of these lessons should lead to a less binding solvency constraint. There is no excuse for not getting this right in the next budget.

Third, I think that some of the blog writing on the evaluation of capital expenditure projects has adopted a too-limiting approach to cost-benefit analysis. It often seems as if it is cost-benefit analysis for a full-employment economy. If that were the situation, then fiscal multipliers would be quite rightly set at zero (complete crowding out). But as Brendan Walsh pointed out in a comment some time back, even though our knowledge of fiscal multipliers for Ireland is woefully imprecise, we can be reasonably sure they are well above zero in the current depressed economy. This does not mean that standard cost-benefit analysis is not required to rank projects, as Edgar Morgenroth has powerfully argued, but it does have implications for the wisdom of countercyclical investment policy.

Finally, while I understand Patrick’s call for cost neutral policy interventions—no doubt motivated by what he perceives as a binding fiscal constraint—this condition strikes me as too demanding. Where microeconomic interventions such as activation policies are known to yield substantial net benefits (taking account of fiscal multipliers and interest rate effects), there should be a presumption towards pursuing them. We should be strongly encouraging applied microeconomists like Liam to make the case for beneficial policies.

Patrick – I am studying this with reference to the Irish situation and will post something when it is sensible to do so. Me doing this is a poor substitute for an actual government response that embeds employment stimulus into an integrated recession strategy and gives it a higher weight than present. Also, its not really for me to be arrogant enough to think I can sit and write an entire employment response from my office chair. Hopefully, an articulated government policy setting out how FAS, the Enterprise Boards, Tax Incentives, Temporary Public Sector Recruitment, Redeployment of NDP priorities toward labour intensive projects (not at all restricted to construction), welfare reform, public sector current expenditure redirection and so on will be forthcoming before I solve everything with my clever blogpost. I dont disagree with the bulk of Colm’s comments above – namely that there is a role for labour market response and that these responses should rise above things like gimmics designed to massage the figures and inefficient and costly pet schemes.

Colm – I agree with you that there is some work on decline in net wealth. However, there is nothing (again happy to be corrected) on negative equity. I raise negative equity as a specific issue as it is likely to make the labour adjustment a lot more difficult, particularly when you consider the age-profile of both people likely to be “in negative equity” (bad phrase I admit but let it go for now) and the disproportionate number of younger unemployed people in the new figures. Your previous comment on stamp duty is one aspect of this but at the risk of being balled at by some of the commenters, we are going to have to think about what happens as this group start defaulting including leaving the possibility of some form of bail-out on the table. A more experienced colleague explained to me why just leaving the keys in the door and skipping off is less of an option in Ireland than in the US but I would still draw people’s attention to the NBER paper below, which documents what happens when people’s home values start falling below their mortgages. I wait eagerly for Ronan’s second blogpost on this topic to double the public literature on this important topic in Ireland.

Move away from the model of using construction to build wealth & government finances.
Build a strong export economy.
Refrain from viewing 2005-2007 as the golden years.
Short term soultions won’t work.

Seems like Mr. Mc Carthy is talking common sense to me.


Many thanks for this timely and necessary purgative. However, I think there is little evidence of 07-Nostalgia on this blog-site; nor is there any apparent fundamental disagreement about the extent (and cost) of the deleveraging required. Perhaps even a stronger dosage of this purgative should be prescribed for the politicians, the banks, the ICTU, IBEC and other special interest groups who remain in denial.

What I have observed – and the posts on this thread are apposite – is the emergence of four broad and related strands that seek to address the mechanics and impacts of this deleveraging.

1. Some excellent analysis and posts seeking to identify the most efficient and effective means of managing the banks’ deleveraging;
2. Proposals for an investment stimulus to absorb currently unused and surplus resources to lift current and future activity and productivity;
3. Proposals to mitigate the human and social costs of the deleveraging;
4. Arguments advancing regulatory reform, changes in the mix (and financing) of public and private sector participation in economic activity and extensive development of competition and consumer protection policies.

I cheerfully confess to using this site to push the last one – and it seems to have struck some chords. This Government – and the previous two administrations – got hooked on the mantras of “better regulation” and “promotion of competition” without any meaningful analysis or deep understanding of what these mean in practice. I would contend that the optical illusion created concealed the underlying realities. There is widespread, but inadequately articulated, public disenchantment with the mixed economy model. Final consumers sense they are being managed, manipulated, exploited and ripped-off by the larger and well-organised providers of goods and services (whether public or private). There is evidence of this disenchantment in all developed economies, but each economy must tackle the specific manifestation on its own patch.

The challenge is to make regulation, competition and consumer protection work for the benefit of final consumers. In terms of mitigating the impacts of the current deleveraging it would enhance the competitiveness of the economy and put money in people’s pockets.

Although this is tediuos, often thankless, work, I would argue it should have a long term and sustainable impact on economic performance.


I have very little confidence that “an articulated government policy setting out how FAS, the Enterprise Boards, Tax Incentives, Temporary Public Sector Recruitment, Redeployment of NDP priorities toward labour intensive projects (not at all restricted to construction), welfare reform, public sector current expenditure redirection and so on will be forthcoming”

At a time like this, I suggest that a useful perspective is Jean Monnet’s comment that “Men in power are short of new ideas; they lack time and the information; and they want to do good as long as they get credit for it. ”

So, if you have any new ideas, I suggest that you make them known – here or elsewhere. Your ideas (and even worse, you) will be “flamed”, particularly by your highly articulate peers!

Bear in mind that part of the recovery from the 1980s was due to ideas for new and different things being implemented eg. IFSC attributed to Dermot Desmond, Ryanair (due in part to Michael O’Leary’s failure to sell the then loss-making entity to Aer Lingus as Tony Ryan instructed). It was not all due to economists being taken seriously!

Apart from the pre-€uro devaluation, there was more than harking back during the 1980s. That came post-2000, when the traditional blight on Irish economic development re-emerged with the vengeance we are now living through ie. the only real form of wealth-creation/development is in construction, so let it rip. That blight has not gone away and is far from dormant.

Another example of preventing the future (to quote Tom Garvin) was shown on the RTE documentary on Chuck Feeny on Tuesday night. There was considerable resistance from the powers-that-be to his offer to put €75m into higher education, provided the Government matched it.

Perhaps this web-site owes its existence to that change of attitude?
Anything you have to offer may be part of the solution

Among other things, Keynes is reported to have said that “Words ought to be a little wild, for they are the assault of thoughts on the unthinking”.

Like it or not, this site is the orthodox economic blog for Irish economics. I like it!
Colm McCarthy is correct, but the point he has not made but another did was that we should minimise waste. I understand he would agree to that, and I suspect he wants that above all hence his wish to turn the debate that way.

There was a lot of false credit, made by the fractional reserve system, deliberately unregulated by the executive, as it seemed to them, the ignorant pigs at the trough, that there was no evil in it and much moola, for them and their circle. It is only natural….
So this credit bubble has gone and we must deal with the ongoing lack and with the debts that remain, further deflating the economy.
This is imperative and the sooner we begin the better. We need modelling as we have never needed it before.
What are the practical options that this debate will affect? I suggested reducing the school system and using a distance education system via the internet. The governement seems to want to panic the public service to early retirement and this will increase class sizes. Can we reduce the prison system? In Queensland we have a telephone number “1300 health”. A local call that connects to a triage nurse who will assess via the phone. It will not satisfy medical treatment, in all cases, but if it prevents 5% of visits to the doctor or emergency department, it is worth pursuing. It may also help save lives.
Can anyone who thinks Colm McC is wrong say that such ideas would be wrong?

Could we sometime have an end to this nonsense that growth between 2002 and 2007 was driven mainly by construction at the expense of exports? Just because George Lee has kept repeating that claim in order to denigrate Ireland’s recent economic growth (we now know why), it doesn’t make it true. The actual statistics are as follows:

between 2002 and 2007:

gdp increased in volume by 30.4%
gnp increased in volume by 29.6%
exports increased in volume by 28.4%
construction output increased in volume by 32.7%

That’s what I’d call balanced growth.

In contrast, between 2007 and 2009:

exports have so far remained constant (despite a fall of about 20% in EU exports in the same period)
construction output has fallen by close to 50%

That’s what I’d call imbalanced growth.

… and … 02-07 …
employment in exporting industry increased by 1.6% (Forfas Employment Survey data)
employment in construction increased by 55.6% (Q2 to Q2, QNHS)

… and … 02-07 …
net value added at factor cost by “industry” increased by 6.8% in current prices
net value added at factor cost by “building and construction” increased by 87.4% in current prices

I think Pat makes some good points on how we approach healthcare, as one key example. In Canada, AFAIK, most provinces will be spending more than 50% of their budgets on healthcare unless they change their fundamental business models in the next 10 years.

I’m not breaking new ground with this point, but it can’t be overstated. We should not be afraid to look to countries like Kenya and Mexico, which have in some districts comprehensive mobile phone-based health consultancy services – not as White Elephants but out of necessity.

Provided quality of service is the focus, we should not be afraid to throw out convention, particularly if as we do we throw out some cost.

If I stray back on topic, so, what I’m saying is: I agree – 2007 be damned! We need to look to where we want to be in 2020 and find out how on earth we’re going to get there.

One of the glaring limits of economists is their failure to understand that economies are not based on models or stylised facts but on productive activity and its capacity to create value. As Colm McCarthy argues, we need to face the reality that the problems facing the Irish economy can only be resolved by debunking nostalgia for the boom years. I would go further and say we have to challenge the wishful thinking that Ireland’s domestic private sector – even at the peak of the Celtic Tiger years – was ever fit for the 21st century.

Let’s be clear. Ireland’s domestic profits and public revenues only exploded after 2000 and were primarily the result of borrowing from abroad not value creation at home. The well-documented expansion of credit has disfigured and bloated the private and public sector. As Colm and others accept, this will not be resuscitated. This means we have to begin an adult discussion which explicitly aims to inspire economic growth based on innovation and productivity – something totally lacking in Ireland today!

The ‘great deleveraging’ will damage large sections of the Irish economy. And I do not think damage limitation exercises are any replacement for a clear end goal. Without a public consensus on society’s relationship to the economy or the value of industry and commerce, any actions will fail to deliver any upside. At the moment, the discussion of the economy has neglected to discuss what kind of economy we desire in 2013. We can not afford to let the debate be dominated by special pleading by business leaders or distressed economists (or sustainababblers). We need to start telling it like it is, so that hopefully Irish society can move forward to make the necessary reforms.

Constructive, positive reform of the private sector can not be achieved by government diktat, shock deleveraging or national planning. No government document or fiscal gimmick can invent a spirit of enterprise. This can only be achieved by winning the public to understand that the Irish private sector must produce its way out of this recession. We need to contest the myth that the servile economy (of retailing, tourism and hospitality) and the money-shovellers (in banking and finance) can replace real businesses that produce goods and services.

Private sector reform can only come from a forward-looking society that is committed to economic growth, diversification and innovation. Economists and our current political class won’t create that kind of society. We need to encourage a public discussion which fosters new businesses and entrepeneurs that are not afraid of experimentation, long-term investments and risk-taking. Tax incentives, workfare schemes and wage restraint are not only questionable, they are dull.

Lest anyone think I’m avoiding the question of the public finances, public sector reform is unavoidable. It is clear that Irish economy can not afford to finance the level of current and forecast spending. It will not help to shave off 1 miilion here and 100 million there. The public sector has become bloated and there is a need for the public to engage in an adult debate about what kind of state we want.

Petty, mealy-mouthed discussions about cutting pay, controlling waste and sacking staff will never inspire Irish people. There are plenty of issues to discuss about government bureaucracy, regulation, development control, education objectives, public health and strategic planning. However, there is no short cut to crate a shared sense of public service among society generally. Only a society with common aspirations and goals can make the kind of difficult choices we must take to go forward not backwards.

Hi, Colm – I imagined you in Th-L – ‘droll, gravelly delivery’ -lovely! Growth. Now what in God’s Earth would that be? Not debt I hope? This Nation is bust, the financials are bust (and should be in legal bankruptcy) – but they are not: why? Why? Why? Oh!, they are ESSENTIAL to … …. (insert your own idea). Listen folks, if the Oil Distributors decided to stop all deliveries – how long before the Nation WOULD grind to a halt? Ten days!! We had a bank strike once -you do remember the bank strike don’t you? Lasted all of ….. !! Get real – if you can. Our economy is a Permagrowth model – needs regular ‘fix’ of drug (credit). Absent credit, no growth. Jesus, I said that before! The debt burden MUST be off-loaded fast, via bankruptcy or a Jubilee. You do know we are in a Deflation Spiral? – and you do know what the FIRE Economy is (was, actually)? Good. NAMA is just the Emperor’s New Suit. The other unpleasant bit is the massive Asian labour supply. This will crush us as we have to import, not their cheap trinkets, but their lower standard of living. You want to know where we are headed – think 1950s!!! And remember, emigration is no longer a social and political safety valve.

Brian P

There are lots of ‘soft’ infrastructure projects that can be done without vast amounts of money but that could make the country a whole lot more efficient, sustainable and competitive for the global economy. Broadband, postcodes, transport are the obvious ones.

The suggestion by Colm McCarthy that an over-extended “national balance sheet” should be constraint on considering new investment opportunities is a curious one. It’s like saying that a home-owners whose neighbours have mortgaged themselves to the hilt to buy over-priced houses should not consider an investment in attic insulation because of the over-extended “street balance sheet”.

Is it not a solid principle of economics that national welfare is improved when all positive NPV investment opportunities are pursued? The availability, sources and structure of the financing for those investment opportunities are important, but secondary, considerations.

If the reform of political and economic institutions to open up new long-term positive NPV investment opportunities – particularly in areas vital to competitiveness and productivity growth – is now to be dismissed as “2007 nostlagia”, the country is in a long more trouble than I had already feared. I had thought that reforms of this nature were what distinguished successful liberal capitalism from barter economies.

A more valid, in my view, line of inquiry is whether political parties are, Japanese style, proposing wasteful (negative NPV) investments so as to be able to promise more jobs. Here I have to declare an interest, as the author of the Fine Gael “Rebuilding Ireland” proposal.

Certainly, the long-term business case for any proposed investments, particularly those “directed” by politicians must be scrunitised carefully, irrespective of how they are to be financed. Creating jobs now by screwing tax-payers and/or consumers over the next 30 years would be a very shaky foundation for economic recovery.

But are the nay-sayers so sure that, with the proper financing and reforms of institutional structures, regulation and work practices, such positive investment opportunities do not exist, whether in energy, water or telecoms? It seems obvious, to me at least, that there has been under-investment in Ireland’s telecoms infrastructure over the last decade.

And in the current environment, is it not understandable, and indeed economically logical, for politicians to highlight the wider social benefits in terms of job creation of proposed investment opportunies?

Questions regarding the optimal structure and sources of financing are also, of course, valid. Fine Gael have suggested the use of the National Pension Reserve for certain investments.

If politics and industrial relations were not also a factor, and market conditions more favourable, more private equity financing might be better for long-term governance and efficiency reasons, as Paul Hunt as suggested.

Much more curious is the suggestion (from Karl Whelan I think) that any “off-balance sheet” financing of investment (which I think means off the GOvernment’s balance sheet” is expensive and wasteful. I had thought it well accepted internationally that for both equity and efficiency reasons, consumers, not paypayers, should ultimately pay for investments in sectors like energy, water and telecoms. Clearly, demand and availability risk will mean that the cost of financing for such investments is higher than the risk-free rate. But such is the price we pay for competitive markets. To follow Karl’s logic through to its ultimate conclusion, all investment in an economy should be financed by Government borrowing.

But most of this off-balance-sheet financing will actually be paid for by taxpayers, not consumers. Many schemes we have seen to date don’t involve any consumer charge, or the charge only barely covers running costs. Certainly, if there is a state guarantee on the payments, then the taxpayer will have to bail out the developer if the consumers decide they don’t want to use the service. As I understand it, the current proposal involves a state guarantee. This is the aspect which (I’d imagine) Colm McCarthy takes issue with.

“John Says:

May 7th, 2009 at 4:20 pm

So we had a well balanced economy during this period? What I like about exports is that they tend not to leave a legacy of debt. I’m all for building stuff we need, but at prices close to the cost of construction.

Even allowing for this, there are many steps the government could have taken to mitigate some of our current problems. If the government had applied an earnings pattern to the (direct and indirect) taxes from the property boom, we would be in a better position. For example, a person will repay a mortgage over 30 years. I’d suggest that the government should have earned a portion of the tax each year over the term of the debt. This would have curbed the “if we have it, we spend it” budgets.

Andew McDowell wrote the following:

“Much more curious is the suggestion (from Karl Whelan I think) that any “off-balance sheet” financing of investment (which I think means off the Government’s balance sheet” is expensive and wasteful”

I’d like to just state on the record that I have never made this argument.

And while we’re on the subject of curious arguments, Andrew also wrote:
“To follow Karl’s logic through to its ultimate conclusion, all investment in an economy should be financed by Government borrowing.”

Clearly, I have never made this argument either, nor do I see any connection between any argument I have ever aired publicly and this conclusion.

@ Andrew

To state that governments should pursue all projects with a positive NPV is to assume that there is no budget constraint – there clearly is! In other words you cannot separate the investment decision from the ability to pay as you suggest. That is not to say that we should not pursue any projects – we clearly should but this depends on properly evaluating and then ranking projects. Then while satiflying the budget constraint the best projects should be pursued. Of course this is seldomn the case in any economy because governments pander to special interst groups as well as public opinion.

In that context I worry about the choice of these projects in practice. I am sure the Japanese made a great case for some of their projects, which we know now to have been a bad idea.

If anything the evaluation culture in this country is getting worse – while the project selection criteria for NDP 2000-2006 were published, those (if they exist) for NDP 2007-2013 are nowhere to be found! Project level evaluation is done either by the sponsoring body or for them. The counterfactual tends to be ‘do little or nothing’ rather than an alternative project.

Now we get lots of proposals, which come out of nowhere and have not passed any critical examination. What real evidence is there for the social benefits you refer to? Lets see the NPVs. All I have seen are unsupported assertions. In that context I would share Colm’s worry that what is really being proposed is to ignore the need ot the economy to adjust back to normality (which includes a substantially shrunk construction sector).

We do have experience on a variety of policy measures and different investments but this evidence does not seem to have made its way to the people making various proposals.

Regarding the off-balance sheet investment, someone has to pay for it eventually (Ricarian equivalence) whether it is through taxes or through higher charges for utilities – both will be a drag on the economy!

In a recent e-mail discussion i was talking to someone and i said that i also believe that we cannot get back to where we were. So we got to think about getting to somewhere different. I was thinking about this and thought an idea like the one i will describe here would be worth considering.

One way to think about the current economic malaise is that the economy is experiencing negative feedback loops. For example consumers are putting of purchasing decisions due to the fact they are uncertain about their job prospects. This uncertainty then feedbacks to businesses which have reduced sales and are then less certain about their future. These businesses then modify their purchasing and hiring decisions which effects other businesses and consumers views about their future prospects. And so on and so on.

The conventional wisdom is that at some point in the future things will turn and consumers/businesses will begin to feel more optimistic about their future and things will then start to improve. This is indeed true but at the same time it is worth exploring what can if anything be done to reduce this uncertainty.

So lets go back to the consumer worried about their job prospects. They might put off some piece of non essential spending as they are worried about losing their job. So what they do is they save their money and decide that if at some point in future if they still have their job they will make the purchase and if not then they will use the money to supplement their income while they are unemployed.

Now assume that a consumer could make a conditional forward purchase dependent on whether they have a job or not at some point in the future. At the forward date if the consumer has a job then they get the product and if not they get a refund (possibly with some interest). There are many ways that this could be implemented involving either the merchant or some intermediary holding the funds until the forward date. There are many other implementation details especially around pricing which will not be discussed here.

So would this be of any benefit? From the point of view of the consumer this is consistent with what they want to do anyway and also opens up the opportunity of getting a favorable deal if a businesses is keen to get such business. So we can say that the consumer is at worst indifferent to this. For businesses and the overall economy there are I believe substantial benefits as uncertainty is reduced.

Because of this i believe that ideas like this should at least be explored in an attempt to help the economy. One final note is that the actual idea is not unique as car makes in the US are doing something similar by linking future car payments to whether the consumer is unemployed or not and no doubt there are probably other similar examples that i am not aware of out there.

In response to Karl Whelan: apologies – having had a more leisurely read-through the thread, I accept that you did not make the arguments that I had ascribed to you

In response to Edgar Morgenroth: why should the Government’s budget contraint limit the financing of investment opportunities in energy and telecoms, or indeed in retailing and manufacturing?

I fully agree that all investment proposals need to be carefully assessed, particularly in an environment where politicians are desperate to create jobs. Clearly, the private sector will take care of that process when it is financing the investments. Where there is public financing, whether from the exchequer or the NPRF, we need an equally disciplined approach.

But let’s not be so dismissive of the possibility that very high NPV long-term investment opportunities are available, if we can adapt our economic and regulatory institutions to take advantage of them. and find ways of financing them. This is the nature of the dialogue that political parties are now engaged in.

@PJ Just a suggestion that feedback loops are not all they are cracked up to be in the Irish context. Construction aside, I think that the sort of purchases we delay out of uncertainty about the future are mainly of imported goods. Almost all the consumer durables we delay buying come from overseas. So all the economy misses out on when spending is delayed is a small amount of value added, and a small amount of employment, in the Irish part of the distribution channel. That and a transfer of VAT from our pockets to the State’s coffers.

The downside is that it’s difficult to reflate the economy. The upside is that, construction aside, I don’t believe we are anything like as susceptible to domestic deflationary spirals as most other economies.


Maybe it was not a good idea to discuss the argument in terms of something like a feedback loop that is difficult to measure. That said one has to admit that there are vicious cycles and virtuous cycles in the economic sense and uncertainty is very damaging when we are in a vicious cycle. So anything that can reduce this uncertainty should be considered.

I would agree that the idea would probably be most suitable for construction and imports. However i was not thinking of these when i wrote this. Rather i was thinking of something like domestic tourism. One possible way that this could be organised would be as follows.

One of the large banks could invite all their customers that are in the tourism industry to join a scheme that would allow consumers to purchase tourism packages forward. The bank would hold the money until the forward date and either refund it if the consumer ends up losing their job or if the consumer still has their job pay the money to the tourism business so the consumer can get their tourism product. There are many benefits for everyone.

The banks tourism industry customers are on the whole less risky for the bank as there are future revenue streams that importantly the bank knows about.
The bank has access to additional funds until the forward date.
The tourism businesses have more certainty about future prospects.
The tourism businesses have access to a new marketing channel.

As regards the consumer there is the fact that as i said in the original post the product is consistent with what they would do anyway if they were worried about their job i.e. Save and only spend if you have a job in the future. Also i would argue that i would expect businesses to make very favorable offers to consumers for these . I must admit i am struggling a bit to explain this in a succinct way so rather i will just give an example with airline seats that are usually a lot cheaper the further into the future one purchases them.

@ Andrew

If you were talking about the private sectror investing then I agree with you, but if it is the semi-state bodies or the exchequer we are talking about then I still think the budget constraint holds – ultimately the government is responsible for the semi-state bodies. The only way this would change is if they are privatised and the new owners take the debt. Unfortunately the evidence of this is not good – with a debt of nearly 4 billion Eircom will inevitably have to be re-nationalised if we want to have a modern telecommunications network.

If you read recent comments by me (in the Indo & Times) you will find that I have argued for investment but on the basis of clear evaluations. It worries me that the panic about the dramatic rise in unemployment scarce resource will be wasted on the wrong projects which are committed too on a whim. Proposals for investment do not seem to be discussed in the context of either a budget constrasint or proper evaluation – somewhat reminiscent of 2007!


Legally, the Government is not responsible for the debts and other liabilities of the commercial semi-states. Moreover, competition law and the EU Treaties would make it difficult for the State to bail-out a semi-state that was having difficulty meeting its obligations. That is why borrowing by commercial semi-states is not counted as Government borrowing – it is not a contigent liability to the taxpayer.

It seems increasingly clear, for example, that Bord na Mona, and possibly other semi-states, will fail to deliver on their pension promises to employees, though I accept that under Irish law this is not the same as defaulting on a debt. These pension liabilities cannot be guaranteed by the State for competition reasons (which is why the staff is these companies were exempt from the pension levy).

If, as Fine Gael suggested, investments via commercial state companies in telecoms, energy and water should be at least 50% funded by private debt (not guaranteed by the State), it is safe to assume that the potential lenders will carry out the necessary due diligence and business case assessment,

By the way, on the basis of recent negotiations between B&B and its bond-holders in Australia, my understanding is that the State could recover the network assets of eircom, debt-free, for about €1.4 billion in payments to the bond-holders. The opportunities that this would create for upgrading the last mile of Ireland’s crumbling telecoms infrastructure are certainly worthy of assessment.

@ Andrew

Your argument suggests that we should put all government activity into semi-state bodies and then we just keep on borrowing.

How much of the debt on Eircom do we have to take over to buy the network at 1.4 bn?? I suggest we give the regulator real teath and force Eircom to invest – if that breaks them then all the better, because they are doomed anyway. If they go under the state can take over for a lot less than 1.4 bn.

As you point out Bord na Mona has a huge hole in the pension fund – what is the situation in other semi-states?? Would that not affect their ability to borrow?

In any case the consumer/tax payer ends up paying for it all – how much debt do you want to load on them??

John McHale argues for a better understanding of the solvency constraint, by which I think he means, loosely, ‘how much can we borrow’? The short answer is I don’t know, and I don’t think anyone else does. If we knew that the answer is 200% of GDP, it does not follow that we should fire ahead and I am sure John is not suggesting anything like this. We have tested the notion (through the banks) that the optimal amount to borrow is the most that you can.

There are big differences between 2009 and the late 1980s, when the last Irish fiscal consolidation was consummated. The sovereign debt markets are massively risk-averse, which they were’nt back then, and they are much more crowded. The FT has been covering the avalanche of sovereign issuance daily, and numerous commentators are expressing concern about the market’s absorptive capacity over the next few years. We should not extrapolate the recent improvement, and it cannot be assumed that Ireland would be facilitated at any kind of acceptable spreads if we tried to run the debt up to > 100% of GDP as we did last time. Perhaps we would, but we can’t be sure, so ‘suck it and see’ is not an attractive option. We can compute the likely exit debt to GDP ratios implied by the Government’s medium-term targets, and these could prove financeable with even average luck, but we must tack on bank bail-out costs which are perforce unknown at this stage. With a bit of bad luck on fiscal adjustment and on banks, we could get up towards 100% in due course, and the risks involved are just unknowable.

The four sets of fiscal actions taken to date (package 1 last July, Budget 1 in October, package 2 in January and Budget 2 in April) have resulted, we hope, in a prospective 09 GGB deficit about 11%. In the absence of these measures, I reckon it would have been nudging 16%. The spread over bunds at 10 years is now back to 164 bp, from over 300 at one point in January. We can’t know what would have happened if we had taken no fiscal action, but I am sure John will concede that the spread would now exceed 164 bp, perhaps by a lot, and we could have had a disaster in the bond market. Those concerned, quite reasonably, about the deflationary effect of the measures actually taken must acknowledge the risk of deflationary impact from doing nothing, or doing less.

John and others have discussed the scope for countercyclical investment policies. I have several reservations in addition to those highlighted here by Edgar Morgenroth. The downturn in Ireland has now been running for eight quarters. Some of the investment schemes proposed (ESB office building, for example) must be at least 8 or 10 quarters from sod-turning. Who knows that the labour market downturn will last 16 quarters or more? Some of the projects dropped from the PCP should never have been there in the first place, and no-one should mourn their demise. Never waste a good crisis! I think we can all agree that spending money on silly construction projects reduces sustainable employment in the long run.

Of course, cost-benefit studies need to be re-calibrated, with a shadow price for labour below 100% and possibly lower construction costs too. But they also need to be re-calibrated to lower benefits, given the demand downturn. It is not clear where the balance might lie. Virtually every daft project over the last decade has enjoyed a positive cost-benefit appraisal, including the Abbotstown stadium. In a city where one stadium has catered for all fixtures in all codes for two-and-half years, we nearly had four!. There is rightly a high degree of scepticism about Irish cost-benefit studies, a useful technique commandeered by the public relations industry.

On labour market interventions, it is up to Liam Delaney and any others who wish to come up with specific, costed, proposals. Bear in mind folks that the existing Social Welfare/FAS schemes and operations may contain some of the things you are hinting at, so it is possible to make proposals of stuff that already exists at least in some form. I don’t have a closed mind about this at all, just a sceptical one given the experience with poorly-designed schemes in the past.

Paul Hunt seeks to prescribe purgatives for ‘politicians, bankers, IBEC, ICTU and others in denial’. Paul, prescriptions are not needed for purgatives, there are numerous popular over-the-counter remedies for any pols, bankers or social partners who are experiencing discomfort. Andrews Liver Salts and Milk of Magnesia are personal favourites.

Andrew McDowell describes under-investment in telecoms as ‘obvious’. Failure by commercial companies to provide services in low density areas on the grounds of inadequate return is not obviously ‘under-investment’ to an economist. It may be socially or politically unacceptable, but that is not our line of work. He suggests in passing that staff in commercial State companies were exempted the pension levy because the pension liabilities are not guaranteed by the State. More important factors behind the exemption, I think, were the facts that (i) these schemes are funded and (ii) their payroll is not an Exchequer expenditure.

Finally, I think it is worthwhile to pursue Patrick Honohan’s notion that, while 2007 is not the aspiration, we should be thinking about where we want to be macroeconomically in the next year zero, say 2013.

Thank you all for your comments.


You may have misinterpreted my post. My concern is less about the bowels of the body politic and much more about both the ability of the body economic to withstand the “Great Deleveraging” and the requirement to apply some health-restoring medication.

@Andrew McDowell
We cannot afford to buy more votes by increasing public spending. Unless we raise taxes. That honesty may get you votes.

We will all agree that the economy has been under taxed for the last 10 years or so, given public expenditure and the likely downturn that has eventually arrived, in order to partly finance the usual deficit spending that ensues.

We have just increased taxes and the deficit is rapidly increasing as the rate increases have not made up for the transaction slowdown.

We know that, false Laffer curves notwithstanding, too much disincentive via the tax rate, is bad for production overall but does identify the most productive activities. (They survive!) We are not able to borrow except at a crippling cost unless we address a balanced budget smartly. Now is not the time for expansionary spending.

Now is the time for more taxes…… unpalatable, but true. Expecting GDP and GNP to pick up? Not likely and everyone we depend upon for capital knows it.


You write that “Your argument suggests that we should put all government activity into semi-state bodies and then we just keep on borrowing.”

I’m not suggesting that at all – only activities where there is a consensus that on equity and efficiency grounds, there is a clear case that consumers, not tax-payers, should ultimately finance the investment. There appears to be a consensus in most advanced countries that energy, telecoms and indeed water fall into this category. This is why statisticians (and I had thought economists) distinguish between Government borrowing (ultimately financed out of taxation) and the borrowing of commercial semi-states (ultimately financed out of consumer charges). For all the “public good” arguments that learnt from textbooks, we cannot ask consumers to voluntarily pay for national defense.

The figure I quoted for eircom (€1.4 billion) was an estimate of what it might cost to buy eircom’s network debt-free (the nominal value of the bonds are currently about €4 billion).

Colm McCarthy says it is not obvious that there has been under-investment in telecoms from a private investors’ perspective. That may or may not be true. But it also the role of the economist to advise the political system of the broader social returns to any investment (a minefield, I know).

Colm suggests that the reason the staff of commercial semi-states were exempted from the levy is because their pension schemes were funded. That does not seem to tally with the facts. The pension schemes of many state agencies are funded. Those that have a state guarantee (non-commercial semi-states and agencies) are being absorbed into the state system and were hit by the levy. Those have no state guarantee (commercial companies) cannot be broad into the state system and were exempted from the levy.

@ Andrew

I know you did not propose that all activities be rolled into semi-state bodies, but your argument for their borrowing not being relevant is somewhat flimsy.

Yes, usilities need not be in state ownership and indeed if properly done private ownership is preferable. But we should not pretend that our utilities as currently organised are in anyway optimal and hence their investment decisions are unlikely to be optimal either.

I also fundamentally disagree with your implicit assumption that it does not matter if the consumer pays for the borrowing (or inefficiencies) of the utilities – surely that is at the heart the debate about loss of competitiveness due to higher charges in this country.

There is little doubt that given the circumstances Eircom has behaved optimally – this is what you get when you privatise badly. The state should have regulated this properly and then we would have better broadband. The commercial case for broadband in rural areas is always going to be poor and hence this is the only area where the state should get involved – in the urban areas there is a market and that should provide the service. If it is not provided there then this is a sure sign of regulatory failings (market failures).

Ultimately, if the utilities are supposed to operate on a commercial basis why are you trying to tell them what to do? Surely if there are pots of gold to be earned they will identify them themselves and invest appropriately??


I’m sure Andrew, if he wishes, will be well able to respond to your observations and questions, but I must point out what I see as a key misunderstanding on your part when you talk about consumers paying for semi-state utility borrowings and the “loss of competitiveness due to higher charges in this country”.

Specifically for gas and electricity networks, in the absence of direct Exchequer financing of investment and with the ESB and BGE seeking to minimise borrowing to finance this investment, network users – and final consumers, ultimately – are (and have being) paying up-front to finance a share of this investment while paying for the return of, and on, all investment. It is difficult to be precise, but I estimate that, depending on the wholesale price of gas and of other fuels in the generation mix, this has added 10-15% to final gas and electricity prices since regulation applied during this decade.

Another factor which is driving Irish electricity prices above EU 15 levels is the impact of the policy/regulatory decision to prevent the ESB investing directly in new generation. A likely shortfall in generation capacity compelled the CER to guarantee high capacity payments to secure the investment of new entrants. And a further factor which drives gas prices above EU-15 levels is the dismissal of LNG import as a feasible option 10 years ago and resulting overinvestment in interconnection capacity between Britian and the UK.

I don’t view Fine Gael’s proposals as being capable of addressing all of these issues (or similar ones in other utility or infrastructure areas), but they are the only proposals on the table which provide the possibility of reducing the excessive cost burden on final consumers and of promoting efficient investment with effective regulation.

@ Paul

Andrew seemed to be arguing for investment in semi-states because it was off balance sheet – if the exchequer gets involved (as you seem to argue) it obviously won’t be.

The point I was trying to make is that it does matter whether the utilities over borrow even if it does not show up in the exchequer accounts.

The ultimate issue is whether the investment is needed. That is not independent of the regulatory setting. I have argued before that regulating and public investment can be substitutes. If we appear to need investment because of poor regulation then we should fix the regulation rather than spend lots of money on investment, which will add to consumer prices (what I am concerned about). If we realy need investment then lets go for it. In this context it is noteworthy that public (exchequer) investment is still at unprecetentedly high levels despite the cuts.

Broadband is the perfect case to show how not to do it – as I (and others) see it, poor regulation resulted in poor broadband roll out. The government response to this was investment (the metropolitan area netwoks MANs programme) rather than the fixing the poor regulation – this is costing the tax payer unnececessarily.

One way or another I am suspicious of all quick fix solutions presented anywhere if they are not properly evaluated (I have not seen any that are). There seem to be a lot of proposals coming forward that seem to be aimed at creating/keeping employment in construction. To take Colm’s phrase it smells of 2007 nostalgia. This investment is only a good idea if we realy need the stuff that is going to be invested in. Forget about the jobs we have too many builders and some of them will need to find alternative sectors to go into. To achieve that we need active labour market policies and not poorly evaluated investment.


We should probably move this off-line, but, at least, some readers should have an interest. We may be foundering on some misunderstandings, but, though the detailed numbers may have changed, my kick-off point is Economic Infrastructure, Chap 7, of the NDP 2007-2013:

The initial table shows that the semi-states, where they are involved, are expected to arrange approx. 95% of investment financing. Contrary to what you may have discerned, I am not advocating direct Exchequer financing in the current straitened times. I’m simply pointing out that the State did not finance a share of the investment when it had the ability to do so and the result is gloriously inefficient financing. And the scale of investment is significant. The book value of the ESB networks has more than doubled since regulation was applied in 2000.

I am probably just as concerned as you are to ensure that investments are properly evaluated, but I see scope in the economic infrastructure area to do some sensible things and to finance them appropriately – and not just construction for the sake of it. And I would propose going well beyond FineGael’s medium to longer term indications about selling off some semi-states by advocating restructuring and selling off most semi-states immediately. This would deleverage the Government balance and access genuine off-balance sheet finance.

@ Paul

Our views are not that far apart – we do need investment and we do need regulartory reform and privatisation.

I know that the semi states were not part of the NDP/exchequer – throwing the reference to the scale of public investment in was merely aimed at highlighting that the exchequer is actually going to invest a lot, even after the cuts of April. Some people seem to think that we have stopped public investment.

The key to the success of any policy in this area is its real aim – I want it to give us an efficient economy rather than one with a needlessly large construction sector.


At no point did I argue for investment by the semi-states simply because it was “off balance sheet”. I argued for investment by the semi-states because I believe that there is a crying need for more investment in those key networks – electricity grid, telecoms, water networks – for which current or restructured utility companies are or could be responsible. Because these investments will ultimately be paid for out of the extra consumer revenues generated from enhanced networks (subject to the necessary regulation to protect consumer welfare), and not out of taxation, such investments are not subject to the Government’s budget constraint.

I also think that it is appropriate to identify investments in these areas that we are likely to have to make over the next decade, and to bring them forward at a time of spare resources in the economy.

To add to Paul Hunt’s comments, the semi-states on their own will not avail of these opportunities because of the combination of the following factors:

(1) they are poorly managed
(2) they under-capitalised and have strict borrowing caps, and the Government will neither privatise them nor invest in them
(3) they do not face the right price signals (e.g. for carbon)
(4) the Government refuses to contemplate an independent source of revenue to finance investment other than taxation (e.g. water)

These are the issues that Fine Gael seeks to address.

@ Andrew

Then lets first deal with the 4 points on which I totally agree. Only after having dealt with those points should the investment level be an issue (as you and I argue – they are not independent).

Experience tells me that there is always a temptation to deal with the under investment whithout carrying out the obvious reforms so as not to upset some interest group – that is how we have ended up with the mess we have!

Edgar, Andrew,

I think we have come almost full circle. Significant reform of the means of delivering investment is required before we can contemplate in detail the nature and level of investment required. However, it is inconceivable that the current adminstration (in office, in some shape or form, for 12 years) is capable of delivering this reform. All we can expect is this “off-balance sheet” exercise promoted by the construction industry which smells strongly of the 07-Nostalgia highlighted by Colm McCarthy.

Edgar / Paul

Agreed. But you can’t entirely surprised, in the current environment, at a political party choosing to emphasise the opportunities for investment and employment, as much as the associated reforms required to promote consumer welfare.

Looking forward to carrying on the debate after a change in Government sometime!


@Colm I hope your board snip does its job otherwise we will not be around in 2 years time. I think you have already delayed too much! Never mind four years time. You make your luck! Judging by Michael Somers response to NAMA it seems the whole thing is a bit too to toxic for his liking.

Somers is not giving up his legacy for back of the envelope government economics.

yous havent a clue what youre talking about. Id respect an academic if he came on here and said he hasn’t a notion what just happened or whats going to happen next. Im sure youre impressing each other enormously but the average man in the street has a much better chance of coming up with a half decent policy because he isnt transfixed by the ridiculous self important college educated ignorance that has us in this mess in the first place. use the 7 billion to set up a cheap warehouse bank in santry and lend it directly to viable SMEs. Let banks and their clients work out their problems on their own. What the hell has it got to do with tax payers? people who walk around in suits are idiots. verbose, anemic, fluctuate, look how intelligent I am!

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