As far as I know, there has not been a single blog relating to Northern Ireland since The Irish Economy blog began earlier this year. Northern Ireland is having a relatively good recession for various reasons on which I do not wish to dwell. However, it has serious long-term problems which have been addressed in a report commissioned by the devolved economy Minister. The report is available here. What will interest readers of this Blog was that 4 out of the 5 report authors are economists, of which I am one.
In essence, the Northern Ireland economy has operated under wartime conditions for nearly four decades. Public sector output amounts to around 60% of gross value added (the regional equivalent of GDP). More specifically, industrial policy has consisted of providing large scale grants to both inward investors and indigenous firms. This has been partly successful: employment growth has been high in the last decade and at the peak of the recent boom, the unemployment rate was hovering just above 4% as in the Republic of Ireland case. What was different was that productivity growth was low to non-existent. Consequently living standards have not converged on the UK and have diverged markedly from the Republic of Ireland and other successful countries.
It is not hard to see why. Good quality inward investors are attracted by incentives (such as the Republicsof Ireland’s low corporate tax regime) which reward future profits. Northern Ireland’s emphasis on front loaded grants incentivises those that cannot obtain commercial funding: as poor a signal as one could wish for. Northern Ireland’s unique selling point was its low cost base: in essence it is competing with Bangalore, not high wage high productivity economies and regions. In addition, we estimate that the deadweight loss from Invest NI (the industrial development agency) handouts was in excess of 50% overall and close to 100% for some types of grants. The interesting exception was Innovation and R&D grants where deadweight loss is particularly low.
Business expenditure on R&D (BERD) in Northern Ireland is extraordinarily low: of the order of one-half of one per cent of gross value added. In fact university R&D expenditure exceeds BERD: I know of few regions with this eccentric characteristic. Previous contributors to this blog have reminded us of the global stylised fact that there is a weak connection between academic research and business innovation.
Economists had almost no input into the NI peace process so that the opportunity to replace Northern Ireland’s grant dependency with tax incentives was lost. How ever much this is bitterly regretted, the panel’s task was, inter alia to devise an industrial policy for a (relatively) high tax economy. Inevitably, we turned our attention to Scandinavia. We were particularly impressed by the experience of Oulu in Northern Finland. As god-forsaken a region it would be hard to find: yet it has developed into having the second highest living standard in Finland (after Helsinki).
Our recommendations are as follows:
(1) Phasing out of almost all Invest NI grants to businesses by 2013. One of the important exceptions is grants for R&D and innovation. Grants for investment by companies new to NI would be also retained. This is a much narrower concept than FDI which includes expansions and retentions by existing international companies.
(2) Other than the above, Invest NI may only participate in enterprises through equity and subordinated loans
(3) Establishment of a state owned commercial contract research company along the lines of VTT in Finland. The latter employs about 3,000 people and that is the scale that we are proposing. . This will both be a magnet for inward investment as well as enabling existing companies to increase BERD.
(4) Overall, our proposals are, at worst, fiscally neutral and may well involve net public expenditure cuts