There is no Laffer curve in tourism

The Sunday Times reported on a recent paper by Niamh Callaghan and me.

The paper is on the demand for tourism in Ireland by UK visitors. This is relevant because UK tourists make up about 45% of all visitors to Ireland (and because UK tourists are not that different from other tourists).

The paper starts with descriptive statistics. Irish tourism prices have developed roughly in line with prices elsewhere, except in 2008, when Irish prices rose very sharply, and in 2009, when Irish prices fell as the rest of the world raised their prices.

Ireland roughly maintained its market share in UK tourism. The drop in visitor numbers in Ireland seems to be because people take fewer holidays during a recession, rather than because there is something wrong with Ireland as a tourist destination. Ireland does well in the market for secondary holidays (city visits, fishing trips etc) and people economize on that rather than on the main family holiday.

We then estimate the price elasticity of UK tourism demand — that is, the price elasticity across destinations — using twelve years of micro-data from the International Passengers Survey. We use that to run two simulations, abolishing the travel tax and reverting the VAT cut. The results are qualitatively the same for both scenarios. The tax changes have a small impact on the total cost of the trip. With a price elasticity smaller than one, the impact on visitor numbers is small too. Tax cuts bring additional visitors and additional revenue, but all tourists (including those that would have come anyway) pay less tax. The latter effect is larger, so that there is a net loss to the Irish economy.

Tourism tax breaks are like export subsidies. Foreigners benefit. The tourism sector benefits. The overall economy loses out.

Unemployment in Ireland

I did a video session on Irishdebate.com yesterday on unemployment. It is available here A blogpost with various links to material discussed during the session is here The session went through: the extent of unemployment in Ireland; consequences of long-run unemployment; current government responses; and potential responses.

The format is an interesting one and worth thinking about for others here as it gives more time to work through topics than is usually possible on television and radio. Joe Garde on Irishdebate.com sets them up. Ronan Lyons, Stephen Kinsella and others have done sessions on it so far.

Most Unique Pleonasm Competition

Bunbury, on another thread, writes

‘…one of the most unique …’

Oh Christ! The standard of English on this website deteriorates by the day. But then, no one thinks twice anymore when they see the phrase ‘close proximity’ (a ‘pleonasm’ in grammatical terms), so the disease has even encroached on the groves of academe.’

I am offering a prize for the reader identifying the most irritating current abusages of the English language. My personal favourites include ‘new initiative’ and ‘almost unique’ (means rare, I think).

The value of the prize to reflect the quality of the entries.

Optimism and Pessimism

I am often accused of being too optimistic about the prospects for the Irish economy.    It is true I believe that if we hold our nerve with the adjustment (more on which below), and there isn’t a major deterioration in the external environment, we can get through this crisis.   But my views on the appropriate strategy for getting through the crisis are at least as much determined by a fundamental pessimism about the financing vulnerabilities facing the Irish State. 

It may be worthwhile to first summarise what I see as the crisis resolution strategy Ireland is pursuing.   It can be summed up as adjustment with financing.    I don’t think anyone disagrees that we need to make significant post-bubble adjustments: fiscal adjustments to put our debt on a sustainable path; banking adjustment to shrink the banking sector to a level consistent with feasible financing; and real adjustment to move resources from sectors with little growth potential (notably construction) to sectors with better opportunities.   

Although the nature of the post-bubble economy is such that we have no choice to make these adjustments, to limit the damage from austerity and bank deleveraging to living standards it is important to make these adjustments as gradually as is feasible.  

But this requires financing: financing for both the large budget deficit, and also for the banks given the insufficient availability of deposits and term funding.    Since we cannot raise sufficient financing in the markets, we have been forced to rely on official sources.    

(In determining the appropriate adjustment speed, we should also not forget that what we borrow now must be paid back with interest – much of it by our children who will also be asked to bear the costs of an ageing population.   Deficit reduction today is not just a question of imposing hardship or not, but also how the burdens will be shared across generations.) 

A central problem is that the future availability of financing is uncertain in today’s volatile international environment.    This reality forces faster adjustment than would otherwise be optimal all else considered.    Getting our deficit and bank funding gap down gives us the best chance of regaining our market creditworthiness.    These efforts also give us the best chance of retaining the official funding that is necessary to allow us to pursue a reasonably gradual adjustment path.   Moreover, a critical element of regaining market funding is that potential future lenders believe that a credible official lender of last resort is in place to give them confidence they will get their money back.  

It is important not to lose sight of what a sudden stop of both market and official funding would mean: it is hard to see how it could not result in massive austerity as we have to close (at least) the primary budget deficit immediately and a likely collapse of the banking system.   I think those who make simple statements about being pro or anti austerity fundamentally underestimate the vulnerability of our situation.   Of course, reasonable people can disagree about the appropriate speed of the adjustment given these vulnerabilities, but it would be good to see a more appreciation in the debate about what is at stake.   

Similarly, I find it hard to understand how people can make such strong statements about the desirability of not repaying the remaining unguaranteed senior bonds without showing an awareness of how close we came to a full scale bank run earlier this year.   While the bank recapitalisation, deleveraging and liability guarantees are components of the strategy to stabilise the funding situation of the banks, the most critical element is the perception of the ECB/CBI willingness to act as a reliable lender of last resort.    Do we really want to reopen depositor doubts about whether the ECB will support Irish banks?   Indeed, I see the main function of the recapitalisation, deleveraging and guarantees as being the price that must be paid for the ECB/CBI to stand ready to play the necessary lender of last resort role.   We should not let (mostly misplaced) anger at the official funders blind us to the vulnerabilities of our situation. 

Fiscal plan published, difference split?

Ireland’s rail gauge, the distance between two load bearing rails that make up a single railway line, has a strange history. The standard gauge is 4ft 8inches. Ireland’s is 5ft 3inches. During the 1800s, each new railway line chose its own gauge, and in 1845/6, a commission was set up to essentially split the difference, meaning that Ireland has one of the most unique (and uniquely expensive) rail gauge systems in the world.

Splitting the difference might work to get an issue through a committee, but it does not often help in solving practical problems.

In a similar vein, Ireland’s medium term fiscal plan has been published. The document is here. Looks like the government has not taken the ‘front loading of pain’ approach advocated by some commentators, nor the avoidance of austerity championed by others, and gone for a 3.8 billion euro, ahem, adjustment, this year.

I leave it up to commenters to judge the merits to this approach. The document makes for interesting reading. Chapter 4 in particular is an analysis of the debt position (and sustainability, obviously) of the State.