VAT Cut Won’t Halt Cross-Border Shopping

This website got a plug today in Alan Ahearne’s “Short View” column in the Sunday Independent. The article asked whether the Government should heed calls for a fiscal stimulus plan for this country. Ahearne concludes that the answer is an unambiguous no.

Cuts in VAT rates, along the lines introduced in the UK, would do little to bolster economic activity in this country. Part of the tax cut may not be passed on to consumers. Moreover, a substantial chunk of Irish households’ spending is on imported goods. Increased spending on imports provides only limited support to our economy. The bang for the buck from a VAT cut is small in an open economy like ours because much of the impulse leaks out through higher imports.

A stimulus proposal might be effective at boosting transactions if it were huge. But the country can’t afford such a plan. Claims that a VAT cut could be self-financing are baseless. The Dept. of Finance estimate that the 0.5 percentage point hike in the standard VAT rate in Budget 2009 will raise €220 million. A crude extrapolation would suggest that slashing VAT to the UK rate of 15 per cent would add another €3 billion to the State’s already enormous borrowing requirement. As argued previously on this website under the post “On Deficits and Debts” (3 December), there’s a limit as to how much the Government can comfortably borrow on international markets.

A cut in VAT would also likely do little to stem the flow of shoppers across the border with Northern Ireland. Price differentials between the Republic and the North largely reflect the weakness of sterling and differences in business costs.  A fiscal stimulus won’t solve these problems. A focus on improved competitiveness and realistic wage-setting would be much more valuable. Meanwhile, budgetary policy should aim at avoiding national bankruptcy.

CSO release: Institutional Sector Accounts: Financial 2001 – 2007 (Revised)

The Central Statistics Office, Financial Accounts Division, National Accounts has released “Institutional Sector Accounts: Financial 2001 – 2007 (Revised)”.

An e-copy of the release is available on the CSO Website.

An Excel version of the tables from the release is also available on the CSO Website.

St Stephen’s Day entertainment

In case you can’t wait for blogger PH’s rivetting radio lecture: “The Financial Crisis: Ireland and The World” (recorded yesterday before a live audience but not being transmitted until St Stephens Day), you can get the text here.

It’s mostly an interpretation of the causes of — and policy reaction to — the global crisis, and corrects several common fallacies or half-truths.

The Ireland-relevant take-away: Our banking problems were caused by globalization…but not in the way you may think.

It was the fall in interest rates on euro adoption that triggered much of the bubble; easy access to international funding that fuelled it.

(Irish banks’ net foreign borrowing 2003-7 amounted to 50 per cent of GDP; Icelandic banks didn’t do any net foreign borrowing!).

On Deficits and Debt

Colm McCarthy provides an interesting analysis in the Irish Times today (December 3rd 2008) about the poor November tax returns.  A key issue raised by Colm is the market’s appetite for sovereign bonds, in view of the projected rapid increase in issuance across the advanced economies. Since there is a general increase in risk aversion, it will be important to ensure that Ireland is perceived as a low-risk sovereign. To this end, it is important for the government to establish a new multi-year fiscal programme that shows how the growth in public debt will be managed, with a clear plan to return the debt to a sustainable path once economic recovery takes hold.

Fiscal Policy for a Slowing Economy

The general budget balance for Ireland has sharply declined, with a surplus in 2007 being transformed into a deficit of at least 5.5 percent of GDP in 2008 and a target deficit of 6.5 percent of GDP in 2009.

The appropriate fiscal balance for Ireland was the subject of a panel discussion at the ESRI Budget Perspectives 2009 Seminar in October 2008.  Papers and/or presentations by Ray Barrell, Joe Durkan, Patrick Honohan and Philip Lane are available here.

There is also a relevant paper by Philip Lane from the ESRI Budget Perspectives 2008 Seminar, held in October 2007:  ”Fiscal Policy for a Slowing Economy” .

More generally, the appropriate fiscal policy for a small open economy that is a member of EMU is the subject of an IRCHSS-funded research project that is led by Philip Lane. You can learn more about this project here.