Posts By Michael Burke

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The Deficit is Stagnating, Just Like the Economy

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The rest of the world seems to be suffering from austerity fatigue – apart from the Berlin and Dublin governments (and London too – but no-one is holding it up as a model for anything).

The Department of Finance tells us that the deficit is improving. DoF reports that the general government deficit fell from €22.4bn in 2009 to €12.4bn in 2012. But it is widely known that the impact of bailing out bank shareholders and bondholders has had a hugely distorting effect on public finances. Unfortunately, DoF does not show these effects in the same release as the overall government finances, and you need to go to a separate database to get these data.

Adding the two together produces a measure of the underlying deficit, excluding both costs and revenues from the bailout. It is regrettable DoF doesn’t do this itself. The table below shows the deficit excluding the effects of the bank bailout.

2009 2010 2011 2012
General Government Deficit -22.4 -48.3 -21.3 -12.5
Bank bailout net expenditure/receipts -3.8 -31.5 -5.7 +1.6
Underlying Deficit (excl. bank bailouts) -18.6 -16.8 -15.6 -14.1

Fig.1 – General Government Deficit Excluding Effects of Bailouts for Bank Shareholders and Bondholders, €bn. Source: Department of Finance

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Turning the Corner – Back to 2010

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The latest growth data confirm that Ireland went back into recession at the end of 2012. Despite all the talk about corners being turned, we find that economy is going backwards. GDP is lower than it was in 2009. GNP, which does not include the effects of movements in profits by multinational corporations, is back to where it was in the middle of 2010.

Measuring success

The ability of the Irish government to return to bond markets is being promoted as the main or even the sole criteria for the success of government policy. Strange that it is simultaneously said that this is a government debt crisis, and yet its resolution is measured by the ability to add to government debt.

The purpose of all economic policy should be the optimal sustainable increase in the well-being of the population.  Instead, a return to the bond markets has become the overriding objective of economic policy. But this is itself unsustainable if the economy is contracting as the debt burden rises and the deficit widens once more.

On growth it is clear that the fall in investment remains the overwhelming source of the Irish Depression. GDP and GNP have contracted by €13.3bn and €11.9bn since the end of 2007 respectively. Investment (Gross Fixed Capital Formation) has fallen by €21bn. It is an investment strike which is responsible for the slump.

The national accounts are shown in the chart below from the end of the boom in 2007 to the end of 2012.

While investment has collapsed by €21bn, the fall in personal consumption has been about one third of that, at €7.1bn and the fall in government spending slightly lower at €5.6bn.  It is repeatedly asserted that the performance of exports proves the validity of current economic policy. But while the increase in net exports has been very significant, this owes more to falling imports (which are treated as a negative in the national accounts) rather than rising exports. Recorded exports have risen by €11.7bn over the period while imports have fallen by €15.8bn – and there are question marks about how real these exports are.

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The Biggest Symptom of a Problem

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The Office of National Statistics (ONS) in the UK have today released regional economic indicators. By bringing together data from a variety of sources, they provide a partial but very useful snapshot of where the economy under the jurisdiction of the Northern Ireland Assembly sits in relation to the British economy. The entire dataset is here and is very useful.

Below is the ONS chart on employment.

Oddly, repeated attempts to copy the full chart failed because the last item on the legend (directly below Scotland) kept dropping off. It’s Northern Ireland. In the chart, it is the orange line. Clearly, someone at ONS has a sense of humour.

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Hopeless Forecasts

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Forecasts are never the most important part of Budget process.  Although the natural tendency to focus on projections of growth and the deficit is magnified now by a widespread hope that there might be an end to economic misery, Budget forecasts are not the place to look. Currently the Department of Finance is forecasting that in 3 year’ time GDP will almost be back to where it started 8 years previously in 2007. But GNP will still be more than 4% below its pre-recession peak, according to official forecasts.

How much credence should be given to official projections? Not much. The chart below is taken from September’s Fiscal Assessment Report (FAR) and shows the level of forecast error for GDP in official presentations two and three years hence. The official record on forecasting GNP is much worse, as the domestic economy has parted company from the MNC profits-inflated level of GDP.

Likewise with projections of a fall in the deficit. To give just one example, not the most egregious, the Addendum to SPU of January 2009 forecast that the deficit would be eliminated altogether in 2012.

It seems more likely that Budget documents serve a political rather than a forecasting purpose. Certainly, no business presenting its accounts would be allowed to routinely begin its table of data from a year that is not yet complete- in this case 2012- without reference to the actual outturn in the previous year. Yet this is the norm (although it must be sad, not solely in Ireland).

Successive governments have long abandoned any notion that policy is about fostering growth but repeatedly insist instead that it is about reducing the deficit. Yet according to the Budget documents the deficit (General Government Balance as per EU accounting rules) was 8.2% of GDP. This is almost 1% of GDP higher than the deficit in 2008, when austerity began.  According to the government’s own White Paper on estimates for 2013, without the further fiscal tightening of the Budget the deficit would rise to 8.9% of GDP. Any deficit which requires constant application of new measures can hardly be said to be on a sustainable downward trajectory.

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The importance of the debate on the IMF’s ‘multipliers’

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It is unusual for ‘academic’ research published by the IMF to find its way into popular media. But this has happened to the latest World Economic Outlook where the IMF deals briefly with the issue of ‘multipliers’ that is, the economic impact of changes in government spending.

The short article has caused an usually high level of commentary among economists and commentators because the data suggests that the multipliers are perhaps more than double the level generally implied by official research and forecasts. Nobel Laureate Paul Krugman has commented that the research shows that, ‘the reason for the worsening outlook is that policy makers have gotten the basic economics wrong’. In Britain Chris Giles economic editor of the Financial Times has led a counter-attack by questioning the validity of the research. A string of other commentators have joined the debate on both sides, including a Greek finance minister.

The key point in the IMF research is that the multipliers are much higher than previously thought by leading bodies such as the IMF, OECD and others. ‘The main finding, based on data for 28 economies, is that the multipliers used in generating [IMF] growth forecasts have been systematically too low since the start of the Great Recession, by 0.4 to 1.2….’ Whereas the IMF’s (and others) own forecasts implied a multiplier of 0.5, the actual multipliers may be in the range of 0.9 to 1.7.

It is useful to assess why this seemingly arcane debate has created such controversy and why that is taking place currently.

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