EU desperately needs success story -- and we could provide it

Last week’s column looked back in some detail on five years of crisis, stagnation, and attempted correction of a series of banking, fiscal, debt, unemployment, and political crises in Ireland.

This week I want to look forward to the next five years. From where are we starting?

Starting from today, we have almost 15% of our workforce officially unemployed. A broader measure should include a broader measure of those who would like to work more, and those in various schemes, which by some estimates pushes our ‘true’ unemployment rate to over 20%.

The government is on track to deliver an increase in taxes and a decrease in spending of about 3.5 billion euros to restore a fiscal balance in December’s budget. The usual post-holidays leakfest is in full flow, so you’ll know about the main ones: property taxes and income tax changes to raise 1.25 billion euros, with cuts to the big areas of government spending: social welfare, public service pay and pensions, with cuts totaling 2.25 billion euros.

Our households are some of the most indebted in the world. Despite years of getting rid of debt, household liabilities relative to income are actually fairly close to pre-boom levels at around 42,000 euros per capita or about 210% of disposable income. The means for a typical household, for every 1 euro it has after paying bills, it owes 2 euros and ten cents.

The only thing I’m certain of at the moment as an economist is that this relationship of household debt to disposable income will change in the balance sheets—the relationship between assets and liabilities and equity--of these households. However this insight is not exactly useful. The important question is how. Either the households work harder and pay off their debts, or spend less and so adjust their balance sheets gradually by some amount, or they will default, and adjust the balance much more rapidly. In practice some households will adjust quickly, others much more slowly.

Last week’s news that roughly 11% of the outstanding mortgage loan book of more than 112 billion euros is in arrears of 90 days or more should give us something to worry about in the next few years as these households represent the ‘quick revaluation’ option. The only good news there is that the problem is getting worse at a slower pace than previously.

The banks are still not properly fixed, five years later, and lending into the economy is lower than any other Eurozone nation with the exception of Greece.

Despite much talk before the election of a new politics, the status quo of well paid advisors, perks and the usual spin dominate, with little real change in sight. The fact that the government has had every opportunity to initiate change in the set of rules that everyone knows caused the collapse of our economy is cause for serious concern.

Looking forward a little, there are signs (I think) that things are starting to stabilize, and in some cases to improve, despite the austerity policies enforced by the government and the deep indebtedness of some sectors of our society.

There is a pattern I’ve begun to see in certain types of data on the Irish economy, particularly in the private sectors. It’s called a ‘head and shoulders’ pattern. The bubble of the early 2000s and the bust we’ve lived through since 2007 essentially represents the upward and downward parts of the ‘head’. The right shoulder is where are right now. The right shoulder might signify the end of the collapse, or it might be a plateau from which the Irish economy will fall further. The graph I’ve made from 2004 to today shows Ireland’s total retail trade, the inflation rate for food, and private final consumption, all indexed to 2005. An index is a ratio that measures changes relative to some fixed point, so you can compare each series, one against the other. So when you read from the chart that, say, private final consumption at the start of 2006 was 112.4, that means the level of consumption in 2006 was 12.4% higher than in 2005, the index period. Similarly, the current value of consumption is 107.4, so we are still 7.4% higher than in 2005. Retail trade is 92, or 8% lower than in 2005.

The chart is very messy—that’s the real world for you—but the pattern is pretty obvious for each of these series. There is a ‘jump’ during the boom, followed by a slump from 2007, and a return to something closer to the 2004 value.

Figure 1. Index = 2005, Ireland’s total retail trade, the inflation rate for food, and private final consumption. Source: OECD, Federal Reserve Bank of St. Louis (FRED).

What does this mean? It is only a partial series, representing a small piece of the economy, but this pattern is replicated in other parts of the economy like manufacturing, so, barring a collapse of the Euro or another systemic event, the economy may well be stabilizing.

I’m as shocked to write those words, tentative as they are, as you probably are to read them. (Or maybe not. Economists are really odd people).

We are back in the bond markets, and it seems like things are going our way in Europe. In October, the EU authorities will meet to discuss Ireland’s debt problem. The Anglo and Irish Nationwide part of Ireland’s banking debt is about 15% of the total liabilities of the Irish State. More than 40 billion euros has, in accounting terms, been a direct capital transfer from the State to the banking sector. Placing these and other banking-related debts on a more secure footing will enable the Irish State to recover much more quickly.

The EU authorities desperately need a success story, and I think we can be that success story, provided a deal is done to push the repayment of what many consider to be odious debt into the future, at a reasonable rate. The prospects for our recovery hinge on this large signal from the EU authorities to the market that Ireland, and perhaps, just perhaps, other EU nations, might be afforded relief from a repayment schedule that may stifle any rebound.

Published in the Irish Independent