Ireland’s Economic Crisis: Who Bears the Cost?

1. Ireland’s Economic Crisis: Who Bears the Cost? Brian Nolan School of Applied Social Science Presentation at John Hume Institute, UNSW April 2011

2. Outline Income inequality and poverty in Ireland as the Celtic Tiger ends The Great Recession hits Ireland Who bears the immediate impact The policy response and who is most affected The medium-term implications The long-term impact?

3. 2009 Financial Times: “Dire Land”

4. 2010 Economist

5. Distributional Implications of Ireland’s Crisis: the Context • Income inequality in Ireland high-ish compared with other OECD countries • 22nd. of 28 countries • But rather stable over time • Gini coefficient in 0.31-0.32 range (compare UK 0.34, Aus 0.31, USA 0.38) • Relative income poverty above/about EU average • Deprivation levels fell sharply over boom, real incomes and living standards sharply increased • “Consistent poverty” - % both below relative income threshold and above deprivation threshold – declined substantially

6. The Seeds of Crisis “Good boom” 1995-2001 versus 2002-07 • Switch from export-led to domestic demand – esp. construction (14% of national output) • Tax policy • Income taxes cut, reliance on property-related taxes • Government spending • Increased very rapidly as growth fuelled revenue – “when I have it I spend it” • Loss of competitiveness • Productivity growth slowed • Wage increases, inflation well in excess of competitors 6

7. Index of House Prices and CPI

8. The Property Boom and Bust • Average real house prices tripled between 1994 and 2007, driven by: • Economic growth, over-expansive macro policies, tax incentives, and speculative demand • Credit expansion • Eurozone low interest rates - net indebtedness of Irish banks to rest of world rose from 10% of GDP at end-2003 to 60% by end-2007 • And bank behaviour • no deposit and verification for mortgages • competed aggressively to fund commercial property developers with little security • House prices down about 50%, land at least 75%

9. The Banks • Aggressive lending to property sector meant banks highly exposed • Highly dependent on wholesale borrowing in euro area markets • “Problems lay in plain vanilla property lending” • not esoteric financial instruments - sub-prime mortgages • Regulatory failure, solvency not liquidity problem • Response was to • guarantee ALL existing and new bank liabilities • transfer property-related loans to State at a discount • inject new capital into banks and again, and again …. • Irish banks became entirely dependent on ECB, could not fund wholesale market • Bank bailout most expensive in world – €70bn ! (GNP only €125m.) 9

10. The Scale of the Economic Crisis • 2010 GNP per head lower than in 2002 • Unemployment up from 4% to 14% • Net out-migration resumed • Tax revenue down by 1/3 • Fiscal deficit 14% of GDP in 2009, 32% in 2010 due to bank bailout; debt/GDP approaching 125% • 9%+ yields on Irish government debt reflected growing nervousness among lenders – about cost of bank bail-out and ability to cut deficit • Left with no choice but to resort to EU/IMF Rescue Fund • Conditions imposed largely what intended to do anyway 10

12. Responding to the Economic and Fiscal Crisis So far Government has: • Raised direct taxes • Cut public service numbers and pay • Reduced social transfers for working age • Reduced other current and capital expenditures • Cut minimum wage from €8.65 to €7.65 12

13. Direct Impact on Income and Wealth Unemployment up from 4% to 14%, most obvious impact on household incomes Substantial decline in average earnings for those still in employment 10% in private sector? Combination of declining hourly pay and falling hours Profits, self-employment income down Public sector pay cut Bank shares worthless – also affecting pension funds Negative equity widespread, arrears/difficulties for 10% of mortgage holders 13

14. What Do We Know About Immediate Distributional Impact? • Income inequality has fallen: Gini down from 0.32 in 2007 to 0.29 in 2009 • Relative income poverty has fallen from 18% in 2007 to 16% in 2008 and remained at that level in 2009 [16.5% in 2007 to 14.4% in 2008 and 14.1% in 2009] • Income threshold fell 4% 2008-2009 • Deprivation rose in 2009: • % in arrears on utilities etc. roe from 10% to 24%; • % reporting 2 or more on a set of 11 deprivation items rose from 25% to 29% • “Consistent poverty” rose from 4.2% to 5.5%

15. Income Shares among Persons, Equivalised, Ireland 1994-2009 % share in disposable equivalised income Poorest decile Richest decile

16. Tax/welfare Response Budget 2009 income levy introduced 3% rise in welfare payment rates Supplementary budget April 2009 Levy rates doubled (to 2/4/6), Health levy doubled (to 4) PRSI ceiling raised Christmas bonus abolished Early Childcare Supplement halved, to be abolished Cuts in payment rates for unemployed under 21 Budget 2010 Cuts in welfare for working age of 4% Larger cuts for 21-25 year-olds Child Benefit cut by 10% with compensation for welfare recipients Budget 2011 Cuts in welfare for working age of 4% Child Benefit cut by 10% with no compensation for welfare recipients Universal Social Charge – combining Income and Health levies Increases in income tax via reduced credits Cuts in public service pensions Restricting tax reliefs on employee pension contributions

17. Distributional Impact of Tax and Welfare Response • Tax measures hit those on higher incomes most, but reduced take-home pay for most • Welfare cuts concentrated on working age, esp. families and young • Pensioners insulated so far • Unemployed bearing the most severe burden • efforts only now focusing on labour market interventions to assist them • Plenty more pain to come for all

18. Public Sector Pay Cuts • New pension “levy” on public sector workers • 5% on first €5,000 • 10% - 10.5% on rest • Pay then cut by • 5% on first €30,000 • 7.5% on next €45,000 • 10% on next €50,000 • 8% on next €40,000* • 12% on all pay if over €160,000* • 15% on all pay if over €200,000 • Impact most strongly towards top of household income distribution, little on bottom half

19. Where to from Here? • Borrowing Requirement to be cut to 3% of GDP by 2015 • Very large cuts in spending and increases in taxes to come, outlined in 4-year “National Recovery Plan” • Programme for Government commits new government to • No increase in income tax or PRSI • “Consider various options for a site valuation tax” • Review Universal Social Charge • Reduce social transfers but maintain social welfare rates • Cut public service numbers by 22,000-25,000 by 2015, without compulsory redundancies or further pay cuts • Hard to see fiscal targets being met with these constraints • Will austerity work fiscally or be self-defeating (cf. Britain going back on gold standard)? • Default or re-negotiate in a few years?

20. Longer-Term Implications • As well as direct impact of reduced social transfers, impact of cuts in spending on health, education, social services may be greatest for disadvantaged • Potentially very serious long-term impact on life-chances of current labour market “entry” cohort, of children being raised in disadvantaged households, and of families trapped in negative equity