0 Spending Review 2018 Comparative Levels and Efficiency of Irish Public Spending KEVIN M EANEY , V ICTORIA OYEWOLE AND J ACOPO BEDOGNI CENTRAL E XPENDITURE P OLICY S ECTION J ULY 2018 This paper has been prepared by IGEES staff in the Department of Public Expenditure & Reform. The views presented in this paper do not represent the official views of the Department or the Minister for Public Expenditure and Reform.
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Spending Review 2018
Comparative Levels and Efficiency of Irish Public Spending
KEVIN MEANEY, VICTORIA OYEWOLE AND JACOPO BEDOGNI
CENTRAL EXPENDITURE POLICY SECTION
JULY 2018
This paper has been prepared by IGEES staff in the Department of Public Expenditure & Reform. The views presented in this paper do not represent the official views of the Department or the Minister for Public Expenditure and Reform.
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Key Findings
1. Irelands expenditure comparisons are more volatile than other EA countries The volatility of economic output measurements, such as GDP and GNI*, are significantly
higher in Ireland than all the GDP figures of other countries in the sample. This makes it quite
difficult to compare expenditure and causes Ireland’s comparative position to vary significantly
over time.
2. Ireland’s overall spending is close to the Euro-Area average when age and GNI* are
accounted for
On first glance, spending as a percentage of GDP is well below EA norms. However, taking
account of certain differences between Ireland and other EA countries, this gap in spending
tends to shrink. Firstly, using GNI* for Ireland the gap in total spending decreases from 20% of
GDP to 5% of GNI*. Secondly, accounting for the differing age structures across EA countries,
the gap as a percentage of GNI* falls further to only -0.6%.
3. However, the differences in sectoral spending are notable
The two notable gaps that persist are over time are in the health and social protection sectors. Based
on GDP, health is at or slightly under the average spending across the EA. However, this changes when
using a GNI* base and accounting for age, where it is shown that Irish health expenditure is well above
average. The spending on social protection is well below average using all economic output bases and
even after adjusting for age. This is driven by much lower than average spending on ‘old-age’ compared
with the EA average, which likely reflects different social security and state pension systems across the
EA.
4. Ireland is relatively efficient in Education and Social Protection expenditure
The results of the DEA analysis indicates overall, that there could be savings to be made for
expenditure, as well as gains on outcomes. Ireland is relatively efficient in education. Ireland spends
less on education than most of its EU peers and achieves relatively efficient outcomes. However, this
is less true when age adjustments are made to expenditure, where it appears that improvements in
outcomes could be achieved. Likewise the DEA analysis indicates that overall, Ireland is relatively
efficient in social protection expenditure in reducing poverty, but proves to be less true when spending
is adjusted for age profiles.
5. Inefficiencies in Ireland’s public health expenditure
Ireland has a relatively high level of health expenditure in comparison to it EU peers. Ireland is not
achieving the greatest level of efficiency from inputs. Inefficiency in health expenditure is more
pronounced when age adjustments are made to expenditure in GDP, GNI and GNI* terms. The DEA
analysis estimates that there could be considerable savings to be made on inputs as well as possible
gains on possible outputs/outcomes.
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1. Introduction This paper will compare public spending across sectors using Classification of the Functions
of Government (COFOG) data, namely in areas such as Health, Education, Social Protection
and Housing. Similar work has been carried out recent years, see McDonnell (2017)1, but this
analysis will look at comparisons over time, using different peer countries, using a range of
economic output bases (GDP, GNI and GNI*) and finally adjusting for differing age profiles
across the EA. In particular, the analysis will compare the spending in Ireland against peer
countries that form the Euro-Area (EA) over the 2001 to 2015 period. The analysis will use a
range of economic output bases in order to compare across countries given the distortions
caused by the multinational sectors within Ireland. The analysis will also apply an age-
adjusting technique to factor for the differing population structures across the EU countries.
In addition to overall comparisons, the paper will estimate the efficiency of public spending
in the three specific areas of Education, Health and Social Protection (in particular on
poverty). This will update work previously carried out by the IMF (Chailloux, 2016)2, but will
expand on the metrics used in that analysis. The analysis will compare inputs (i.e. expenditure
as % of GDP, as % of GNI/GNI* and on an age adjusted basis) with a range of
outputs/outcomes in these sectors. The paper will make use of Data Envelopment Analysis
(DEA) to estimate the levels to which efficiency could be improved versus frontier countries.
The DEA technique can estimate how much inputs can be reduced to get a similar
output/outcome or how much more outputs/outcomes can be delivered for the same inputs.
The remainder of the paper is structured as follows:
Section 2 details the data and methodology underpinning the analysis.
Section 3 provides a comparison of spending across the EA over the 2001-2015 period on a
headline basis and an age-adjusted basis.
Section 4 provides estimates of the efficiency of public expenditure in the areas of Education,
Health and Social Protection.
Section 5 provides a conclusion for the analysis and some key findings.
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2. Data and Methodology Age-Adjusted Expenditure
Ireland has a relatively young population in comparison to EA countries, as shown in the
graphs below. The youth ratio classified below is the percentage of the population aged 20 or
less, while the older-age ratio is the percentage of the population over 65 in 2015. In both
cases Ireland is at the end of the scale, with the highest proportion of young people and the
lowest proportion of older-age people. The composition of the population has an important
impact on how resources are allocated and should be factored into an analysis of comparative
spending across sectors. For example, in Ireland it should be expected that spending on
pensions and healthcare should be lower than other countries and conversely, spending on
items such as education and family & child supports should be higher.
Figure 7: Comparison of Youth and Older-Age Ratios across the EU, 2015
While older-age dependency rates in Ireland are beginning to increase, Ireland has a much
younger demographic profile in comparison to other EU countries. This can be reflected in
cross-country comparisons by extending a methodology applied to adjust health spending or
demographic outcomes (Redmond, 2012)3 and used in the Mid-Year Expenditure Report
20164. This allows for the calculation of a demographic adjustor to apply to age-related
expenditures, mainly health, pensions and education. In this analysis, all health expenditure
and old-age expenditure in social protection will be adjusted to reflect the lower cohort of
1 Tom McDonnell (2017); Public spending levels: How does Ireland Compare?; NERI 2 Alexandre Chailloux (2016); Public Expenditure Efficiency in Ireland; IMF 3 Redmond, Paul (2012). Expenditure and Outputs in the Irish Health system: A cross country comparison 4 Department of Public Expenditure and Reform (2016). Mid-Year Expenditure Report. Figure 2.6, pp 14
The main analytical methodologies used in this paper include a trend analysis to analyse
public expenditure in Ireland and across the EA over a period of time and Data Envelopment
Approach to assess the degree of efficiency of public spending.
Source: Coelli, 1996
In order to assess the degree of efficiency with which inputs are turned into
outputs/outcomes we utilise the Data Envelopment Analysis (DEA). The DEA approach is built
on the idea of constructing an efficiency frontier represented by the best performing
countries and then assessing how distant a specific country is from the frontier. Distances
proxy for a measure of inefficiencies or efficiency gains that are potentially achievable.
Inefficiencies can be analysed either from an input or from an output perspective. A country
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X is more efficient than another country Y in terms of input if X is able to produce the same
output by using less input. Conversely, X is more efficient than Y in terms of output if X is able
to more output by employing the same amount of input. The frontier is calculated directly
from the data using mathematical linear programming methods. Efficiency is measured from
a scale of 0 to 1. Where 0 represents the most inefficient country and 1 represents the most
efficient country.
DEA is a commonly used approach in assessing the efficiency of inputs (Chailloux, 2016; Dutu
et al., 20165). It is important to note that DEA approach is sensitive to the size of the sample,
choice of inputs and outputs indicators and the presence of outliers. Where outliers are
present efficiency estimates are likely to be biased. To avoid this, ad hoc adjustments were
made to remove possible outliers from the sample. Another quality adjustment we made was
the removal of countries whose health systems are not primarily funded by the government.
Data used in this study are derived from the following data sources: Eurostat, OECD and World
Health Organisation. The following outputs used in this study to measure the efficiency of
public spending are: Pisa Scores, Participation Rates in Education, Life Expectancy, Healthy
Life Years (HALE), Non-communicable disease, Disability and Unemployment Poverty and Risk
of Poverty.
5 Richard Dutu and Patrizio Sicari; Public Spending Efficiency in the OECD: Benchmarking Health Care, Education and General Administration; OECD Working Papers No. 1278, 2016
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3. Comparison of Government Expenditure across the EU and the Euro-Area
Key Findings
1. Ireland’s expenditure comparisons are more volatile than other EA countries
The volatility of economic output measurements, such as GDP and GNI*, are significantly higher
in Ireland than all the GDP figures of other countries in the sample. This makes it quite difficult to
compare expenditure and causes Ireland’s comparative position to vary significantly over time.
2. Ireland’s overall spending is close to the Euro-Area average when age and GNI* are accounted
for
On first glance, spending as a percentage of GDP is well below EA norms. However, taking account
of certain differences between Ireland and other EA countries, this gap in spending tends to shrink.
Firstly, using GNI* for Ireland the gap in total spending decreases from 20% of GDP to 5% of GNI*.
Secondly, accounting for the differing age structures across EA countries, the gap as a percentage
of GNI* falls further to only -0.6%.
Snapshot of 2015 gap between Ireland and Euro-area average expenditure (%)
Total Expenditure Non Age-Adjusted Age-Adjusted
GDP base -19.7 -16.9 GNI base -11.5 -7.9 GNI* base -4.9 -0.6
3. However, the differences in sectoral spending are notable
The two notable gaps that persist are over time are in the health and social protection sectors.
Based on GDP, health is at or slightly under the average spending across the EA. However, this
changes when using GNI* and accounting for age, where it is shown that Irish health expenditure
is well above average. The spending on social protection is well below average using all economic
output bases and even after adjusting for age. This is driven by much lower than average spending
on ‘old-age’ compared with the EA average, which likely reflects different social security and state
pension systems across the EA.
Snapshot of 2015 gap between Ireland and Euro-area average expenditure (%) Non Age-Adjusted Age-Adjusted
Health Expenditure as a % of GDP -1.67 1.18 GNI -0.08 3.58 GNI* 1.21 5.52
Social Protection Expenditure as a % of
GDP -10.71 -10.02 GNI -8.01 -7.13 GNI* -5.84 -4.80
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Governmental expenditure has experienced periods of rapid growth and decline during the
boom and subsequent recession. At the start of the 2000s (the ‘Celtic Tiger’ years), Ireland
was spending comparatively low amounts as a percentage of GDP, due to modest growth in
expenditure while large increases in nominal GDP were materialising. From 2002 onwards,
Ireland’s comparative expenditure ranking steadily increased until 2008, where expenditure
was almost 42% of GDP. This was as a result of successive years of expenditure growth, well
in excess of nominal GDP growth. In more recent years, Ireland has fallen back down the
rankings, with spending the lowest as a percentage of GDP in 2015. This is due to reductions
in expenditure following the crisis and rapid GDP growth in recent years.
Using the new national income metric, modified GNI (GNI*)6, Ireland’s comparative ranking
improves in all years, but the single largest increase of 15 percentage points (pp) occurs in
2015. This larger increase in 2015 illustrates the distortion to GDP caused by the re-domiciling
of foreign owned assets to within Ireland, which the GNI* specifically adjusts for. Using GNI*
shifts Ireland from being at the bottom of the international league table in 2015 to within a
middle grouping of countries, but still somewhat below the Euro-area average.
Figure 1: General Government Expenditure as a % of GDP; 2001, 2008 and 2015
Source: CSO; OECD; DPER calculations
6 This adjusted level indicator adjusts Gross National Income (GNI) for the retained earnings of re-domiciled firms and depreciation on foreign-owned domestic capital assets in the GNI figures, to provide a more accurate measure of national income.
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3.0.1 Complexity of International Comparisons As discussed above, Ireland’s expenditure position has varied significantly since the beginning
of this century and can partly explain changes in comparative rankings over these years.
However, the larger impact on the change in Government spending, as a percentage of GDP,
has been as a result of the large variations in GDP and GNI* itself (the base effect). Looking
back over the past sample, the figures below decomposes the impact of expenditure and
GDP/GNI* annual growth on the annual change in the expenditure/base ratio. The relatively
large negative impacts of economic growth have caused large reductions in the spending ratio
in certain years, particularly 2014 and 2015.
Figure 2: Decomposition of annual change of expenditure as a % of GDP and GNI*
Decomposition of annual change of General Government Expenditure as a % of GDP
Decomposition of annual change of General Government Expenditure as a % of GNI*
Source: AMECO database; DPER calculations
The impact of GDP changes are significantly higher in Ireland than most other countries in the
EU, with figure 3 showing the volatility of nominal GDP growth rates for a number of euro-
area countries. This is also the case for the new GNI* metric calculated by the CSO, where the
volatility is higher than all the other countries GDP figures in the sample. This makes it quite
difficult to target levels of expenditure as a percentage of GDP and causes Ireland’s
comparative position to change very significantly over time.
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Figure 3: Volatility of nominal GDP growth since 2001 for Euro-Area countries (st. dev. %)
Source: AMECO database; DPER calculations
Noting the difficulty in comparing spending across countries and across sectors, the following
section will outline how comparisons change depending on the base used (the analysis will
include GDP, GNI and GNI*) and accounting for the demographic profile of countries across
the Euro-Area. The analysis will use COFOG (Classification of the Functions of Government)
data sourced from the OECD and Eurostat, which allows for a cross-country comparison of
not only the overall spend by Governments but also the sectors in which that spending occurs.
The sectors focussed on in this analysis are Economic Affairs; Housing and Community
Amenities; Health; Education; Social Protection; and ‘Others’. The ‘Others’ section is a catch-
all group which includes General Public Services; Defence; Public Order and Safety;
Environmental Protection; and Recreation, Culture and Religion.
The next section aims to provide a picture for how spending in certain sectors differs between
Ireland and other Euro-Area (EA-19) member states, and also to include an element of age-
adjustment for expenditure in order to factor in the differing demographic profiles across the
EA.
3.1 Comparison of headline spending in selected sectors
There are a number of means to compare spending across countries and bases with which to
compare against. NERI (2017) compared Ireland with a group of 10 comparator countries on
the basis of spending per capita, depending on the sector. They provide some critique of the
use of economic output metrics such as GDP, GNI and GNI* to compare spending “given the
pollution of the Irish national accounts by the tax planning activities of foreign
multinationals”. The cut-off point, of €30,000 in GDP per capita, put Ireland close to the
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lowest spending country (slightly above the UK) in the sample of 11 countries, and well below
the average. The rationale was to ensure that nominal spending per capita could be compared
across countries that are similarly wealthy. However, this is a large assumption given the
wealth differences, size differences, economic model difference and differences in currencies
of the countries in the sample. The subsequent breakdowns by sector then found that Ireland
was a comparatively low spending country.
This paper would argue that spending comparisons against economic output metrics will
provide a more reasonable basis with which to compare spending across countries, despite
the issues with measuring economic output. In this analysis Ireland will be compared against
the average expenditure in the Euro-Area (EA) in each of the sectors of interest, using a base
of the economic output in Ireland and the EA. This will allow for a better comparison for Irish
Government expenditure against advanced peers with whom we share membership of the
EU, a united currency and monetary policy, and more stringent fiscal monitoring under the
revised Stability and Growth Pact.
3.1.1 Comparison of expenditure as a percentage of GDP
Ireland’s expenditure as a % of GDP has been consistently below the EA average since 2001.
From 2001 to 2005, this gap remained consistent at around 14% of GDP. While there were
large increases in expenditure in these year, there were also proportionally large increases in
GDP.
In 2006 and 2007, the growth in expenditure significantly exceeded GDP growth which caused
the gap with the EA average to close somewhat (to a negative gap of 9.5% of GDP in 2007).
The much lower gap levels between 2008 and 2012 can be explained by both the falling GDP
levels in 2008 and 2009 and the automatic stabilisers kicking in on the onset of the global
financial crisis. In particular, the negative gap in social protection spending reduced
significantly between 2008 and 2012 due to the significant increases in spending on
unemployment. Following the immediate years after the global financial crisis, Ireland started
to grow significantly once again, with growth in GDP in excess of expenditure growth. The
overall negative gap had increased back to 11.8% of GDP by 2014, but due to the
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unprecedented nominal growth of c.32% in 2015 the gap further deteriorated to almost 20%
of GDP.
On a sectoral basis, the graph identifies that social protection and ‘others’, in particular, are
at expenditure levels well below the EA norm and these have been the persistent key drivers
of the gap over time. Within these sectors, the key drivers of the gaps have been spending on
‘old age’ and ‘survivors’ in social protection, and ‘public debt transactions’ up until 2008 and
‘defence’ throughout in ‘others’. The gap in ‘old age’ spending could reflect the different state
pensions systems that operate across the EA. Ireland tends to levy relatively low amounts of
Social Security Contributions in comparison to other EA countries and pays a flat benefit
irrespective of the total contributions made, once the minimum qualifying weekly
contributions are made. Other EA member states pay back a percentage of in-work income
which reflects the total social contributions made.
Spending on health and housing & community services have been amongst the sectors most
commonly above the EA average. This picture alters when considering 2015, where the large
increase in the GDP base has caused all sectors to spend below the EA average.
Figure 4: Expenditure as a % GDP – Ireland versus euro-area average