Virtuous and vicious cycles: boom and bust in Ireland Dr. Malcolm Brady DCU Business School Dublin City University Visiting Scholar to Wuhan University,

Virtuous and vicious cycles: boom and bust in Ireland

Dr. Malcolm BradyDCU Business SchoolDublin City University

Visiting Scholar to Wuhan University, Hubei Province, China

12th – 13th March 2012

[email protected]://webpages.dcu.ie/~bradym

Ireland before the 1990’s…

• A sleepy backwater• Long legacy of emigration• Poor infrastructure• Small industrial base

– drinks, clothing, agriculture (beef, foodstuffs)• Strong rural links/ Church influence• Buying votes, but high taxes and interest rates• ‘living away beyond our means’, fiscal rectitude

but had resource advantages…

• Young, educated, low-cost workforce• Only English speaking Euro-zone country• Easy access to European markets• Good educational system• Pro-business government policies• Agencies active in seeking investment

– Especially in knowledge-based industry

• Low corporation tax at 12.5%

that attracted in investment…

• Technology firms– Intel, Dell…

• Pharmaceutical– Pfizer, Wyeth…

• Financial services firms– Insurance, re-insurance…

• Software…– Microsoft…

which led to amazing growth…

• Initially due to higher productivity– People worked harder, smarter and longer– Higher skill work

• Financial services/ software/ hi-tech manufacturing

• Second phase due to building boom– Houses/ apartments/ shopping centres– Dublin, then hinterland, then entire country– Not well-planned or integrated

– Schools/ shops lag housing– Transport difficulties in outer suburbs, dormitory towns

– Funded by borrowing

Population - Republic of Ireland

0500,000

1,000,0001,500,0002,000,0002,500,0003,000,0003,500,0004,000,0004,500,000

1950 1960 1970 1980 1990 2000 2010

House Completions - Republic of Ireland

0

20,000

40,000

60,000

80,000

100,000

1990 1995 2000 2005 2010

Source: CSO Ireland

Employment - Republic of Ireland

0.00

500.00

1,000.00

1,500.00

2,000.00

2,500.00

2000 2002 2004 2006 2008 2010

0

5,000

10,000

15,000

20,000

25,000

30,000

35,000

40,000

45,000

50,000

2003 2004 2005 2006 2007 2008

GDP - percapita

GNP - percapita

increasing confidence, arrogance…

• First population growth since Great Famine• Net immigration/ heterogeneous society• Cultural impact on world

– Riverdance/ U2

• Diaspora buying up European property• But politicians ignoring people• No to Lisbon treaty

– Annoyed European colleagues

and corruption…

• Tribunals of inquiry estimated cost €434m

• Mostly in fees to the legal profession

• Ongoing - Two took 12 years, one 7 years

• Ignominious end to a number of political careers

• Little outcome to date except national loss of innocence

Society changed…

• Pluri-cultural and pluri-lingual– Many non-Irish immigrants– New religions and customs

• New infrastructure– M50 ring motorway around Dublin– Significantly upgraded roads to the capital

• Thriving urban entertainment culture• Conspicuous consumption

– Temple Bar and Grafton Street

but growth caused strain…

• Infrastructure inadequate– Long commutes– Traffic congestion

• Health care system ‘third world’• Large class size in primary schools• Services price inflation

– Professionals/ craftsmen– Restaurants/ coffee shops/ bars/ hotels

• Increasingly stressful lifestyles– ‘Breakfast roll man’/ ‘Yummy mummy’

and more serious problems…

• Cost of living 20% above European average – Siptu, 2009

• Labour cost increase• Beginning to lose national competitive advantage

• Senior private/public salaries dramatic increase • Widening gap between haves and have-nots

• Binge drinking - young/ cocaine - middle class• Development of hedonistic culture

• Drug-related gangland wars• Development of urban underclass

and house price inflation…

• Average house price increased from €87,000 in 1996 to €300,000 in 2006 (CSO 2008:22)

• Banks – relaxed mortgage requirements– from 3 x salary to 8 x salary– from 20 years to 25/ 30 years– 100% mortgages available

• Two incomes, plus parents• Many sectors benefit from high prices

– Developers, builders – windfall profits– Government – stamp duty– Estate agents, lawyers - fee % of price

Then worldwide shock…

• Ireland is a small open economy– Susceptible to benefit/ suffer from worldwide

changes

• Interest rate increases– Increased cost of mortgages

• Credit crunch

• Recession in main trading partners UK/US

banks got into trouble…

• Bank of Ireland predicts €6b losses on property loans over next three years

• Government provides €3.5b to BoI & AIB• demanding cap on executive earnings

• Anglo Irish Bank nationalised, scandals• €7b customer deposit - switched with another bank• CEO’s loans hidden from auditors• €451m Golden Circle customers/ shareholders

Source: Irish Times 12 Feb 2009

and bankers respond…

• BoI’s Goggin admits mistakes made, but• declined to apologise• “And I suppose that if I have a regret, my regret is that I didn’t

see this coming and perhaps the lessons of economics were forgotten. Economics ultimately are cyclical

• …Irish people in general, rather than just the banks, “all got carried away on the euphoria” of that prosperity”

• AIB’s Sheehy less conciliatory• “bank remuneration…got out of control to some degree

where there was too much reward for short-term gain.” “That clearly has to be changed, not only in Ireland but everywhere. . .remuneration has to be linked to long-term risk and risk taking”

flagship companies in trouble…

• Waterford Wedgwood in receivership

• Independent Newspapers share price tumbles

• Ryanair letting go 200 staff in Dublin– Monthly airport passenger numbers down 9%– ‘Idiotic’ departure tax

• “This Government must realise you can only promote tourism by welcoming visitors, not taxing them” - Michael O’Leary CEO Ryanair

Source: Irish Times, 12th Feb 2009

A changed economy…

• Credit crisis and bailout of the banks• Consumer spending halted• 266k houses vacant (15% of stock 2006 census, cso)• Job losses - unemployment rises to 9% Jan 2009

• Government revenue down 6.3% in 2008• €20b budget deficit• Cutbacks across entire public sector

– Budget levy/ Pension levy (viewed as paycut)– Benefits reductions/ Remedial teaching…

• Increased taxes: departure tax/ income tax?

and frightening bust…

• Retail sales for 2008 down 4.5%• January deflation first for 50 years

• Inflation forecast at -3% for 2009• Mortgages, retail prices down• Wages and prices must drop 20% to restore

competitiveness (Bloxham economist)

• Contraction in economy of 6% forecast for 2009• Living standards to drop 10% over next years • ‘It’s a battle for financial survival. We have to

keep working at it’ • Brian Lenihan, Finance Minister

Sources: Irish Times 12/13/25 Feb 2009 RTE 17 Feb 2009

Consumer Price Index - Republic of Ireland

95

100

105

110

115

120

2000 2002 2004 2006 2008

Average New House Price - Ireland

Source: CSO Ireland

Source:http://www.globalpropertyguide.com/real-estate-house-prices/IPermanent TSB/ ESRI

Bank of Ireland Share Price

0

5

10

15

20

9/1/2002 1/14/2004

5/28/2005

10/10/2006

2/22/2008

7/6/2009

Source: Yahoo Finance

ISEQ Total Return Equity Indices 2008

02000400060008000

100001200014000

31/1

2/20

07

29/2

/200

8

30/4

/200

8

30/6

/200

8

31/8

/200

8

31/1

0/20

08

31/1

2/20

08

Source: Irish Stock Exchange Annual Statistical Review 2008

hostile public reaction…

• Breakup of the Partnership Agreement– Between government, employers and unions– Street protests by unions, students, Gardaí– Strikes by transport and public sector workers

• Senior bankers stepping down» remuneration checked (AIB CEO 60% pay cut)

• Government debt rating under threat– bank guarantee scheme may backfire

• EU reaction– Ireland’s policymakers failed to maintain ‘prudent fiscal

course’ during the boom– Government recovery plan: ‘lack of clarity’– Trichet optimistic, but hard decisions to be made

followed by collapse…

• Government bonds failed in capital market

• Ireland downgraded by rating agencies

• Bailout in November 2011 by EU/IMF/ECB

• Leading to huge debt and tax burden

• EU seen to protect European banks at expense of Irish taxpayer

• Much emigration of young people to Australia, Canada, Britain

and slow recovery…

• Investment by social media companies– Google, Facebook, Paypal, eBay

• Small but positive growth in the economy

• Agricultural products sector growing

• Exports growing– Software, pharmaceuticals, IT products,

financial services

A retrospective view…

• Small economy• An absolute amount of investment provides big relative boost• downturn hurts disproportionately

• Small society• Senior decision makers know each other

– executives, bankers, developers, politicians, civil servants…

• Fear that ‘Golden Circle’ still exists• Many senior bankers and developers remain

• Public sector being scape-goated• But, except for senior staff, gained little during boom

• Poor government blamed• FF satisfaction rating at historic low and its vote collapsed

and some theory…

• Compound/ exponential growth cannot continue indefinitely

• Virtuous and vicious cycles spring from the same underlying system– Reinforcing feedback loops can lead to

increase/ decrease– Change in parameter value changes system

behaviour

• Delay/lag leads to oscillation

House priceHousing demand

Housing stock House construction

Interest rate factor

Credit availability factor

+

+

-

-B

B

Population

+

+-

Desired housing stock+

+

-

Expected value

++

R

+

Confidence

+

B