Finance Bill 2009: Economically-illiterate and jobs-destroying

Finance Bill 2009 published yesterday confirms a simple fact Lenihan and Cowen are hell-bent on pillaging this economy and destroying private growth and wealth.

I will focus on far less-discussed Explanatory Memorandum:

• confirms that "the income levy rates in force in the first four months of the year will apply to redundancy payments made up to 30 April 2009" - so DofF has venally gone after people who lost their jobs and was forced to step back. No worries, they'll get you in some other ways. But this means that the DofF projections for €754mln in 2009 due to be raised out of income levies is now looking more like my predicted (here) €714mln.

How? Well, we had some 384,400-268,600=115,800 people joining the Live Register since November 2008, this is probably ca 80% of those laid off in the period and so the numbers of those getting redundancies since January 1 (there is a lag in redundancy payments for quite a few workers due to cash flow problems in many businesses) are close to the above number. Statutory redundancy is 2 weeks pa, so say on average we have around 4 weeks of pay pa of service, for median salary of the laid off of, say €35,000 pa. Average tenure in the job is 5 years. Redundancy total paid since January is around €1.55bn mark. At 1% foregone levy, flat, that is €15.5mln. Annualized - €46.5mln. Ouch! Yet, it does not stop there - those 115,800 workers aren't going to get a job any time soon, so their income taxes (and levies) are now NIL. Foregone levies? Ouch, €41.5mln odd for the rest of 2009 income... And that is before we get to factor in the Laffer Curve effect of levies on the rest of us...

Yes, Brian, you should have sent Lenihan to Economics 101...

• "Section 5 amends section 97 of the Taxes Consolidation Act 1997 in relation to the extent to which interest on borrowed money used to purchase, improve or repair a rented premises can be deducted in computing the amount of taxable rental income. Where the borrowed money is used to purchase, improve or repair a residential premises, 75% of the interest on the borrowings can now be deducted instead of the normal 100%".

Now, I am not the biggest fan of buy-to-let investors, but... this is absolutely arbitrary. If I invest in a business - to increase that business' earning capacity, I can write it off against my earnings. Well, rental properties are business too. This measure is arbitrary in so far as it applies to a relative penalty to specific businesses. It is also idiotic, for it discourages improvements in properties, or in other words reduces efficiency of the existent housing stock in the country.

Yes, Brian, you should have sent Lenihan and DofF to Economics 101... preferably not taught by Alan Ahearne...

• "Section 6 amends section 644A of the Taxes Consolidation Act 1997 (which deals with the income tax treatment of income arising from dealing in residential development land) by providing for the abolition of the 20% incentive rate of income tax on such income, with effect from the 2009 tax year. From 2009 onwards such income will be taxed under normal income tax rules. The section also inserts a new section 644AA into the Taxes Consolidation Act 1997 [on] certain trading losses arising from a trade of dealing in residential development land where if profits had been earned the profits would have qualified for the 20% incentive rate of income tax. Under normal income tax rules, a loss sustained in a trade may be set ... against the person’s other income. In the case of losses sustained in a trade of dealing in residential development land, ...such losses (sustained in a trade in which if profits had been made would have been taxed at 20%) could be set against the person’s other income taxable at the higher 41% rate. The new section provides that such losses must first be converted into a tax credit, valued at 20% of the loss, and then allows the tax credit to be set sideways in the year the loss is sustained
  against tax payable on the person’s other income."
  

Brian-the-Genghis-Khan of Irish finances is now doing the following: you can earn income and pay a tax of 41%, plus levies, but if in the process you incur a loss, you can only write it off at 20% tax rate. This is patently business retarding. Application of this Zimbabwean-like measure to residential development land is not the point. The point is that the tax charge is more than twice the loss write-off charge. Of course, Zanu-FF will never pass this onto the entire economy - because our MNCs and large domestic vested interests will never allow this to occur, but... drop-by-drop he will start extending this in the next Budget to other parts of business.

But again, an added here is a bonus insight into Brian's economic illiteracy. The banks and corporates are overloaded with bad loans at this time. Much of it is collateralized on or lent on development land. If we were to force the banks to take serious writedowns and to see developers do so as well, why are we introducing a 50% penalty for them to do this? Brian is creating zombie land banks in return for a couple of hundred of euros he might claw back from a handful of forced sales of land. This is (a) going to haunt us for a long period of time, and (b) bodes poorly for the prospect of NAMA not generating the same...

• Finally, where a claim for terminal loss relief (i.e. on the permanent cessation of a trade) has not been made to and received by Revenue before 7 April 2009, the new section restricts the relief so that any part of the terminal loss that relates to a loss sustained, before 1 January 2009, in a trade of dealing in residential development
  land is ‘‘ring-fenced’’ and can only be set against income arising in that trade, or in that part of a trade, in prior years.
  

So no booking of losses after January 1, 2009 on development land. This is a penalty on those going bust in 2009 - a venal act, given that some developers tried their best to stay afloat before then and are now facing back taxes on business losses. Again, not being enamoured with land speculation myself, I just don't think this is a good way of reducing such activity in the future, but rather a way to kick in the sensitive area those who are already down. Well done, Brian.

In contrast, Section 8 allows for a close-off period for nursing homes incentives scheme phase-out. Why not for development land, Brian? After all, what's more toxic and needs to be written off faster and in a more orderly fashion?

In further contrast, here is a fair treatment:

• Section 11 abolishes the effective 20% rate applied to trading profits from dealing in residential development land with effect from 1 January 2009. An accounting period that straddles that date is treated for this purpose as two accounting periods. Profits or gains on dealing in residential development land will now be charged at the general rate of corporation tax that applies to dealing in land, which is 25%.

The only question to be asked here is why on earth did we have this exemption in the first place?

• Section 7 amends section 372AW of the Taxes Consolidation Act 1997 which relates to the Mid-Shannon Corridor Tourism Infrastructure Investment Scheme. One of the conditions of this tax incentive scheme is that the Mid-Shannon Tourism Infrastructure Board must grant approval in principle for investment projects in advance of expenditure being incurred. At present an application for such
  approval in principle must be made within one year of the commencement of the Scheme, i.e. by 31 May 2009. This amendment extends the period during which such applications can be made from one year to two years so that the latest date for the submission of applications is now 31 May 2010. Under the Scheme, the current period within which expenditure must be incurred for capital allowances purposes is the three-year period commencing on 1 June 2008 and ending on 31 May 2011. To cater for any projects that may avail of the new date for the submission of applications for approval in principle, this period is also being extended and will now end on 31 May 2013.
  

So all is fine in the land of wasted resources - Mid-Shannon development incentives scheme is being extended... Typical FF regional subsidies waste before the local elections.


Down to the part where Brian extorts the money out of the ordinary folks:

• Section 9 increases Deposit Interest Retention Tax by two percentage points with effect from 8 April 2009. Section 10 increases the rates of tax applying to life assurance policies and investment funds by two percentage points with effect from 8 April 2009. Section 14 gives effect to the proposal announced in the Budget statement to increase the rate of capital gains tax from 22% to 25% in respect of disposals made from midnight on 7 April 2009. Section 15 confirms the Budget increase in the rate of Mineral Oil Tax on auto-diesel which, when VAT is included, amounts to 5 cent on a litre. Section 16 confirms the Budget increases in the rates of Tobacco Products Tax which, when VAT is included, amount to 25 cent on a packet of 20 cigarettes with pro-rata increases on other tobacco products.
  

• Section 22 provides for an increase in the current non-life insurance levy by 1 per cent to 3 per cent and for a new 1 per cent levy on life assurance policies. The increase in the non-life levy applies to premiums received on or after 1 June 2009 in respect of offers of insurance or notices of renewal of insurance issued by an insurer on or after 8 April 2009. The new levy on life assurance policies applies to premiums received on or after 1 August 2009 in respect of life assurance policies whenever entered into by an insurer.
  

As expected, the issue of legality of these measures didn't phase DofF. I certainly hope insurers are going to take this state to the ECJ and trash these measures as an arbitrary infringement by the state onto the conditions of the private contracts.

• Section 23 gives effect to the proposal announced in the Budget statement to reduce the current tax-free thresholds from \542,544 (Group A — broadly speaking, from parent to child), \54,254 (Group B — broadly speaking, between siblings, from children to parents, from grandparents to grandchildren, and from uncles and aunts to nephews and nieces) and \27,127 (Group C — all cases not covered by Group A and Group B) to \434,000, \43,400 and \21,700 respectively. The section also increases from 22% to 25% the rate of tax in respect of gifts or inheritances taken after midnight on 7 April 2009.

This is clear hand out to the trade unionists - you work all your life, you save and invest, you pass it over to your children and you get milked by the state on assets which were acquired from after-tax income. This is a signal that Brian Lenihan wants to send to us, wealth-creators, and to the rest of the world.

I certainly hope that during his ''road show' selling Ireland Inc, at least one prospective foreign investor stands up and asks him: "Minister, if you can raid your own peoples' wealth in an arbitrary and unilateral fashion such as this, what guarantees can you give us, foreigners, that you will not turn Ireland into a Zimbabwe, where property rights are adhered to only as long as it is convenient for your Government?"

And watch him avoid your gaze...

Mini-Budget 2009: A 'Fail' Grade

To summarize, mini-Budget failed to deliver the substantial public expenditure savings promised. As a result of destroying private wealth and failing to cut public sector waste, instead of reducing the Gen Government Deficit to 10.75% of GDP as claimed in the Budget (Table 5), Minister Lenihan has left a Deficit of -12.5% to -13.0% of GDP in 2009. Details below.

The mini-Budget 2009 Part 1 is in and the Government has done exactly what I've expected it to do - soaked the 'rich'. This time around, the 'rich' are no longer those with incomes in excess of €100K pa, but those with a pay of €30K pa. We are now in the 1980s economic management mode, full stop.

Microeconomic Impact: Households

• The heaviest hit are the ordinary income earners and savers: Income levies up, thresholds down. Impact: reduce incentives for work at the lower end of wage spectrum and generate more unemployment through adverse consumption and investment effects. Before this budget, it would have taken a person on welfare living in Dublin ca €35-37,000 in annual pre-tax wages to induce a move into job market. Now, the figure has risen to over €40,000. PRSI ceiling is up a whooping 44.2% to €75K pa. This is jobs creation Lenihan-style;
• DIRT is up from 23% to 25% and levies on non-life and life insurance are up. CGT and CAT are up from 22% to 25%. The CGT is a tax stripping off the savers/investors protection against past inflation, so Mr Lenihan is simply clawing back what was left to the investors after his predecessors generated a rampant inflation. This is savings and investment incentives Lenihan-style;
• Mortgage interest relief is cut and will be eliminated going forward (Budget 2010) - I hope people in negative equity losing their jobs will simply send their mortgage bills to Mr Lenihan. Let him pay it;
  
• Interest reliefs on investment properties and land development are down. The rich folks who bought a small apartment to rent it out in place of their pension (yes, those filthy-rich Celtic Tiger cubs who saved and worked hard to afford such 'luxury' as a pension investment) are getting Lenihan-styled treatment too.These measures, adopted amidst a wholesale collapse in the housing sector, are equivalent to applying heavy blood-letting to a patient with already dangerously low blood pressure.

Microeconomic Impact: Businesses

• Providing no measures to support jobs creation or entrepreneurship, Lenihan managed to mention only his Government's already discredited programme for 'knowledge and green' economy creation from December 2008 as a road map for what the Government intends to do to stimulate growth;
• No banks measures announced or budgeted for, implying that an expected budgetary cost of ca €4-5bn in 2009 due to potential demand for new banks funds is simply not factored into our expenditures. Neither are there any costings or provisions for the 'bad' bank;
• No credit finance resolutions, PRSI cuts for employers, minimum wage reductions etc;
• CAT and CGT taxes up, income of consumers down, insurance levies up... Lenihan-styled treatment for business support is so dramatic that it is clear we have a Government that only knows how to introduce pro-business and pro-growth policies for their own cronies.

Microeconomic Impact: Public Sector
The only clear winners in the Budget were public sector workers. They face no unemployment prospect, no imposition of any new levies or charges, no cuts in salaries or indeed no changes to their atavistic, inherently unproductive, working practices.

Yet, they can retire earlier with a tax-free lumps sum guaranteed. And no actuarial reduction for shorter work-life, implying that the cost of the Rolls-Royce pensions to all of us has just risen by a factor of at least 1/3! Happy times skinning the taxpayers to pay the fat cats of the public sector elites? Lenihan-styled sharing of pain.

Pat McArdle of the Ulster Bank in an excellent late-night note on the Budget said: "Our main quibble with the Budget is with the split of the burden between tax and spending. ...contrary to the recommendation of practically every economist in the country, they opted for a 55% to 45% split in favour of taxes".

This is correct. On the morning of the Budget day, Mr Lenihan told the nation that not a single economic adviser was suggesting that the Budget impact should fall onto expenditure side. Clearly, he was either incapable of listening or simpy arrogantly ignorant.

Adding insult to the injury, Lenihan also ensured that majority of cuts were to befall the already heavily hit middle classes. Microecnomically speaking, Minister Lenihan has just dug the private sector grave a few feet deeper. It was at 6ft before he walked into the Dail chamber. It was at 10ft once he finished his speech.

Macroeconomic Impact: When Figures Don't Add Up
In Macroeconomic terms, we are no longer living in Ireland. We are living in Cuba where numbers are fudged, forecasts are semi-transparent and the state knows better than the workers as to what we deserve to keep in terms of the fruits of our labour. Mr Lenihan has torn up any sort of social contract that could have existed between the vast majority of Irish people and this Government.

All data is from DofF Macroeconomic & Fiscal Framework 2009-2013 document.
More realistic assessment of the GDP collapse in 2009 is being met with a relatively optimistic assumption that GDP contraction will be only 2.9% in 2010. Even more lunatic is the assumption that Ireland will return to a trend growth of ca 4% in 2012-2013. So my assumptions are: -8-8.5% fall in GDP in 2009, -3.5-4% fall in 2010, +1% growth in 2011, +2% in 2012 and +2.2% in 2013. This will be reflected in my estimate of the balance sheet below.

Another thing clearly not understood by the Government is the relationship between income, excise and import duties. Imagine a person putting together a party for few friends. She had before the Budget €100 to spend on, say, booze. Now she has €90. Her VAT, excise, import duties on €100 of spend would have been ca €66. Now she goes off to Northern Ireland with her €90. Does the Government lose €66? No. It also looses other (complimentary) goods shopping revenue. Say that the cost of party-related goods is €250 worth of purchases at 21% VAT, 10% duties. Total cost of a €10 generated by Lenihan in income tax levies is a loss of over €140 in revenue. Good job, Brian. Your overpaid economic policy advisers couldn't see this coming?

Notice investment figures in the table above? Other sources of GDP growth? Well, DofF did apply a haircut on its projections in January 2009 update, but these corrections are seriously optimistic on 2011-2013 tail of the estimates. This again warrants more conservative estimates.
Judging by the inflation figures estimates, the DofF believes that the era of today's low interest rates is simply a permanent feature of the next 5-year horizon. Again, this is too optimistic and should it change will imply much deeper economic slowdown in 2010-2013 period.

Now to the estimates Table below summarizes the estimated impact of the measures.
Per DofF estimates, the Exchequer deficit drops, post mini-Budget-1, by ca €2.7bn in 2009 or 2% of GDP. This is rather optimistic. In reality, this estimation is done on a simple linear basis, assuming no further deterioration in receipts and a linear 1-to-1 response in tax revenue to tax measures. This also assumes the macro-fundamentals as outlined in the Table 2 discussed earlier.

Now, building in some of my outlook on the budget side and GDP growth side, Table below reproduces DofF Table 5 and adds two scenarios (with assumptions listed): From the above table, we compute the General Government Deficit (the figure that is the main benchmark for fiscal performance) as in the following Table:
This speaks volumes. The Government promised in January 2009 the EU Commission to deliver 9.5% deficit in 2009. It has subsequently reneged on this commitment, producing an estimated Gen Gov Deficit of 10.75% today. However, stress-testing the DofF often unrealistic assumptions provides for the potential deficit of 12.5-13.0% for this year.

But there is a tricky question to be asked. Has Lenihan actually gone too far on the tax increases side? Note that the estimated gross impact of the overall budgetary measures is €3.3bn for the remaining 8 months of 2009, implying an annual effect of €4.95bn in fiscal re-balancing. This is ca 2.9% of GDP - a sizable chunk of the economy. From that figure, per Table 5 above, the implied net loss to the economy from the Government measure (estimated originally at -1% of GDP) should be closer to 1.5-1.7%. This in turn implies that instead of an 7.7% contraction in GDP, the DofF should have been using a 9.2-9.4% contraction. In today's note, Ulster Bank economics team provides a revised estimate of GDP fall for 2009 at 9.5% for exactly this reason.
Mr Lenihan and his advisers simply missed the point that if you take money out of people's pockets, you are cutting growth in the economy. Of course, our Ministers, their senior civil servants and advisers would not be expected to know this, given they lead such sheltered life of privilege.

If the above estimates were to reflect this adjustment, we have: 2009 GDP of €168.2bn;General Government Deficit of 11% for DofF estimates, and 12.7-13.25% for my scenarios. I will do more detailed analysis for 2010-2013 horizon in a separate post, but it is now clear that the Government has not achieved its main objective of an orderly fiscal consolidation to 9.25% deficit. Neither has it achieved an objective of supporting the economy through the downturn.

Conclusions
Today's Budget delivered a nuclear strike to the heart of the private sector economy in Ireland. It furthermore underscored the Government commitment to providing jobs and pay protection for public sector workers regardless of the cost to the rest of this economy. We are in the 1980s scenario facing years of run-away, unsustainably high public spending and no improvements in public sector productivity amidst severe contraction in demand and investment at home and from abroad.

Minister Lenihan has promised to go on a road show selling Ireland Inc. I wish him good luck and I wish his audiences a keen eye to see through the fog of demagoguery this Government has produced in place of sensible economic policies. If they do, their response to Mr Lenihan's approaches is likely to be "Thank you, Minister. We don't need to invest in the economy that taxes producers, savers and consumers to protect public sector waste. Thank you and good by."
From an investment case point of view - they will be right.

PS: As the first fall-out from the Budget, Moody's downgraded Irish banks (here)... More to come.

A Patent Lie: Ireland's Capital Investment Stimulus

In its April 2008 review of Ireland's economy, seen by the Government some 5 months prior to its publication, OECD has identified two salient medium term problems linked to the twin crises we are currently experiencing:

Reforming the taxation of housing. "...the unusually favourable tax treatment increases the role of housing in the economy and adds to volatility in the housing market. There should be a gradual move towards a more neutral system of housing taxation," said OECD. Thus, even assuming its ignorance prior to the OECD report, the Government had at least 15 months since to design a functioning system of either land-value or property taxation, there by reducing the impact of the house prices slowdown.

Public spending needs to slow. "Fiscal performance has been strong in recent years but revenue growth has moderated as the economy, particularly the housing market, has weakened. Public expenditure is set to slow but it is important to avoid locking-in expensive commitments, particularly on public sector pay. As spending rises more slowly, improving public services will have to rely more on undertaking further reforms to public sector management and getting better value for money." Once again, nothing has been done in over 15 months to address these recommendations.

Chart below - taken from the OECD report, illustrates the extent of the problem.
However, a closer examination of the components of the public expenditure in Ireland show even more dramatic failure by the Irish Governments to stop the gravy train of wasteful expenditure.

Consider the following chart plotting actual net current expenditure against capital expenditure, incorporating my own forecast for fiscal consolidation in 2009-2010 and DofF January 2009 forecasts for the same period.
Two features can be glimpsed from the chart:

1. Over the last decade, there has been a steady, unrelenting rise in the current expenditure - largely reflecting social welfare spending and the wage bill increases in the public service.
2. Even before the mini-Budget this month, our capital expenditure has peaked in 2008. Recall that Brian Cowen and Mary Coughlan are endlessly repeating that in 2009-2010 NDP-linked capital investments will act as a stimulus to the economy. Either they have not seen their own Government projections, or cannot comprehend the reality. During the recessionary 2009-2010, Ireland Inc is planning to spend decreasing net amounts of funds on capital programmes. If the Government can think of the NDP (created two years ago) as a recession-busting stimulus, then it has fired virtually all of its ammunition in 2008. And, of course, that has made no difference to the recession, as we all know.

But there are more sinister trends in the expenditure figures. The DofF does not provide a historical data set for budgetary dynamics over time. Instead, possibly to keep the taxpayers in the dark about the real nature of our spending, DofF produces a multitude of largely useless, technologically backward annual reports. A troll through these reveals the following.

Chart below shows the net current and capital expenditures as a percentage of GDP.
According to this chart, the economically unproductive spending which is largely absorbed into public sector wages and social welfare subsidies (our current expenditure):

• has grown virtually exponentially as a share of economy, whilst the capital investment programmes have bounced along a declining trend, and
• has far outstripped capital investment in terms of its role in the economy.

This blows apart Governments' arguments that since the beginning of this century Ireland Inc was aggressively investing in the productive capacity of its economy. Instead, it shows that we were 'investing' in wages, perks and working conditions of our public sector 'servants' and in welfare subsidies at the time of unprecedented growth in prosperity and low unemployment. First Bertie & Cowen and now Cowen & Lenihan have engaged in a classic tax-and-spend banquet where the already-stuffed were getting fatter and fatter on taxpayers cash.

Should you wonder how high were the rates of growth in current and capital expenditure over the last decade, chart below shows that in 2000-2009, even by DofF own (excessively optimistic) projections for this year, cumulative capital investment's importance in overall economy will decline by 39%. In contrast, cumulative current expenditure growth will reach +27%.In short, the above figures show that:

• Our leaders have deceived us about the importance of capital investment in the economy: between 2000 and 2009, capital expenditure share of GDP has actually fallen, while the current expenditure share of GDP has risen much faster than the GDP itself;
  
• Since 2000, our Governments have misled the public about the nature of Exchequer expenditure growth by stressing less rapidly expanding investment portion of the budget and downplaying a rampant expansion of payoffs to the public and social welfare sectors promoted by the Social Partners;
• Our current leadership is now deceiving the country and the markets by referring to a falling capital-spending programme as economic stimulus. That 'stimulus' applied to 2008 and not 2009-2010 and even in 2008 it was relatively small, compared to the current spending waste;
  
• Our Governments since at least 1999 have engaged in reckless and unsustainable increases in the current expenditure - in 2000-2009, current spending has grown in nominal terms by 138%, outstripping almost 2:1 the rate of growth in the nominal GDP (72%). Meanwhile capital expenditure has grown by 57% - over 2.5times slower than the current expenditure.
  

Mr Cowen and the rest of the Government should stop talking about Ireland's plans to invest in infrastructure and knowledge economy. They should come clean on the fact that their leadership has left the country with a current spending bill well beyond our means.

DofF (In)Stability Report

And so it goes - another weekend, another rushed report. This time around, the boffins in our Department of Finance have decided to give the nation a weekend to digest the infinite wisdom of their outlook for our economy: the Addendum to the Irish Stability Programme Update, January 2009 (link here).

And what a fine read it presents:

"The economic situation is changing rapidly," reveals the report. In case we have not noticed this at the ground level.

"The uncertainty surrounding economic forecasts in the current environment was highlighted in the October Stability Programme Update, and many of the risks identified at the time have subsequently materialised," the report continues. One can only assume they are talking about the risk of a -0.8% economic contraction in 2009, predicted by October edition. Just about the time when a majority of stock brokers and other analysts, including myself, forecast a -3% 2009 growth!

In a nutshell, the update delivers a new forecast for economy to contract by 4% (GDP) and 4.5% (GNP) in real terms in 2009. Mark this space - two-three months from now, justifying new round of tax increases, DofF will cut these to -5%. and -5.5-6% respectively.

"This would also mean a cumulative loss of output of around 6¼ per cent over the period 2008-2010," say our civil service porgnosists. But hold on, GNP contracting 4.5% in 2009 and "positive growth is expected in 2011, with a return to more sustainable growth thereafter."

This implies that 2008 and 2010 contractions in Ireland's real economy will total 1.75% in GNP terms (or 2.25% in GDP terms) net of compounding! Now, that is about as realistic as expecting Michael Dell to outsource all his manufacturing to Waterford Wedgewood.

Outside the planet Civil Service Boffins inhabit - i.e down here on earth - real income contractions are likely to take the following (conservative) route:

• GNP: 2008 -2.8%, 2009 -5.5%, 2010 -2.5%, 2011 flat. Cumulative damage for 2008-2010: 10.4%, not a derisory 6.25% DofF thought up.

Of course, DofF ignores simple compounding rules. Its figures for GDP growth imply a 6.2% compounded contraction (not 6.25%) over 2008-2010, while its GNP forecast yields an 8.2% fall in real income (output) over the same period of time. Where did they get that 6.25% number from?

DofF also ignores the fact that for people living in Ireland, GNP is what we actually produce and what our income relates to, when the transfer pricing by the multinationals is factored out. On this measure, losing 8.2% (DofF forecast) or 10.4% (my guess) of ones income and facing rising tax bills is a bleak prospect.

DofF predict unemployment to rise to 9.2% in 2009 and 10.5% in 2010. This is plausible, but only if one is to assume that net emigration from Ireland will swallow the difference of ca 1-2% of our labour force, annually, in 2009 and 2010.

Here is a quick summary of their outlook (Figure 8):
This is interesting for two reasons:

(1) In mid 2007 I argued in Business & Finance magazine that Ireland will not get close to the potential GDP growth rates of 4% (used by the DofF in their Budget 2008 assumptions) anytime in the near future. I estimated our post-crisis potential GDP growth to be around 2% (and I stick to this estimate).

(2) Notice 'contribution of total factor productivity' growth to potential GDP growth - even after the return of economic growth in 2011. DofF clearly does not foresee our great knowledge economy to contribute more to future growth than the sweat and brawn of pure labour and physical capital. For once, I agree with them. But here is a question - what is then to be made of our Building Ireland's Smart Economy rag published less than a month ago?

Well, let's move on. Here is another interesting piece of news from the Report:
Oh no, I did not make it up - they really are projecting an 9.5% General Government Deficit and that is after factoring in expected Government efforts to "improve the following year's base". I only hope this is not a sign of what our An Board Snip is preparing in cuts. But this does include (Additional Annual Adjustment line, AAA) the cumulative of July-December 2008 demands for spending cuts made by Minister Lenihan. And beyond 2009 it includes DofF wishful thinking that Mr Lenihan will be decisive and tough enough to actually wrestle these savings out of the dead cold hand of our civil service!

Last week the Government claimed that GGD for 2009 will be in the region of 6.5%, although some rumors were circling the media that it might be 'as high as 8%'. Few days later - we have a magic 9.5% number. Either things have gone totally pear-shape within the span of a couple of days, or DofF simply got it so wrong before, that it is now running over its ar*e for the hedge.

My humble view - 9.5% is a lower end estimate even with An Board Snip cuts into public spending factored in. Why? Because this Government has no guts to implement even a meager €440mln cuts demand (see below), let alone a lofty €2bn, so that AAA line is a wishful thinking for 2009, 2010 and 2011.

Now, suppose these AAA savings reach a more realistic €1bn in 2009, rising to €1.5bn in 2010 and falling to nil (per demands of our trade unions) in 2011. Where does this leave our GGD? In DofF model terms - 10% in 2009, 10.4% in 2010, 8.5% in 2011, 6.5% in 2012 and 4% in 2013. We, the taxpayers, will be paying for this open-ended waste for the next decade or so!

At this point, only a few, albeit still scary, things are left worth mentioning:

"The Government has set as a priority the elimination of the current budget deficit by 2013, that is to stop borrowing for day-to-day spending, and to bring the General Government deficit to below 3 per cent of GDP in that period." In other words, the Exchequer has no plans to bring its own appetite for our money under control any time soon. Is it 'elimination' of the deficit (in plain English a zero deficit), or is it a deficit below 3%? Such a loose use of the language by the budgetary authority is a sign of a deeply seated lack of confidence amongst our top leadership, including that in the civil service.

"Investment in capital projects to enhance Ireland’s productive capacity has been retained at a very high level, of the order of 5 per cent of GNP... given the extraordinary economic and financial circumstances impacting on all countries, including Ireland, this level of investment, which is now being totally funded from borrowings, will provide a significant fiscal stimulus in these difficult times." In other words, don't bet on any real fiscal stimulus - after all, recall that this 5% of GNP (not GDP) package is the same one we had since the passage of NDP two years ago! There is nothing new, nothing innovative, nothing more effective than offering a standard investment plan pre-announced two years before as a workhorse of the crisis resolution package!

"The Government took firm and immediate action on expenditure in mid-2008 to address the emerging spending pressures, securing some €440 million in savings in 2008." Now this truly surreal: 6 months after the crisis in public finances has reached noticeable proportions is hardly an 'immediate' action. Even the Government itself has admitted this much! As far as €440mln in savings being a 'firm action' - instead of savings, this government managed to get a spending over-run of €351mln by year end, missing its 'firm' target by almost €800mln!

Irish taxpayers don't need this belated and politically expedient drivel that borders on insulting to our intelligence at times. We simply want to hear the truth!

What if? - When the IMF knocks on neighbours' doors

In light of the IMF rescue packages for Latvia, Iceland and Hungary, it is worth looking at the conditions imposed under these loan contracts. While Ireland has not requested IMF assistance, yet, as probability of such a request rises (due to the deepening mismatch between Exchequer receipts and outlays), what austerity measures can the Irish Government count on should our rescue be structured along the lines similar to the above three states?

In answering this question (table below), I use the following comparatives:
(1) Current and forecast GDP and GDP per capita levels and growth rates;
(2) 2008 and 2009 budget deficits; and
(3) Relative extent of committed liabilities under various national rescue plans.

The estimates are presented under two scenarios for Ireland:

• 'Benign' scenario implying IMF/external funding of 10% of the 2008 GDP which will cover ca 30% of committed state liabilities for 2009; and
• 'Average' scenario consistent with 25% of GDP borrowing covering ca 75% of liabilities).

A third scenario - consistent with relative liabilities in line with those in Iceland would imply an improbable, but not an impossible demand for external funding of up to 58% of GDP. To err on the conservative side, I omit this scenario in the current post.

Finally, it is worth noting that I do not 'price-in'

• the effect of deeper economic contraction in Ireland than in some of the reference countries;
  
• the effects of higher public spending as a share of the domestic economy in this country relative to the reference countries; and
• factors relating to inflation differentials and currency adjustments (note that all countries in receipt of IMF loans have had significant currency devaluations, while Ireland had a significant currency appreciation).

Thus, these estimates should be viewed as lower bounds.


To date, the only sign of any 'austerity' measures coming from the Department of Finance is a vague rumor that Brian Cowen is looking for a 5% wage bill cut in the public sector. Whether or not this figure is gross of the wage increases granted in the latest Partnership agreement is a moot point, given the austerity measures of 15-20% estimated above.

Ireland's Debt Mountain(s)

The latest CSO data merely confirms what we have known all along: Ireland is now by far the leading country when it comes to overall external debt held by its corporates, consumers and the Government. Our gross external debt has risen precipitously since the onset of the latest crisis from €1.537 trillion on January 1, 2008 to €1.671 trillion as of September 30, 2008. Some €21bn of this increase is accounted for by the State borrowing its way out of the need to reduce the runaway train of public spending. Roughly €25.3 bn came from the Monetary Authority.

Most worrisome were the increases of roughly €45 bn in the liabilities of the Other Sectors. This line of liabilities (up 4.13% between Q2 and Q3 2008) should have been rising at a much slower pace than the Gross External Debt (up 3.16%) if the households and firms were actually de-leveraging. Alas, this is not the case, suggesting that declines in households' incomes and corporate revenues are forcing the real side of Irish economy deeper into debt-dependency. This will have two implications on 2009 economic environment in Ireland:
(1) 2008 consumers' strike - leading to a precipitous collapse in retail sales - will continue as Irish households attempt to play catching up with de-leveraging that is well underway in the US and UK;
(2) Income tax hikes and VAT rates increases passed in the Budget 2009 will further exacerbate excessive debt burden problems, leading to slower, more painful de-leveraging of corporate and household balancesheets and prolonging the current crisis.