Ray MacSharry could teach Brian Lenihan how to curb spending and boost productivity, writes Paul Tansey
THIS IS the toughest time in two decades to take over as Minister for Finance. The public finances have fallen deeply into the red while the economy is stalling. Not since the days of Ray MacSharry has an incoming finance minister been assailed by such an array of financial and economic problems.
Brian Lenihan will have to hit the ground running if he is to shore up the public finances. Over the past two years, the Government has been spending as if there were no tomorrow. Current public spending budgets for 2008 are 22 per cent above 2006 levels; public capital spending has climbed by 35 per cent in the same period.
The problem is that the growth in tax revenues has not been within shouting distance of the increases in public spending. With the housing slowdown applying the brakes to revenue growth in 2007, the tax take increased by a disappointing 3.8 per cent. Budget 2008 expected a modest 3.5 per cent increase in tax receipts.
But after the first four months of this year, tax revenues are €736 million or 5.3 per cent behind the modest targets set for 2008 and 6.5 per cent below the amount of tax gathered in the same period of 2007.
As a result, the Exchequer's financial position has swung from a surplus of €2.3 billion, 1.5 per cent of Gross National Product (GNP), in 2006 to a prospective deficit of at least €5.5 billion, or 3.3 per cent of GNP, this year.
Now for the hard part. In the absence of remedial action, the Exchequer is faced with a further substantial deterioration in its deficit in 2009. In its Spring Quarterly Economic Commentary, the Economic and Social Research Institute forecast that the deficit would swell to €7.5 billion or 4.3 per cent of GNP next year.
Given anaemic tax revenue growth, the new Minister is faced with only two choices in seeking to contain the growth in the Exchequer deficit during 2009.
Lenihan can take the easy way out and cut capital spending under the National Development Programme (NDP) 2007-2013. This would minimise the political fallout from expenditure cutbacks but at the expense of limiting the economy's long-run growth potential. Cutting back on the key elements of the NDP would be tantamount to eating the seed corn.
Alternatively, the new Minister can face the problem directly at its source and begin the overdue process of curbing the growth of day-to-day public spending, but this will prove very difficult given public dissatisfaction with existing public services. Moreover, already smarting from a perceived setback on benchmarking, public service unions will seek serious public service pay rises, within or without the pay talks. Public service pay accounts for 30 per cent of all government day-to-day spending.
The decisions the new Minister makes on shaping government spending plans for 2009 and after are not merely arcane accounting exercises. They have real and substantial economic consequences.
Domestic and external factors have conspired to bring economic growth to a virtual standstill. Nor is a rebound around the corner. The Department of Finance, in its presentation to the social partners last week, forecast that it would be 2010 before the economy returned to its trend growth rate.
Lenihan can do little to change the economy's course in the short term. He cannot devalue the currency, as in 1986 and 1993, to restore competitiveness to the exporting sector. He cannot spend his way out of a global economic downturn; the last such attempt, in 1979-1982, caused an economic collapse. He cannot re-engineer a domestic boom, for the money is spent and the houses are built.
However, this is not a counsel of despair. The new Minister can make two vital contributions.
First, he can improve the economy's scope for future growth. Faster productivity growth is the key to ensuring economic and social progress. Improving the physical infrastructure and enhancing the education, skills and entrepreneurial flair of the people are the two surest ways of guaranteeing quicker productivity growth. Raising the pace of productivity growth requires broad adherence to the capital spending commitments already set out in the NDP for the years to 2013.
Second, he can stabilise the public finances, thus ensuring that Ireland's policy credibility remains unimpaired in the eyes of foreign investors. It is too often forgotten that foreign direct investment was the engine of the Irish boom.
In preparing to curb the growth of current government spending, he may find some consolation in the words of his predecessor, Ray MacSharry, who took up the reins in Finance in the much darker days of 1987. "As a result of my rigidity, stubbornness and, indeed predictability, my job became much easier after the first year," MacSharry wrote in 2000.
"Everyone then said, 'you're wasting your time going to MacSharry. He'll just say no.'"