FF faces spectre of a boom-to-bust economic legacy

INSIDE POLITICSCowen needs to forget opinion polls and take the tough measures required to get the economy back on track, writes Stephen Collins

THE SUPREME challenge facing the Government, and the one on which it will ultimately be judged, is its capacity to deal with the rapidly deteriorating economy. The constant complaint from the Taoiseach and his Ministers about people talking the economy down is futile and even counterproductive. The mantra only suggests they don't know what to do in the face of the biggest economic crisis to hit the country since the 1980s.

Brian Cowen has protested that Ireland is in a much better position to weather the storm than it was in the 1980s and he is right. But what is urgently required is clear and decisive action to prune public spending and restore some confidence to a very rattled financial sector. If that doesn't happen, then the downturn will inevitably turn into a full-blown crisis that, while it may not be the same as the 1980s, could be equally damaging.

For a start, the Taoiseach and his Ministers need to admit to themselves, if not to their opponents, that much of the problem is home grown and that they made a serious mistake over the past few years by placing so much reliance on the construction boom to fuel the economy. It didn't take a genius to know that it would inevitably end in tears but repeated warnings were ignored and critics denounced for the sin of "talking down the economy".

It wasn't just the Fine Gael finance spokesman, Richard Bruton, who maintained in budget speech after budget speech that the strategy of relying on construction to underpin economic growth was dangerously flawed. Two years ago the International Monetary Fund warned that the economy had become "seriously imbalanced" because of the heavy reliance on the property sector and the rapid rise in personal debt. The IMF pointed out that economic activity had become too dependent on the building industry and presciently suggested an "abrupt correction" to the property market could not be ruled out.

The warning was ignored going into election year of 2007. Understandably, Cowen did not adopt the IMF proposal that a property tax was required to cool the market, but he also declined to follow the more modest proposal from the IMF that he should phase out property-based tax incentives schemes. What was truly remarkable, though, was that even with the election in the bag and Fianna Fáil back in power, no effort was made to prepare for the end of the property boom.

What put the tin hat on it was the fact that the property slump here coincided with an international downturn and a crisis in the banking sector worldwide. The upshot has been that Ireland has been hit far harder than most other developed countries. Tax revenues have slumped, unemployment is rising steeply and the Irish banking system has been plunged into a serious crisis, with the two main banks losing almost two-thirds of their value in a little over a year.

The first thing Cowen and his colleagues need to do is to forget about electoral politics and take whatever action is required to get the economy back on track, regardless of popularity or opinion polls. The Taoiseach is fortunate that the next election is up to four years away so that gives him plenty of room for political manoeuvre.

The Cabinet will meet on Tuesday to finalise its response to the €3 billion slump in tax revenues. This is mainly due to a shortfall in capital gains tax and stamp duty arising from the property downturn and a big reduction in VAT receipts as a result of the slowdown in consumer spending.

The main thrust of the Government's response will be to treble planned borrowing close to the threshold of 3 per cent of GDP allowed under EU rules. That will not be enough to meet the shortfall, so an extra €500 million in savings will have to be found.

There are problems with both prongs of the Government's approach. If borrowing is ratcheted up to the limit this year, what will happen next year if conditions worsen? There is a good case to be made for borrowing more than the Maastricht guidelines given our low overhanging debt, but the EU Commission may not be inclined to indulge us.

In any event, the imposition of the EU guidelines has been good for this country and was one of the main factors in dragging us out of the mire of the debt-ridden 1980s. There is a strong argument against slipping back down the road of excessive borrowing and instead getting to grips with public spending.

Finding savings of €500 million in spending for the rest of the year is not going to be easy either. Much of it will probably come through deferring programmes or commitments that have not already started but that will mean kicking the problem into next year's accounts. If the slowdown in tax revenues and the rise in unemployment continues next year, then much more severe spending cuts will be required next year.

Minister for Finance Brian Lenihan will outline the Government's approach to the Dáil next week after the Cabinet meeting on Tuesday. Ministers will then address the implications for their own departments.

If the current crisis poses a real test of the Government's mettle, it is also a test of how serious the Opposition parties are about their responsibilities. Pointing out the Government's past failures is the easy part; coming up with a coherent and credible response is more difficult. While Fine Gael and Labour were understandably having none of it when Brian Cowen asked them in the Dáil to propose detailed spending cuts, they will have to do more than criticise whatever strategy the Government adopts.

Fine Gael's document Recovery Through Reform sought to address the issue in a positive fashion. Richard Bruton spelled out the overall approach his party would take and itemised a number of areas where savings could be made without going into detail about the precise cuts required in public spending. Labour's approach has been to insist that cuts should not hit the most vulnerable in society.

It is the Government's responsibility to deal with the mess. It took credit for the boom and will have to take responsibility for the bust, if that's what happens. The worst certainly need not happen if tough decisions are made and courageous leadership given.