THE GOVERNOR of the Central Bank, Dr Patrick Honohan, said yesterday that Irish people will have to pay more tax to help fill the gap in the public finances.
“On the tax situation, I fully agree with [EU economics commissioner] Olli Rehn,” Dr Honohan told an audience of bankers at the International Institute of Finance in Washington.
He had just explained that the tax-to-GDP ratio in Ireland must increase. “There is no credible way of correcting the public finances that doesn’t require a higher tax ratio,” he said.
However, he believed people jumped too quickly to the conclusion that Mr Rehn advocates higher corporate tax in Ireland.
“I think such a policy is very far from being present,” Dr Honohan said. “The Government have made their position on corporation profits tax very clear. There were some newspaper headlines to that effect. I didn’t see Mr Rehn encouraging those newspaper headlines, and I don’t see any indication from the Government that they want to do anything at all about corporation profit tax rates, which they see as an anchor of industrial policy.”
Dr Honohan began his lecture by promising to explain: “Why did the Irish banks lose so much money? How much money did they lose? And where next for Irish public finances?” He said the story was “a simple and classic one” which “intersects with the global financial crisis, but only in spots”.
The easy availability of funding and “fashionable light-touch regulation” contributed, but in Ireland, unlike the US, there was “nothing of the complexity of financial innovation, no acquisition of mortgage-related derivatives”.
In Ireland’s case, “the combination of the rapid, but solid and sustainable convergence to full employment and high income in the 1990s – that period known as the Celtic Tiger – and the low interest rates promised by euro membership was the basis of the myth, of the half-truth, which triggered the Irish bubble,” he said.
Starting at an index of 100 in 1990, housing prices in Ireland rose to 350 in 2006, Dr Honohan said. “This is the biggest property boom in any significant market.”
Development property has since collapsed by well over 50 per cent, he said. “Some attractive development land will now revert to farmland with a negligible value relative to the loan made.”
During the property boom, 13 per cent of the Irish work force was involved in construction, twice the percentage before the boom. “Now, of course, it has collapsed,” Dr Honohan said. “The banks just imported funds on a large, large scale.”
The governor faulted regulators for not paying more attention to the Irish banks’ reliance on foreign funding, which rose from about 10 per cent of GDP to more than 60 per cent of GDP. “That’s where the money came from to build all those houses and employ all those people,” he said.
Dr Honohan explained that the first estimate of €22 billion for the bank bailout last March was based only on losses sustained by the 10 biggest portfolios taken over by the asset management agency Nama. It subsequently became clear that smaller, non-Nama loans were worse.
“The loan losses experienced were enough to wipe out essentially all the capital of four of six locally controlled banks. The net capital injections by the Irish Government are expected to total about €45 billion,” he said. Some of that, however, “should certainly be treated as an investment”.
Ireland’s debt to GDP ration has increased by 75 per cent since 2007, only in part because of the banking crisis. Over-reliance on stamp duty and construction-related taxes, high government spending and increased social spending necessitated by the crisis all played a part.
Last April’s sovereign debt crisis in Greece exacted a high price on Ireland, in the form of higher yields for Irish government bonds. “Only when these spreads return to more normal levels can the economy be expected to experience a strong and sustained recovery,” Dr Honohan said.
He ended on an optimistic note: “With positive growth at last in sight for 2011 and the banking costs accounted for, the managed reprogramming of fiscal measures will be rewarded by a convincing contraction of the deficit, followed by a peaking of the debt to GDP ratio. The confidence generated by this policy will lower sovereign yields, ease financing conditions and boost international investor and consumer confidence.”
