OPINION:Post-Celtic Tiger, our economic position will undergo another transformation. Peter Sutherland maps out the route that took us here and where we need to go
Ireland's membership of the EU is undoubtedly the most important reason for our economic success in recent times. This, the removal of borders and the removal of a bilateral dependence on the United Kingdom in terms of access to markets were central to the success in recent years.
Between 1973 and 1990, Ireland made very little impact on reducing the gap between the average GDP per capita and the European Community average. It reduced a little bit, but very little relative to what has happened since. Ireland only rose from 64 per cent of the EU average at the time of accession in 1973 to 76 per cent in 1990 and even this figure looks better than it should because Greece, Spain and Portugal had all joined in the interval.
I don't think our incomes had markedly changed, notwithstanding the fact that we'd been the beneficiary of relatively significant sums of money under the Structural Funds.
We largely wasted these funds. Much of them were spent on social programmes and training programmes, which were of limited real value. In my opinion, the money could have provided the infrastructure which we still notably lack. In contrast, other countries, such as Spain and Portugal, used EU Structural Funds effectively for the development of their infrastructure.
The failure of Ireland during that period from 1973 to around 1990 is a significant factor when you look at the alleged causes for our subsequent success. Some of those alleged causes for that success existed during the period - for example, the allegedly superior educational system (although I do not accept it is superior, in the way in which many describe).
The great paradox of our economic success was our acceptance of the economic rigour which was imposed on us by our decision to join the single currency, at a time when we had huge structural deficits in the economy, massive unemployment and a violent situation in Northern Ireland.
It was almost incredible that we were prepared to take the risks that went with joining a currency that demanded very strict discipline in terms of expenditure.
In the period up to 1986 the economy was very badly strapped. We had huge debt-to-GDP ratios - completely out of control - and we'd high unemployment. We were unable to throw money at any issues because we did not have money during the 1990s. Keynesian approaches could not be used.
Therefore we had to allow the functioning of the market to actually work. I think we did that. The fiscal consolidation in 1987 engineered by the Fianna Fáil government, but with the crucial support of Fine Gael led by Alan Dukes, was vital. The budget deficit fell from 11 per cent of GDP in 1986 to below 3 per cent of GDP by 1989. Economic growth picked up from -0.5 per cent in 1986 to 6 per cent in 1989.
Our GDP per capita was distorted in the period up to the 1990s, because we had a much higher dependency ratio and a much lower labour participation rate - by women in particular.
When our dependency ratio dropped (because there were fewer young children, because of birth control and a number of other factors) this increased the GDP per capita. We had more people working and it removed this distortion in our GDP per capita because we had fewer dependants. This was a significant issue.
I think that by far the two most important issues in terms of our relative growth in the intervening period have been the reduction in corporation tax and inward investment. Foreign direct investment (FDI) has been the crucial element in causing significant growth in our economy.
I have no doubt that foreign direct investment would not have happened without the lower corporation tax rate. It was the vital cause of inward investment and is a better way to attract companies than subsidies. This is because low corporate tax is useful only if you are profitable, but a subsidy can make a bad investment look good.
To me, FDI has been the key to our success and that investment has in turn been the result of the corporation tax rate, combined with three other factors: we are English speaking; our education system is reasonably good; and we were in the eurozone and the British were not.
I also think that the IDA have sold that third point rather well. There is no threat of a currency fluctuation with the euro. Our attitude to Europe was more positive and we were seen as not being "semi-detached", whereas Britain is not a member of Schengen (we are not either, but it is because of them); it's not a member of the eurozone; and it's not constructively engaging in the European process.
On the development of the International Financial Services Centre (IFSC) in Dublin, I was in charge of competition policy when the Irish Government, led by Charles Haughey, applied for a derogation to allow the IFSC to exist in 1987-8.
The EU's state-aid regime has always been one which only allowed tax reductions for either industry-specific areas, such as financial services, or sub-regional areas.
I was able to give permission for the IFSC because at that time our GDP per capita was less than 75 per cent of the EU average and our unemployment rate at 16.3 per cent was significantly higher than the EU average. There was also the fact that it was going to be removed ultimately because it was a time-related permission.
By the time the IFSC renewal came up, everything had changed - GDP per capita had risen substantially and unemployment was down. This drove the need for a rethink on company taxation. It was recognised that the only way we would satisfy the EU was by having a general tax rate of 12.5 per cent for all companies, in all sectors. We were either going to lose the derogation for the Financial Services Centre or Shannon. So the Rainbow government decided to change it by reducing the rate to 12.5 per cent. I think that is very important.
Inward investors would say they never would have come here except for the low tax. And if they had not come, our indigenous industry sector development would have been poor. We did not seem to have an innovative and entrepreneurial indigenous sector. We have one now, but it is only beginning to grow.
The difference between this low rate and earlier ones was that the world had changed in the interim.
The process of globalisation moved into a much more advanced stage in the early 1990s. We had the collapse of the Iron Curtain and the creation of, in theory, a single global economic model. State socialism was destroyed as a model - it could not work - and borders were beginning to fall.
The creation of the World Trade Organisation (WTO) led to a new environment and a new attitude to FDI by most governments and all multinational companies. Everybody was locating outside their national markets in a way that they had never envisaged before.
The third element and probably most important reason for our recent economic growth was the success of the 1992 project in the European Union. The first Delors Commission made the completion of the internal market its major project.
Up to then, the customs union and the lack of controls on state aids created a situation where, if a US company wanted to locate in Europe, it was going to be influenced by, firstly, major hand-outs from countries such as France and, secondly, major impediments to get into that market.
Between 1973 and 1985, the EU had largely been in paralysis. The Exchange Rate Mechanism (ERM) had been created, but virtually nothing else. "Eurosclerosis" and "paralysis" were the descriptions for the European economy in the early 1980s. It was that Commission, between 1985 and 1989, which created the 1992 project and drove the opening up of markets. That created an entirely new dynamic for foreign direct investment in Ireland. Suddenly, Ireland became as good a location for access to the French market as was France. Indeed, it was probably better because there was less company tax and it was a less regulated environment from the point of view of labour-market flexibility. Plus there were a lot of young people wanting to work.
On the role played by Ireland's allegedly superior education system, I will first discuss our young people and families. The success of our young people is more a reflection of innate capacities and attitudes of our young people and parents than it is of our education system. The Irish are naturally good communicators. We present well.
In addition, we do not feel - as they do in Britain - the effects of a class system, the effects of which still exist. There is a basic sense, in the vast bulk of Irish society, that there is not a ceiling that stops you or inhibits you because of who your parents were. There is a very positive attitude towards education and advancement. I have seen in BP, Goldman Sachs and elsewhere how attractive Irish young people are as candidates for jobs, but I do not think that attraction and capacity is related to a superiority in education.
An OECD report into third-level education in Ireland, which was published in 2006, and a Royal Irish Academy report on the same subject show that we are significantly below the European average of the percentage of people who are in PhD-level study in the area of technical capacity. Compared to the Swedes, Finns and the Nordics generally, we have less than one-third (as I recall) of the percentage of people at that level of education.
If we are to maintain our successful momentum, we have to have a competitive advantage somewhere. We do not have it in terms of costs any more, nor in terms of indigenous natural wealth, so we have to develop it through skills and brain power. I don't think we have achieved that. While the statistical base for the analysis of comparative advantage between universities is not perfect, in such listings as there are, for example by Shanghai University, Ireland does not feature in the top ranks of universities. There is only one Irish university, Trinity College Dublin, in the top 200 in the world.
The teaching of science in schools is also a problem. Most science teachers are essentially biology teachers, rather than other areas of science. Also, Ireland's university pupil/teacher ratios are not good.
The universities do the best that they can with inadequate resources. This is not a great success and we clearly need a fee structure now where loans can be obtained by students to be repaid and assistance is given to the poorest. In relation to teaching at second level, there is also a serious problem. Teachers should be admired and properly paid, but they should also be measured in performance and those who are seriously deficient cannot be protected for life. If there was one single reform for the Irish economic system it would be to get our teaching right, because it truly needs objective testing with appropriate responses then taken.
I disagree with the whole theory that you should not permit selection on testing of intellect to enter certain schools. In London, St Paul's, Westminster and the other top day schools have a system which produces very good students because the classes contain similar levels of ability. Some other points I would make on the negative side are from the most recent World Economic Forum competitiveness report. First, in terms of government waste (measured by expenditure), Ireland ranks number 55. This is an appalling statistic. Secondly, in terms of infrastructure, we are around 46th, which few would deny.
A third big negative that I have about the Irish economy is that our civil service hasn't performed well in some vital areas - there has not been the necessary and desirable accountability in public projects. Our health system is an example of such poor performance and so too are our education and our transport systems.
On the other hand, I think that the Department of Finance has performed well on the fiscal side of things and I give a lot of credit to Charlie McCreevy. He drove a coach-and-four through a whole lot of paralytic, conservative thinking about how the economy should develop.
On the internal market, we have been consistently slow in introducing competition. The Electricity Supply Board (ESB) is a classic example of such failure. State enterprises in Ireland have had to be dragged towards any degree of competition. The internal market was not only useful externally, but also useful internally.
Otherwise, we would probably still have Telecom Éireann as a state monopoly, as we have the ESB. The result of the lack of competition probably affects the cost of electricity, which is too high, and it has also led to some allegedly scandalous situations involving people being paid for doing little or nothing.
Social partnership, to me, is a good thing. However, if, through a lack of clear thinking by the social partners, it results in the escalation of costs that makes us uncompetitive, then there is a problem with it.
In principle, social partnership is a very good idea.
In various periods it has had a very constructive effect on our performance. However, I think we are on the verge of a very cataclysmic situation. There is a danger that much of the foreign direct investment will depart if the Irish cost base remains too high. It is too high today. If that is the consequence of centralised bargaining and, above all, the failure of the government to restrain public sector spending and employment, then it could lead to disinvestment.
Public sector pay is probably relatively high here. The per capita number of civil servants that we have, relative to total population, is probably also very high and so are the costs in this area. We need real benchmarking on these issues with published information giving everyone the facts.
Our costs have very real risks for the economy. If we get a series of information technology companies, or one big one, pulling out then, just like there was a wave that came in, a wave will go out. I'm terribly worried because perhaps we do not have an adequate base of embedded industry which is sufficient to deal with such a situation.We need to: keep this foreign direct investment here for a significant period of time; attract the research for the existing companies; and entice the management of the companies to gradually become more indigenous than their headquarters elsewhere.
My instinct is that our cost competitiveness is now a real problem. Further, in the absence of inward migration flows, the Irish cost situation would be even worse. Prices here are 17 per cent above the average in the EU15.
On the importance of industrial policy and the IDA, I believe a great deal of the thinking on it was put together by Michael Killeen and Ray McLoughlin in the early days. I think the IDA is the great success of the state agencies - a wonderful success story. The ability to attract industry has been phenomenal. It deserves a great deal of credit. The difficulty of industrial policy is to define it.
Tax is part of it, but what else is? One of the important things this Government is doing for the long-term benefit of our economy is investment in pure research. International scientists and others are impressed by our research programme, where a lot of money is being invested.
Another great initiative that we have undertaken is to set up the National Treasury Management Agency. It is doing a great job in spite of the negative attitudes in some quarters of the traditional civil service.
We really need a sophisticated analytical capacity within the civil service in the area of economics. Further, it sometimes appears as if the top civil servants are afraid to stand up to poor, short-term decision-making by Government ministers which may cost the taxpayer dearly.
On innovation, there are statistics now that are much better than they used to be, which apparently demonstrate that we are producing more new ideas.
I think that the evidence on patent applications, as well as new business start-ups, is reasonably good. It may be indicative of the recent economic success.We used to be terrible at business start-ups. Confidence is what is now coming across to me. Irish people are prepared to go into a room and do battle and argue almost any issue. I may be wrong in taking this away from the education system, but it is more the family, the thinking, the sense that Ireland is doing well, and patriotic self-confidence.
I don't think we are conscious of the fact that the low corporation tax advantage could be under threat. It could also be under threat in a more fundamental way. On the one side, there is the possibility of the US changing its laws; but on the other side, if the British turned on this issue and decided that they were in favour of tax harmonisation in Europe rather than being opposed to it, this would increase the pressure.
There is a lot of talk in the City of London of companies migrating over here, bringing a lot of investment into the Financial Services Centre. So you can't rely on this forever, but at the end of the day it's a cost situation. One is back to costs again.
I think the Celtic Tiger period has been truly amazing. As to the turnaround beginning in 1987, I think it was a necessary precursor to the turnaround, but I think the turnaround itself came in the 1990s.
It was the conclusion of the 1992 programme which had the most profound effect of all. It changed attitudes everywhere and it was combined with the creation of the WTO.
This created a positive attitude towards globalisation and, therefore, towards investment, across borders more generally, permeating the US industrial psyche and that of everybody else. It was all that opening up which created a new dynamic which was very important and advantageous to Ireland.
Migration is now a new challenge. It is also a difficult issue to handle as we can see from experience elsewhere in Europe. If Ireland is to have a 5 per cent growth rate over the next few years, we will require a huge number of additional migrants coming into this country. The inward migration figures in the last eight years for Ireland and Spain are unique in Europe. Such migration can ultimately lead to issues unless carefully handled. We have only just begun to grapple with it in the sense that we still have no holistic policy approach to it. Over 10 per cent of our workforce are non-Irish today and if the growth rates were to continue as they are, we are going to find that escalating at a very remarkable pace over the next five or six years. It is hard to see how, with strong growth, it can be stopped. Nor should it be from a moral point of view.
Also we have got free movement within the EU and it's a relevant part of what the EU is. So we have to grapple with issues like the arguments for assimilation as opposed to multiculturalism, and so on. We have not even begun to think in depth about these issues. While I am not as optimistic about the future as some, nor am I apocalyptic. I think we have very real challenges here in terms of our cost structure and our over-dependence on the construction sector.
We have a number of significant hiccups in sight. I don't say we are going to revert to being what we were in the 1980s and I accept to an extent that we have reached another level, from which it is unlikely that we are going to fall off.
So I'm now somewhere in between, in terms of being an optimist and a pessimist. I'm worried about the present situation and I just hope we can handle it, but this requires hard decisions and we have not been good historically in taking hard decisions.
Bodies such as the Competitiveness Council are vital to this. We need a rational, reasonable debate with both sides of the social partners and everyone else, reaching rational decisions. If we can do that it makes our social partnership the crucial thing for the future - if we can reach consensus on reasonable policies and reasonable politics that does not lead to capitulation on any vested interests.
PETER SUTHERLANDis chairman of BP and Goldman Sachs International. He was the founding director general of the World Trade Organisation (WTO)and had previously been director general of the General Agreement on Tariffs and Trade (GATT). He was chairman of AIB from 1989 to 1993. A barrister, he was attorney general of Ireland and thus a member of the Irish government. He was a member of the European Commission in charge of competition policy. He is on the board of the Royal Bank of Scotland Group and is associated with the World Economic Forum, World Trade Organisation, the Bilderberg Group, the Trilateral Commission and the European Round Table of Industrialists. He is European chairman of the Trilateral Commission. He has an honorary knighthood, and is the UN Special Representative for Immigration.
About the book
Author PAUL SWEENEY is economic advisor to the Irish Congress of Trade Unions, one of the social partners. He has written extensively on Irish economics and business. His books include Selling Out: Privatisation in Ireland and The Celtic Tiger: Ireland's Continuing Economic Miracle.
