OPINION: Government policy must focus on developing the service exports and advanced manufacturing sectors
IN HIS analysis of Ireland’s current dire economic problems (Government must detail real plan to take us out of crisis – Opinion and Analysis, January 12th), John Fitzgerald of the Economic and Social Research Institute suggests that Ireland has two options for enhancing its competitiveness relative to our trading partners – a pay freeze or a reduction in nominal wages.
There is, of course, a third option, which is to increase productivity in Ireland’s export sectors relative to our competitors.
Placing the emphasis on pay reductions as a key to export competitiveness, which is the standard formula among Irish economists, is wrong-headed for three reasons.
Firstly, a policy of pursuing competitiveness through wage reductions inevitably means low living standards. Those who advocate such a policy never explain why the most competitive economies in the world are the ones with the highest pay levels and living standards. This is because their high productivity more than compensates for their high wage costs. This is the road Ireland must pursue.
Secondly, even if Ireland were to attempt a policy of competing through lower wages, it simply wouldn’t work. The recent decline in Ireland’s industrial exports has been mainly concentrated in the electronics sector.
This is largely due to the emergence of China as a major low-cost producer in this sector. China’s share of world exports of office and telecommunications equipment doubled to 23 per cent in the five years up to 2007.
There is no way Ireland can compete with Chinese wage rates (or east European rates, for that matter) – it is time to move on.
Thirdly, modest wage reductions of the kind proposed by John Fitzgerald would have little impact on the cost structure of export industries, simply because wages are not a substantial proportion of this cost structure in the first place.
According to Forfás data, payroll costs accounted for just 11 per cent of the total costs of foreign manufacturing firms (which produce over 90 per cent of industrial exports) in 2007.
The reduction of five per cent in nominal wage costs proposed by Fitzgerald, which he suggests would “greatly benefit” firms in the export sector, would in fact only reduce their total costs by about half of one per cent.
Nor would a general reduction in costs elsewhere in the economy matter much to the export sector, since foreign manufacturing firms only source 16 per cent of their requirements of materials and services within Ireland.
In any case, the commonly-held idea that Ireland has experienced a general loss of export competitiveness across the board does not stand up to scrutiny.
In manufacturing, export performance has varied considerably across sectors, with some doing poorly (electronics), some just about holding their own (pharmaceuticals) and some doing reasonably well (food and beverages, perfumes and toiletries, and photographic and optical goods). This suggests that export performance is a matter of more than general wage costs.
Overall, productivity rose faster than wages in Irish industry over the last five years. Ireland’s main problem on the export front, apart from the emergence of China in electronics, has been the rise in value of the euro, which Ireland cannot control.
However, even this has not stifled the spectacular growth of Irish service exports, which are frequently overlooked in analyses of Ireland’s trade competitiveness.
Service exports (financial services, software, administration, research and development) have grown more than fivefold over the last decade and now account for 45 per cent of total exports.
Ireland’s share of world exports of services (other than transport and tourism) has risen from two per cent in 2003 to almost five per cent in 2007 – a phenomenal proportion for a country of Ireland’s size. This is a labour-intensive sector in which wage costs clearly have not restricted export growth.
Ireland’s current economic problems are entirely attributable to the collapse of the construction bubble and difficulties in the financial system which are themselves strongly linked to this collapse. While the international recession may impact negatively on the export sector, attempts to counteract this through pay cuts are unlikely to have any effect.
Ireland’s future economic growth will depend on the attraction or internal development of high-productivity, knowledge-based, activities in services and advanced manufacturing. This has to be the prime focus of government policy, even through the current crisis.
On July 4th last, The Irish Times published an article by Paul Rellis, general manager of Microsoft Ireland and president of the American Chamber of Commerce in Ireland. Accepting that Ireland is, and will remain, a high-cost economy, Rellis wrote that: “We need to add value faster than we add costs . . . faster productivity growth provides the clearest route to higher living standards in the future – the time is now appropriate to design and implement clear and co-ordinated policies that will quicken productivity growth in the years ahead.”
Such lucid advice offers a far superior signpost to where Ireland needs to go than misguided mantras emanating from the economics profession.
Proinnsias Breathnach is senior lecturer in economic geography at NUI Maynooth