By Donal Donovan and Antoin E. Murphy
Oxford University Press
Published July 2013
Reviewed by John Bruton
I have long been waiting for an honest and dispassionate analysis of how the Irish economy, which had been growing rapidly since 1994, was transformed into a deflated bubble in 2008. It is a subject of more than mere academic interest to me.
From 1981 to 1987, when Ireland last experienced an economic downturn, I twice held the office of Minister for Finance. At that time, the problems Ireland faced were those of unemployment, inflation, high international interest rates and high government debt.
Since 2008, the problem Ireland faces is similar in some respects, but different in others. While the average Irish family is still considerably better off than it was in the 1980s, international interest rates are much lower, and inflation is not an issue - the new problem is one of huge private debts owed by Irish families and businesses, on top of even bigger government debts than in the 1980s.
In “The Fall of the Celtic Tiger,” Donal Donovan, a former World Bank economist, and Antoin E. Murphy, an economic historian, give a totally convincing account of how today’s problem came about. In its pages, they chronicle how solid, sustainable growth from 1994 to 2000, based on real improvements in Irish market competitiveness, along with increased investment, was transformed into artificial growth, based on unsustainable borrowing- and spending decisions by Irish families, Irish businesses and Irish governments.
As a result of cheap credit, and rapidly rising property prices, Ireland experienced a property bubble between 2000 and 2007. This bubble led to such a radical distortion of its economic structures, and to such an increase in debt, that full recovery will take 20 years.
The cheap credit was available because of decisions made by the U.S. Federal Reserve and by European Central Bank (ECB). Both favoured low interest rates. They did so to avoid dislocations to the economy that might have arisen from the dot-com burst, 9/11, and the costs of German reunification. In these goals, they succeeded. But the extra credit found its way across national boundaries into housing markets in various countries, causing a bubble in prices, most notably in Ireland. In 2008, the bubbles burst.
(Right: A computer chip. Information technology related businesses played a large role in the Celtic Tiger - photo by Andrew Dunn.)
The bubble distorted the Irish economy in ways that will take years to repair. There was a doubling in the size of the construction sector, large and uncompetitive pay increases across the economy, and rapid increases in numbers of people employed in the public sector. The money flowing in, temporarily, to government coffers, made it hard to resist demands to permanently increase the size of the government sector.
In just five years, from 2001 to 2006, the share of the Irish workforce in the public sector reached 29 percent, as against 19 percent in Germany. The numbers in top grade positions in the civil service grew by 86 percent.
The numbers employed in the (mainly government-run) Irish health sector grew by 20,000 or 25 percent. By 2009, nurses’ salaries in Ireland were the third highest in the Organization for Economic Co-operation and Development, and Ireland was spending more on pharmaceuticals per person than any OECD country, except the United States, Canada and Greece.
Rates of social welfare benefits, paid to those unable to work because of illness, age or unemployment, grew by 67 percent in real terms. While public sector pay rates have since been reduced substantially, these benefits have not been. The idea of reducing social benefits is historically poisonous in Ireland. In 1930, when the cost of living was falling, a Minister for Finance reduced the Old Age Pension by one shilling a week. That decision was still being used against that minister’s party 40 years later.
Bubbles misallocate human capital. Instead of choosing careers and skills for which there is enduring global demand, talented people were drawn by quick rewards into activities for which demand is inherently temporary, like construction. This is what happened in Ireland between 2000 and 2007. Vital educational and training opportunities were lost. Wrong career decisions were made. A generation of young people were misled.
(Left: The Spire of Dublin, a symbol of Ireland's successful new economy completed in 2003 at a cost of 4 million Euros.)
In a way, it is easy to see why people made the mistake of thinking that house prices (and household wealth) would never stop rising.
House prices had already risen by 133 percent between 1994 and 2000. These increases were justified by rapid economic growth, immigration, and new family formation, all of which created a genuine demand for housing.
The trouble is that the increase in house prices continued after 2000, and was financed, not by improved competitiveness, but by excessive lending, and by income generated from, inherently temporary, construction spending.
For example, mortgage lending by Allied Irish Banks increased by 139 percent between 2003 and 2008. Meanwhile, on top of this, AIB lending to developers to buy land, on which future houses might be built, increased by 332 percent!
The assumption of the bankers lending this money seemed to be that demand for housing could go on growing, to infinity. A moment’s thought would have shown how nonsensical that was. But almost nobody took a moment to think.
Meanwhile, discuss with us your experience of the bust -- have you or loved ones been mauled?
Read more reviews for The Wild Geese by John Bruton.
John Bruton, a former Teachta Dála in Ireland’s Dáil Éireann, served as the nation’s Taoiseach (Prime Minister) from 1994 to 1997, and as Ambassador of the European Union to the United States from 2004 to 2007. He is currently President of IFSC Ireland. A graduate of University College Dublin, with degrees in economics and law, he is a passionate student of history. John has graciously agreed to write book reviews on occasion for The Wild Geese. You can get more of John's perspectives on Irish -- and world -- affairs at http://www.johnbruton.com/.