Paschal must ignore the usual pre-budget calls to spend, and take Lagarde’s advice: Fix the roof while sun is shining

COME next month, the Finance Minister will face the usual round of representations, special pleadings and political pressure for increased spending and lower taxes in the October Budget. Get ready for the annual circus.

The idea that in the run-up to this year’s budget we can pretend that it’s business as usual would be a grave mistake. Who knows where the world will be in 12 months? But let’s be very frank, the next year brings with it real dangers for Ireland. From Brexit to trade wars we face substantial challenges to overcome. Our economy is the most vulnerable within the EU to international change. Our task in this year’s budget, therefore, is to be prudent and ultra cautious, especially given the international backdrop.

Every special group arguing to spend more should be forced to set out new tax measures to cover the increasing expenditure they are proposing. But, of course, that never happens. Spending is the easy bit, raising taxes and broadening the tax base is the real challenge. And doing it in a way that doesn’t harm growth or diminish the total amount raised in taxes is the really tricky bit.

Recession

So Finance Minister Paschal Donohoe should tell all the interest groups to simply bin their ‘pre-budget submission’ and come back to see him next year, when, hopefully, the picture will be clearer.

Ten years ago in 2008 the recession which did untold damage to the country’s and family finances was beginning to tighten its grip.

Five years of severe austerity followed, leading to massive job losses and the forced emigration of almost 300,000 people. National morale was on the floor and Ireland’s international reputation was shattered.

What was crucial to Ireland’s comeback was a strong belief in having stable public finances. At the heart of Ireland’s comeback story is the necessity of having that stable public finance position, which in itself sends out a clear signal to international investors that Ireland will live within its means.

The people remembered the 1980s and they wanted to get the country back on track. Those who had most shouldered the largest share of the burden of the adjustment.

The first signs of recovery were evident at the beginning of 2013. Confidence began to return and as it did so the recovery began to accelerate.

During the recession government revenues fell dramatically and it was forced to borrow heavily in order to rescue the banking system and to keep public services, public sector pay and pensions and social welfare at decent levels. The turnaround was achieved, but at a cost. That cost is a very high level of national debt. In 2007, Irish government debt was €65billion; ten years later it reached €227billion.

And despite the popular perception that our debt is all down to the banks – the truth is that bank debt makes up about 16% of all national debt. Our debt is the simple difference between tax and expenditure in the recession years when nobody, except the EU, would lend us money.

Despite very rapid growth for almost five years and a corresponding increase in government taxes, spending continues to outstrip revenues, further adding to the overall debt pile.

Selling Government shares in the banks and using the proceeds to pay down debt would be the sensible thing to do. The recent advice of Christine Lagarde, managing director of the IMF, was to fix the roof while the sun shines.

It is good advice that the Government should follow at this part of the economic cycle. Putting more money aside for the rainy day is the right thing to do.

Other independent voices including the Fiscal Advisory Council and the Governor of the Central Bank support Lagarde’s advice. The essence of that advice is that during this period of very rapid economic growth the Government should be running a substantial surplus and building a buffer to absorb future economic shocks.

The risks to the Irish economy are significant. The most obvious is a hard Brexit which could cause severe damage to the Irish economy from trade disruptions and a sharp decline in the value of sterling. Other risks are from energy prices, resulting from escalating tensions between the United States and Iran.

During the last four years corporation tax has increased from just over €4billion to an expected take of more than €8billion in 2018. This very welcome but unexpected increase is also vulnerable to tax changes in the US tax code. It is important to note that corporation tax collects 18 times more than the residential property tax.

Government finances have also been helped by extremely low interest rates and the ECB policy of purchasing of government bonds to help fight the recession.

In 2014, the government paid almost €9billion on its borrowings; thanks to falling interest rates this year it will pay around €6.5billion. In the medium term, interest rates are set to rise which will push up the cost of borrowing. Paying down debt now while the economy is strong will have big future benefits.

The Finance Minister does have limited scope for very modest tax changes in this year’s budget. These should focus on taking people on the average rate out of the higher rate of tax.

These tax cuts could be offset by increased carbon taxes or increased tax on gambling or consumption.

Investment

We all have a duty – public and politicians – to avoid another boom and bust. The economy is now running at near capacity. The Government must concentrate on clearing the obstacles to steady sustainable growth.

Sustained high levels of investment in housing, transport, energy, education, childcare and communications will be required in the years ahead if we want a competitive economy. That all takes money in ongoing capital projects.

The country will require steady growth in the region of 3.5% to 4.5% for decades to come if we are to provide the resources which will be required in the years ahead. Recent population projections from the CSO show the scale of the challenge ahead. People are living longer which is good. But the resources to provide for the needs of an ageing population will only come from a productive, competitive and growing economy.

The Irish economy is close to its natural capacity. Pressure for increased spending will continue. A prudent Finance Minister and a responsible Government must resist the pressure to put the foot on the accelerator.

I am confident that Paschal Donohoe is not a boy racer when it comes to the economy.