Irish lessons for the UK
We know we're in for some unpleasant medicine after the election, but exactly how bad will it be? That's the question none of the politicians really want to answer. But you can get some interesting clues by looking across the Irish Sea. There you find a small country that has been going through something colossal: not just the steepest recession of any developed country since the war, but one of the most ambitious programmes of budget cuts as well.
UK Treasury officials have been over in Dublin in recent weeks, looking for some lessons in how to cut spending here in the UK. That gave me an added reason to take a look myself.
In two days this week, I learned plenty about the practical realities of cutting borrowing, some of it highly relevant to the situation here. You could hear some of my interview with the finance minister, Brian Lenihan, on the Today programme this morning. He's gained a lot of admiration in Ireland for carrying on with this Herculean task, even after being diagnosed with pancreatic cancer late last year.
Two interesting nuggets from that interview: he thinks the UK is probably expecting too much from the fall in the pound, and he thinks that whoever wins the next election will almost certainly have to cut popular benefits.
I also learned something about what it means to be a small country on the periphery of the eurozone, dependent on foreign investors for cash. Like Greece and the rest, Ireland still has some difficult adjustments in its future. But unlike them, it has bought itself a lot of credit in the markets with the drastic actions the government has taken in the past year. If there's an "I" in that infamous acronym, Pigs, investors no longer seem to think it stands for Ireland.
What kind of adjustments? Well, you remember the Conservatives have promised to have an emergency Budget if they win office? Ireland's had five in less than two years. All told, Mr Lenihan announced spending cuts and tax rises for 2009 worth 5% of GDP. For perspective, if you undertook that kind of tightening in the UK you'd be taking £65bn out of the economy, in a single year. That's roughly what the chancellor has said he will do by 2015-16. Mr Lenihan unveiled further cuts in December, of 2% of GDP in 2010.
Where's the money come from? The short answer is it has come from (almost) everyone. But public-sector workers have probably had it worst: many of them have seen a 20% cut in their net income.
There's a new pension levy on public-sector earnings, worth an average of 7% of pay - in effect a new tax, to pay for the cost of their generous pensions. I'm told the UK officials were looking especially hard at that. On top of that, public salaries were frozen - and then cut: by 5% for people earning less than 50,000 euros, 10% for salaries over that. The taoiseach (prime minister) has had his pay cut by 20%.
Let me highlight some big lessons, plus a few smaller ones.
Doubtless, the main parties here will each see something in Ireland's experience to support their point of view.
Labour and the Liberal Democrats will say it shows the importance of growth. Ireland's national income has shrunk by more than 20% since 2007 - and it's not growing yet. Economists agree that the recession has been made longer - and deeper - by the savagery of these cuts. And the weakness of the economy, in turn, has meant that, to some extent, the government is cutting to stand still.
The deficit was just over 11% of GDP last year, and even after all those cuts, it's going to be just over 11% of GDP in 2010 as well. That's because the economy is shrinking even faster than the budget. Whatever you think of the main parties' respective positions, we can probably all agree with Labour that that this is a situation it's better not to get into.
That''s why Mr Lenihan told me he would have liked to increase spending this time a year ago - when the G20 government were all talking about emergency stimulus. But the scale of the crisis in the public finances didn't give him a choice: any benefit from extra borrowing would have been more than wiped out by the loss of credibility in the markets.
In this kind of situation, there's a real risk of a deflationary spiral, with falling prices pushing up the real value of personal and public debts, and choking off the economy. The IMF raised this as a risk for Ireland last summer.
Prices did fall, economy-wide, last year - by more than 4%. And public debt has risen from 27% of GDP in 20006, to 78% now. But Mr Lenihan is adamant the risk has passed. Looking at the numbers, I'm less convinced, but bond traders who have more money riding on the judgement seem to agree with Mr Lenihan. The spread between German and Irish bond yields is a fraction of what it is in Greece.
Of course, that is where the Conservatives would come in: they'd say Ireland shows the importance of acting quickly to get on top of borrowing, before the markets force you to do things you don't want to do. The Conservatives think the UK is almost at that point right now. For the record, Mr Lenihan told me he thought the UK still had some room for manoeuvre, though it was shrinking.
So much for the big lessons. But there are some other interesting pointers for Britain today:
One was it helps to educate people about the nature of the challenge, before you wield the knife. Not an approach we seem to have adopted here. This time last year, the Irish government released all its budget papers for 2010 in advance - showing the kind of savings it needed to find. It then gave an independent commission to lead a national debate about what those cuts should be. It was asked to find two billion euros in savings. In the end it came up with more than double that amount, and the population knew what was coming before it was formally announced in December.
Ireland's experience also confirms that you need to spread the pain, with benefits a large part of the mix. Again, Mr Lenihan was quite clear on this point for the UK. He cut all benefits by 4% in his December budget, including child benefit and unemployment benefit. This, in a country where unemployment has risen from 4% to 13% in less than three years.
There is one group that even Mr Lenihan had to spare: pensioners. That is probably another lesson for the UK. In all this, the only measure Mr Lenihan's been forced to backtrack on was a measure which would have raised medical costs for pensioners.
Finally, Mr Lenihan thought we were taking false comfort from the fall in the pound. He would say that, you might think - they are one of the big losers from the UK's decision not to join the euro, and Irish companies have been hit by competition from across the border following the massive fall in the value of the pound. But he has absolutely no regrets about joining the euro.
We talk a lot about the dark tortured road that these countries on the periphery of the eurozone now have to walk. In Ireland's case it's not been pretty at all: prices are falling, but wages are falling faster. That's raising competitiveness the only way a country in the eurozone can. It's not much fun.
As Ireland shows, the debt dynamics of having that kind of collapse in national income can force a rise in national debt, as a share of the economy, which not every country could afford. But Ireland has the benefit of coming into this with a much smaller current account deficit than many of its "Club Med" friends. It might actually pull it off.
Small countries can do things that countries the size of Britain cannot do. But Ireland has bet the house on shock therapy to fix both their competitiveness problem - and their fiscal one. By comparison, here in the UK, even the Conservatives are looking at a more gradualist approach on the budget, and we're expecting a big depreciation to deliver growth.
Short term, Ireland's has been far more painful - for the economy and the Irish people. But it will be interesting to return to the comparison in a a few years' time. In the meantime, expect at least some of that Irish medicine to be making an appearance here.