Friday, October 1, 2010

A 30 Year Cycle

It struck me recently that the prolonged recessions (lasting up to a decade a length) have been a consistent feature of the Irish economy since independence. Furthermore these recessions have occurred on a fairly regular 30 year cycle.

When we obtained our Independence in 1922, the country became ravaged by a very damaging Civil War. Manufacturing industry was practically non-existent with the country almost totally dependent on agricultural production.

Though little progress was made during this first decade of freedom, surprisingly, in a qualified fashion, the economy started to revive during the era of the Great Depression. The high tariff barriers now in place enabled the replacement of - formerly - imported commodities by new domestic firms. Also the Government, recognising the lack of private capital took the initiative in setting up several large state-owned enterprises. Then we escaped the worst ravages of the 2nd World War through our neutral stance.
However during the next decade of the 50's the limitations of this strategy were cruelly exposed. As the import substitution phase of industrial development (afforded by tariff protection) neared completion, further possibilities for growth were stunted through the small sized uncompetitive nature of Irish industry. So in contrast to the rest of Europe which was now booming, the Irish economy stagnated with an enormous amount of associated emigration.

A dramatic change in policy then took place. Rather than using significant tax and grant incentives in a vain attempt to promote Irish export growth, we now sought to attract foreign enterprise to Ireland. Half a century later, this policy is still very much in place and so successful that we are now one of the most open economies in the World with about 90% by value of exports (goods and services) coming from foreign multinationals located here.

So the 60's and lesser extent 70's were a period of comparative growth and prosperity. In addition Ireland had joined the EC in 1973 creating further opportunities for trade and significant financial support (e.g. agriculture and regional policy).

Then in the 80's we had another prolonged recession. The root cause of this was due to an accumulation of borrowing (mostly foreign) in a vain attempt by the Government to maintain an illusionary boom.

However the harsh adjustment required to adapt to this new situation eventually brought about many of the conditions for a return to growth in the 90's with the commencement of the famed Celtic Tiger. When the first phase of this - based initially on a genuine competitive advantage - had run its course by 2001, we embarked on an ill advised second phase almost totally fuelled through an enormous property bubble. Then all of this came crashing down as the result of the financial shocks in 2008 (after the collapse of Lehman Brothers).

So as we entered the new decade in 2010 we were facing the aftermath of another major economic recession, the effects of which are likely to last for the entire decade.

Enormous losses have been accumulated in the banking system. The domestic economy is now very uncompetitive compared to neighbouring countries and there is an enormous hole in our public finances with current expenditure greatly exceeding tax revenue.

Though it is perhaps small consolation to the many struggling to cope with such adverse financial circumstances, the economy will eventually recover. And if the past is to be a guide this will be due to many painful adjustments lasting the best part of a decade.

However perhaps it is time to learn an important lesson. If we do not manage the next recovery wisely we could be facing an even greater economic crisis in 30 years time.
Perhaps it is not accidental that these prolonged recessions have been recurring at regular 30 years cycles. They all have had a similar pattern 1. A decade of pain and slow adjustment 2. a following decade of recovery based on a new competitive advantage 3. a further decade of attempting to prolong the good times in the absence of such advantage. And inevitably this has then paved the way for the next economic crisis.
So if we do not properly learn from our mistakes, we are likely to make them yet again with perhaps even more devastating consequences.