If the Unions Fight, They WIll be Right: The Recession Diaries - October 1st

Imagine you’re walking a high-wire. You’re nearly at the end of line. You’re doing everything possible not to fall – balancing with your arms, moving snail-like, praying; the last thing you need is for some messer to start shaking the wire. That’s exactly what the Government is preparing to do as it mulls over its €4 billion worth of cuts in the upcoming budget - shaking the wire.

With ICTU’s launch of a campaignto stop the cuts, commentators will be queuing up to have a go at trade unionists – particularly public sector workers. You can write the script now – ‘privileged’, ‘sheltered’, ‘bloated’, ‘over-paid’, etc. That workers are engaging in action to protect the quality of public services and the living standards of the poorest is no matter; they are ‘not in touch with reality’ as Colm McCarthy might say (actually, he did).

Yes, there is the issue of protecting public services – which rank well below the EU-15 norm; and there’s the issue of protecting living standards – another vital issue given that the McCarthy Report wants to cut nearly €2 billion in transfers to low and average income earners. And, yes, many public sector workers will protest over wage cuts– but after social welfare cuts, levy increases, and the pension levy, this is reasonable.

But there’s another reason why trade unionists should be marching – to prevent the Government from shaking the economic wire and causing more people to fall off.

It appaears that the recession will end (at least in a statistical sense on a quarterly basis) anytime between the 1st and 3rd quarter of next year.  If these cuts are implemented, the end of the recession will be postponed, national output will fall further than it would have otherwise, more people will be on dole, more enterprises will go the wall – with only a minimal benefit in the fiscal deficit.

If the trade unions really engage the fight, they will be doing so, not on behalf of a sectional interest, but on behalf of the nation’s economic interest.

Let’s turn to the ESRI’s multiplier simulations. They modeled three public expenditure measures – cutting public sector wages, cutting 17,000 public sector jobs and cutting public investment. Each of these would reduce current expenditure by €1 billion each, or €3 billion combined. What would be the effect?

• GDP would fall by a further 1.2 percent, or €2 billion
• Unemployment would rise by nearly 29,000 – just as the recent Live Register figures showed almost no growth in seasonal terms.

And the reduction in the borrowing requirement? Less than €1.9 billion. Not €3 billion – that’s only the reduction in Government expenditure. When account is taken of the impact those cuts will have (on output, consumption, employment, etc.), the net gain is seriously eroded. At the end of the day, the annual deficit would fall by 0.9 percentage points. So, we have

• Knocked off another €2 billion of our GDP, thus postponing the end of the recession and making it harder to generate the growth needed to absorb high borrowing costs in the future
• Thrown nearly 29,000 on to the dole queues, ensuring higher social welfare expenditure going forward
• Degraded public services further just at the point demand is growing
• Cut people’s living standards and consumer spending
• Reduced investment in an infrastructure that is one of the worst in the industrialised world (the Global Competitiveness Index ranks Irish infrastructure 65th out of 133 countries)

All this, to reduce borrowing by less than 1 percent of GDP? If that sounds irrational it’s because it is. And that’s why hardly any other government in the industrialised world is pursing this absurd course.

There are alternatives. For instance, using the ESRI’s simulations we find that €3 billion in tax increases (increasing income tax along with introducing a property and carbon tax) would:

• Reduce borrowing by €2.5 billion (or €600 million more than public expenditure cuts)
• Reduce the GDP by €800 million (compared to €2 billion under spending cuts)
• Increase unemployment by 6,600 (22,000 less than under a cuts strategy)

The annual deficit would fall further if a tax strategy were used. The end of the recession would not be postponed and everyone would be better off. That is not to endorse the particular tax proposals used by the ESRI. They merely serve as an indicator.

Of course, we could get really creative – less deflationary tax increases on high incomes and wealth, public enterprise infrastructural investment (off the books), necessary social investment with high economic returns (early childhood education), front-loading the drawdown of the €20 billion in the NTMA’s coffers; a whole range of measures to stimulate the economy while at the same time setting the foundations for a fiscal consolidation that can only be effective once the economy has returned to growth.

But, really, the idea that this government, which has pursued deflationary policies from day one, is somehow going to change direction at this stage is pure fantasy. Inertia, not rational economic thinking, is propelling Fianna Fail. We can’t expect them to make things better, but we can try and prevent them from making things worse.

That’s where the trade union campaign enters. It is imperative that it succeeds – that it derails the Government from its determination to push through €4 billion in cuts. It is both an economic and social imperative. And if, in the meantime, the action derails the Government itself – who will complain?

If the trade union movement, in alliance with community and social organisations, and progressive political parties can prevent the Government from prolonging the recession and increasing unemployment– then they will have done the economy enormous benefit.

If the trade union movement and their allies fight – and I mean really fight – then they will be right. And all of us will reap the benefit.

Comments

[Barry]

So in sum, what we need to do is raise taxes not make cut backs?

Are you saying that civil servant on six figure salaries should not have their wages cut because to do so would be counter productive?

Its a hard sell Michael.

[Michael Taft]

Barry - no, that's not what I'm saying at all. And I specifically state that the tax increases the ESRI uses are not necessarily to be supported. I merely pose the two options to assess their impact on the economy. As for me - I go with the third option.

In regards to six-figure civil servants - there are very few of them. Throughout the entire public sector (of which civil servants make up a minority), there are only 3 percent who earn over €100,000. If these wages were cut by, say, 10% - it would produce a gross savings of approximately €150 to €170 million. But when tax clawbacks and multiplier effects are taken into account - it would probably produce a savings below €100 million.

It's not a matter of counter-productivity. There may be all sorts of reasons for cutting wages at the top (e.g. demonstration effect, re-investing it into direct state job creation, etc.).

But its effect on the borrowing requirement is pretty minimal - to say the least.

You might find this breakdown of public sector pay and numbers interesting:

http://www.kildarestreet.com/wrans/?id=2009-02-17.826.0

[Marise]

How many civil servants make six figure salaries? Mentioning the highest tier would suit a discussion of wage inequality more than this discussion of cuts.
tI sometimes wonder a particular cognitive dichotomy in these discussions. Consumption is 70% of GDP. Bean-counters look at expenditures for both private companies and the government,and see the large share that payroll represents. So cut payroll, yeah?

But 70% of GDP is consumption. What they don't seem to be able to see is that those same "liabilities" are also their consumers -- they are talked about as if they are two discreet sets of people. In Government's case, public sector employees will become dole recipients. At least when there are employees, the government is getting something directly for their money.

We must address the deficit, but timing is everything. It must not be done pro-cyclically. There is time. They talk about inflation rising, but moderate rates of inflation can help the consumer by lessening the debt. It disportionately affects creditors. Knowing where there bread is buttered, therefore, they speak like the deficit must be addressed NOW.

[Michael Taft]

Marise - we must have posted our comments at the same time. The figures I give above show there are relatively few civil or public servints earning six-figures.

The important point you make is that of 'timing'. Governments throughout the world are waiting for the economies to turn the corner before embarking on fiscal consolidation. However, the IMF has warned governments against acting prematurely - rightly pointing out that even when economies have turned the statistical GDP corner, they will still be in a fragile state. Were a government to act too quickly to consolidate, or withdraw stimulus too early, it could send the economy back into recession (similar to what happened in the American economy in 1937 when the government turned off the taps thinking it was safe, only to find the economy plummeting again).

In the Irish context, we can expect the economy to go into the GDP/GNP black. However, it will only be for a quarter or two and we will still be facing into increasing unemployment/falling employment. And this Government proposes to cut €4 billion - or nearly 3% of GNP - out of the economy?

Talk about bad timing.

[Marise]

Yes, it's been constantly pointed out how employment is a lagging indicator. We need a commitment from our government to ensure that employment has at least a couple of quarters of strong employment growth before addressing the deficit. I would prefer even more than that, as the increasing tax receipts and fall in the live register will address some of the deficit already at that point, giving a clearer picture of how much shortfall will be left to address.

[Donagh]

This paper seems to agree with your last point Michael.
http://ftp.iza.org/dp4455.pdf

[Michael Taft]

Thanks for bringing that to my attention, Donagh. It is always a pleasure to read a piece by Blanchflower and Bell - two of the better commentators on the economy today. I urge everyone to have a look at this.

[John Baker]

If the privileged are so concerned about the fiscal crisis why don't they put their money where their mouths are and call for a temporary tax rate of 90% on incomes over 100k? Anyone who left the country as a result would expose themselves as a traitor and their assets could be confiscated. Has anyone modeled that?