Grecia, ¿qué quiere Alemania?

Ireland’s Lessons for Greece

APR 23, 2015

MUNICH – Greece’s government, led by the left-wing Syriza party, is demanding a new deal from its European creditors, claiming that the bailout program provided by the “troika” (the International Monetary Fund, the European Central Bank, and the European Commission) has plunged their country into a spiral of deflation and austerity. But, while no one disputes that things have gone wrong in Greece, the argument that fiscal consolidation necessarily leads to never-ending recession is not borne out by the facts.

Consider Ireland, which was among the countries hardest hit by the global economic crisis. Having become exceptionally bloated during the pre-2008 boom years, Ireland’s banks buckled under huge losses when the property bubble burst. To avert a devastating bank run, the government guaranteed the entire outstanding stock of deposits and liabilities.

As a result, government debt soared from 25% of GDP in 2007 to more than 120% in 2013. Add private debt, and the Irish sit on a debt mountain worth nearly 400% of GDP. In Greece, where private debt is much lower, total debt amounts to around 300% of GDP.

Nonetheless, Ireland regained access to capital markets in early 2013, and investors have few qualms about the country’s prospects. Indeed, the economy is growing briskly, unemployment is below the eurozone average, and the government’s borrowing cost is one percentage point lower than the US Treasury’s.

Ireland has proven that even in a severe crisis, resolute consolidation and reform can quickly stabilize the economy and prepare the ground for a return to growth. At the height of the crisis, Ireland’s government cut public-sector salaries and pensions, raised the retirement age (to 68 by 2028), slashed welfare benefits, and increased the value-added tax.

Of course, there are important differences between Ireland and Greece. Austerity was bound to hurt Greece’s rigid economy – one of the least flexible in Europe – much more than Ireland’s, where flexible labor and product markets allowed massive job losses in the housing, construction, and banking sectors to be offset gradually by job gains in other sectors. The Irish economy also benefited from its strong emphasis on exports and close ties with the relatively thriving economies of the United Kingdom and the United States.

But Ireland still holds important lessons for Greece – beginning with the need to regain the confidence of financial markets. An unwavering focus on putting its public finances in order and cleaning up the banking sector enabled Ireland to exit its €67.5 billion ($73.7 billion) bailout program as planned at the end of 2013.

Moreover, the yield on ten-year Irish government bonds, which peaked at almost 15% in mid-2011, now stands at an all-time low of less than 1%. Though the ECB’s large-scale bond-buying program helped to lower bond yields, the Irish government’s success in returning to the capital market without the safety net of a precautionary credit line from its international creditors – an example that Portugal later followed – should not be overlooked.

Once investor confidence returned, a virtuous cycle took hold. For example, Ireland was able to repay the €12.5 billion it owed to the IMF early, once it was able to refinance itself more cheaply in the markets, helping it to reduce its interest-rate bill further.

And, for Ireland, confidence and growth have gone hand in hand. Having shrunk by as much as 6% in 2009, the Irish economy was outperforming the other bailout countries by 2011. Last year, Ireland recorded a 4.8% growth rate – by far the highest in the eurozone. And it is on course to grow by 3% this year, double the eurozone average.

This growth has been driven by a variety of factors. Wage restraint and productivity gains have improved competitiveness, thereby boosting exports. And now that lower oil prices and a five-percentage-point drop in unemployment are bolstering consumption, the recovery is expanding to other sectors.

In short, the credibility that Ireland gained through resolute fiscal policy and reforms helped to restore confidence, facilitating a return to growth and thus fiscal consolidation. Of course, the precise policy approach taken in one country cannot be imitated elsewhere. But Ireland’s can-do attitude and steadfast approach can serve as an inspiration for Greece and other struggling eurozone countries. 

Michael Heise is Chief Economist of Allianz SE