Writing in the midst of our summer heatwave, I can’t help but see the parallels with Ireland’s recent economic trajectory. After a seemingly endless winter, we are finally getting to enjoy some sunny spells. Likewise, our economy has been through the wringer over the past decade, but growth and unemployment numbers suggest mercury rising.
As with the weather, there’s always someone complaining: if it’s not too cold, it’s too hot. The conservative class of economic pundits have been sounding the siren of an overheating economy, as if we were back in the Celtic Tiger’s obnoxious heyday.
Is overheating a thing?
Yes, just as a meteorological heatwave can lead to drought, so an overheating economy can store up problems for the future, no matter how much fun it may seem at the time. Some with foresight, and all with the benefit of hindsight, now agree that the Irish economy was allowed to overheat in the years running up to the Celtic Crash of 2008-2009. The ‘if I have it, I spend it’ approach to fiscal policy coupled with ‘light touch’ regulatory policy proved disastrous in the end, though it had plenty of cheerleaders at the time.
But, how do you know if an economy is overheating? Like moralists who say about obscenity that they know it when they see it, economists would say the same about an overheating economy. There may be no clear definition, but there are symptoms we should look for: rapidly rising prices, surging household consumption, out-of-control bank lending, a tight labour market, and a country living beyond its means by borrowing large amounts from abroad.
So, what does the data say?
Yes, house prices are on their way back to their boom-time peak at a rate of knots, and rents have long surpassed theirs. One thing all economists can agree on, however, is that this is a chronic supply problem, not a red-hot demand problem. The solution is to build more houses, not engineer an economic slowdown. We need to double housebuilding rates just to meet the needs of a growing population, never mind clearing the backlog. A look at consumer prices shows they are increasing by less than a half percent per year. Ireland may seem more expensive than neighbouring countries, but the price of consumer goods and services are lower now than ten years ago on the eve of the crash.
It took until 2016 for household consumption to surpass its 2008 peak, but because of the increase in population, domestic consumption per capita was still lower in 2017 than it was in 2006. And, its rate of growth has been relatively restrained.
Concern has been raised recently about the rate of growth in new mortgage lending. In fact, total mortgage lending was falling until relatively recently as repayments were larger than drawdowns. Certainly, the amount of new mortgages being drawn down jumped by nearly a quarter in the past year, but from a very low base. They were still less than a third of their 2003 level. We shouldn’t confuse normalization with overheating just because we’ve come through a long and cold economic winter.
By the end of 2018, the unemployment rate will likely have fallen below 5% while we have just surpassed a record number of people at work. Surely this is a sign of overheating? First, we need to remember that there are far more people living in the country than a decade ago, notwithstanding crisis-driven emigration. In actual fact, the share of working age people who have a job is still far below both its pre-crash level as well as levels in peer countries. This is particularly the case for men, whose participation rate in Ireland remains 9 percentage points below the peak of 77% reached during 2006/7. If the proportion of working age people in the labour force returned to its peak, there would be nearly another quarter million people available for work. On top of this, there is a potentially large cohort of the diaspora that could become return migrants, as happened during the 1990s and 2000s. We could be far from an overheating labour market, which is probably why wage growth remains modest.
Another sign of an overheating economy is significant borrowing from abroad, as happened during the boom, and which is measured by what economists call the current account. Ireland’s current account deficit steadily worsened until it had reached nearly 6% of GDP by 2008. With the caveat that distortions caused by our outsized FDI sector have greatly increased in recent years, flattering our current account, it is clear by any measure that we have run a significant and sustained surplus since 2012. Again, no signs of alarm here.
Then why all the talk of overheating?
Partly, pundits and institutions are wary of accusations that they largely missed the storm clouds gathering before the last crisis until it was too late. Some also have a political agenda. The Minister for Finance needs to manage expectations ahead of budget day, while others of a conservative bent just have a preference for a smaller state, for continued public squalor amidst private opulence.
We are told that the time to fix the roof is when the sun is shining. When President John F. Kennedy first uttered the phrase in his 1962 State of the Union, of course, he was talking about strengthening the welfare system, getting more people into work and ensuring scope for fiscal stimulus in the event of a recession.
Today in Ireland, we are being told that we need to put billions into a ‘rainy day fund’ instead of putting a roof over the heads of those who don’t have one to fix. Of course, there should be no return to irresponsible tax cuts or unnecessary day-to-day spending, but we do need to invest in housing, infrastructure and healing the lasting social scars of the crisis.