Home > Uncategorized > Austerity is not Working-Michael Burke at TASC Conference

Austerity is not Working-Michael Burke at TASC Conference

Austerity is not Working

Michael Burke At TASC Conference 2011
‘Investing in Recovery’ session, FEPS/TASC Autumn Conference, October 15th
*Throughout the Nation Income & Expenditure Accounts for 2010 are used unless otherwise stated http://www.cso.ielrefeasespublications/documentv/Aron®my0current/nie.pdf

It is customary for the government, Dept of Finance, and its supporters in academia and the media in Ireland to look at the situation from the wrong end of the telescope- to begin with a symptom of the crisis – the deficit – and not the crisis itself. But because it is familiar, for now the same process of working backwards is adopted.
The Deficit
In the National Income and Expenditure Accounts 2010, Total Borrowing of the public sector in 2010 was €51.9bn (Table 21, line 236)*. This arose primarily because total receipts of€48.8bn were exceeded by total outlays of €103bn (other items excluded). However, of that deficit €32.2bn was grants to enterprises (Line 244, the bank bailout). Therefore the borrowing requirement excluding the bailouts was €19.7bn. These fiscal deficits, excluding bailouts have been rising, not falling, even though there have been cuts in spending and tax increases.
We can arrive at the ex-bailout deficit by adding ‘Grants to enterprises’ (line 244) to net lending/borrowing (line 253). So net borrowing/lending was as follows:
2005 €3.5bn 2006 €5.7bn 2007 €0.9bn 2008 -€11.3bn 2009 -€17.8bn 2010 -€17.4bn (other items account for the reduction below €19.7bn).
The government has attempted to close this deficit by reducing its own spending and increase taxes on the general population, which also reduces their spending power and the incentive for businesses to invest. As those deficit numbers demonstrate, ‘austerity’ to reduce the deficit has been a complete failure.
Failure of Policy
In terms of current transfer payments, the government has cut €1.76bn in social welfare payments between 2008 and 2010 (Table 24). The effective cuts are much greater than this due to rising demand from increased population and increased impoverishment. Yet the total level of current spending has risen by €4.2bn, from €29.6bn to €33.8bn. The single biggest rise is in debt interest payments, from €2bn to €4.9bn. Unemployment assistance has risen by €1.6bn, redundancy payments by €300mn, unemployment benefit by €350mn, welfare allowances by €200mn. Employment support services fell by €100mn, pension contributions from employees have fallen by €380mn.

In terms of investment government gross fixed capital formation fell by €1.8bn in the two years to 2008 (Table 25). So, the €1.8bn decline in investment more than accounts for the decline in the deficit in 2010 from 2009 (€0.4bn).
Taking all categories of government spending (Table 26), both current and capital spending, we see the following declines from 2008 to 2010: Defence €100mn, ‘other government services’ €2.9bn, education €400m, health €900mn, housing €500mn, other community services €500mn, agriculture €1.4bn, mining €400mn and transport €1.5bn. In addition local government cut spending (Table 27) on housing by €900mn on transport by €800mn and on all types of economic and community services by a combined €1.7bn. Altogether these amount to spending cuts of €12bn.
Again the real effects of the cuts are greater, given both higher prices and increased demand. Yet the deficit has risen as spending has risen, up €26bn, central and local government combined. Apart from the bailouts (€4bn in 2009, €32bn in 2010), social security welfare payments have risen by €2.Sbn, of which unemployment assistance and unemployment benefits account for €2bn.
Government supporters continue to suggest that it is a bloated public sector which is responsible for the fiscal crisis, despite all evidence showing that this economy has one of the lowest levels of government spending in the Euro Area. Achieving deficit-reduction by these means has proved impossible, the deficit has widened. Even if all the cuts equalled savings (which is clearly not the case) the entire public sector would have to be sacked in order to achieve deficit-reduction as the wage, salary and pension bill of central and local government combined is €18.2bn (Table 24, line ) is lower than the €19.7bn deficit.
The other track the government has pursued has been increased taxation. The monthly and annual exchequer returns were always a very poor guide to the actual state of government finances in particular as they exclude social security payments. They are even less useful now after the introduction of the USC, which is not included. But the NEE does list tax revenues more comprehensively, even if detail is absent (Table 22).
Taxation revenues have fallen for 3 consecutive years as key categories of activity started to contract in 2008. Despite a series of tax hikes taxation revenues have fallen from €59.2bn in 2007 to €43.3bn in 2010. This loss of €15.9bn effectively accounts for over 90% of the deficit, not increased spending. Only welfare payments have risen.
In total, the government has aimed at ‘fiscal consolidation’ of €14.6bn (not including the November 2010 Budget). This was split €9bn in spending cuts and €5.6bn in tax increases. The tax increases were focused on incomes and on consumption (VAT). Taxes on capital and on profits were untouched.
To see the effect of these lopsided tax measures, we can note that taxes paid by individuals incomes or consumption comprise income tax, motor tax, customs and excise, VRT, while taxes paid on capital or
capital transactions comprise CGT, CAT and stamps. Leaving aside social insurance contributions, taxes on corporations comprise corporation tax, the employment levy and a portion of motor tax (Table 22).
From 2007 (the last year of the boom) to 2010 the total amount of taxation paid from these sectors under those heads was as follows (€bn):
2007 2010

Individuals 34.2 26.3
Capital 6.7 1.5
Corporations 8.5 6.1
Social Insurance 9.1 8.7
Total (incl. misc. items) 59.2 43.3
In fact businesses contribution to social insurance was €5.7 in 2007 falling to €5bn in 2010 (Table 1, lines 3&10). Therefore it is possible to rewrite the table above distributing the different contributions of employers and employees to SI (€bn).
2007 2010
Individuals 37.6 30.0
Capital 6.7 1.5
Corporations 14.8 11.1
Total (incl. misc. items) 59.2 43.3
Individuals formerly provided 63% of total tax revenues. Despite a fall in their incomes, their tax contribution has risen to over 69% of the total.

So far, we have dealt with the deficit and the failure of government policy. But these are only symptomatic of the crisis, which is an economic crisis. In nominal terms (excluding the effects of price changes) GDP has fallen by 17.9% between 2007 and 2010 (Table A). But investment (gross fixed capital formation) has fallen by 66%. It also accounts for the bulk of the decline in GDP, €32.3bn of a total loss in output of €34bn. By contrast, while households have been very badly hit, the decline in household consumption is €11.3bn and a fall of 12%.
We can also locate the source of the decline. While both central and local government investment has fallen by €2.9bn between 2007 and 2010 (Table 21, line 249) the remaining €29.4bn is the decline in the investment of the private sector. In effect, a private sector investment strike accounts for 86% of the total loss of output.
How To Address the Investment Strike?
In 2010 the total level of private sector investment was €11.4bn. Yet the private sector’s share of value added in 2010 was €54.8bn (Table l, line 13, minus lines, 2, 3, 9 & 10). For comparison, in 2007 the private sectors’ level of investment was €41.3bn of a net income of €68.2bn. In 2007 the private sector was willing to invest over 60% of its net income whereas in 2010 it invested less than 20% of its net income.
All private investment is made for a profitable return. Public investment is also made for a return, but usually the direct return accrues to the private sector (a new road, or educating a student) and only indirectly to the public sector via increased tax revenues. The investment strike arises because the private sector does not expect profitable returns on investment.
In fact the corporations in the Irish economy have been making savings over a prolonged period (Table 11, line 141) when the normal functioning of a market economy is that the household sector saves and ° the corporate sector borrows in order to invest, via the medium of the banks. But because the Irish corporate sector’s income as a proportion of total value added has been so high (exceeded only by Greece) it has felt no need to borrow to invest. Now that its income has fallen it has responded by maintaining savings (at a reduced level of income) and cutting investment.
As we have shown, there was a €43.4bn discrepancy between the income and investment of the private sector in 2010, which is greater than the entire shortfall in output since the recession began. In Keynes’s phrase, ‘the level of investment determines the level of employment and output’. We also know that businesses will invest once more when they foresee a profitable return on investment, which in turn depends on a resumption of growth.
Therefore, what is proposed is a series of temporary measures (windfall taxes, levies, charges, commissions, licenses, the labels are less important) by the government to channel a large portion of
that €43.4bn towards the needed investment in rail, ports and other infrastructure, superfast broadband, housing and education. The shortfall is in the order of €30bn. To engineer a recovery a fraction of that would be necessary. But once a strong recovery is underway, businesses will be induced to invest the remainder themselves simply from the profits available and may even begin to borrow for productive investment from the banks. However, this will only occur if the upturn in investment is orchestrated by the public sector.

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