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Latest projections show austerity is unnecessary

A recent publication by the Government’s own Parliamentary Budget Office provides an analytical model for public debt sustainability and shows, without debt consolidation or spending cuts, Ireland’s debt to income ratio over the next decade will be on a downward trajectory.

At a recent ESRI event to mark a year of the pandemic, Minister for Finance, Paschal Donohoe T.D. stated[1]:

Maintaining the public finances – and the interest bill in particular – on a sustainable path is particularly important within a monetary union where monetary policy is not always optimal for a small country.

So while the policy framework with respect to deficits and debt is evolving, this does not absolve us of the need to reduce our deficit over time.

Debt reduction, in normal times, is in a country’s interest. It provides an economic “cushion” for future blows by enabling countries to borrow at lower interest rates. However, in the aftermath of a pandemic, debt reduction should not be the main focus of economic policy.

We are likely to see a doubling of the pre-pandemic unemployment rate as businesses and  households struggle with a withdrawal of State supports. Investment in upskilling programmes, services and infrastructure will be key to a long-term recovery. So too, will be the retention of healthcare staff and the necessary investment in health infrastructure, public housing, measures to address educational disadvantage – exacerbated by the pandemic. All of this will require funding. A concentration on debt reduction over investment in necessary services and infrastructure will hamper any hope of a sustainable economic recovery.

But it doesn’t have to be this way. The analytical model developed by the Parliamentary Budget Office (PBO) shows that, while the outstanding stock of public debt is set to increase and will likely remain high in the medium term, a broader assessment of the set of factors underpinning debt sustainability indicates that the debt burden will be on a sustainable path out to 2030. In fact, the downward trajectory will start from as early as 2022 and will reduce over time to 49 per cent of GDP (86.4 per cent of GNI*). This, the PBO states, will happen as a result of economic growth, rather than any need for fiscal consolidation. Even if the marginal interest rate increases dramatically, the impact on the projected decrease in debt to income ratio will not be too severe given the long-term maturity profile of Irish debt and the large share of debt held at fixed rates.

The EU’s Growth and Stability Pact

The EU’s Growth and Stability Pact, introduced after the 2008 crash and suspended since last year in consideration of the level of borrowing required by Member States to deal with the fall-out of the pandemic, considers a threshold of 60 per cent debt-to-GDP as prudent within the European fiscal framework. At the height of the last crash in 2012, Ireland’s debt-to-GDP ratio stood at 120 per cent. By 2019, it was 57 per cent with the aid of an austerity programme that saw public spending slashed to the detriment of society (particularly the most vulnerable) and the environment. The PBO projects a pathway to 49 per cent by 2030 without the need for fiscal brutality.

To understand how this is the case, the PBO argues that the debt burden be considered, not in isolation, but in the broader context of “macroeconomic and fiscal sustainability, in consideration of such factors such as economic growth, inflation, interest rate dynamics, and the debt maturity profile.”. Modelling is based on a set of assumptions regarding the evolution of fiscal and macroeconomic variables and are tested against a number of alternating scenarios.

While the paper is keen to highlight the vulnerability posed by a high debt-to-income ratio, it does suggest that “aggressive fiscal consolidation is not a requirement to ensure the debt burden is on a sustainable path over the next 10 years... Key to this is an approach to fiscal policy that ensures the optimal use of public funds and facilitates beneficial structural reforms.”

In our policy briefing on Building a New Social Contract, Social Justice Ireland developed a series of policy proposals to develop a new Social Contract for Ireland on the basis of reforms that would ensure a Vibrant Economy, Decent Services and Infrastructure, Just Taxation, Good Governance and Sustainability. These reforms, if implemented, could support the sustainability of the PBOs projections for debt reduction without austerity. Now is the time to act.