Monday, 26 March 2012

THE FISCAL COMPACT TREATY—THE CHOICE THE IRISH PEOPLE HAVE TO MAKE

BASIC PRINCIPLE BEHIND COMPACT WAS ACCEPTED BY IRISH PEOPLE TWENTY YEARS AGO

Most of the   commitments in the Fiscal Compact Treaty (formally known as the Treaty on Stability, Coordination, and Governance i the Economic and Monetary Union) are ones to which the Irish people have already agreed in principle in previous EU related referenda.
Irish people voted on 18 June 1992 to ratify the Maastricht Treaty. In so doing we democratically committed ourselves to a single currency, stable prices, sound public finances and a sustainable balance of payments. As we have learned, we have failed to adhere to the last two of these, sound public finances and a sustainable balance of payments.
We also committed ourselves in that referendum to treat economic policies here as a “matter of common concern”, which we would “coordinate” with our partners in the European Union. In particular, we committed ourselves to keep our Debt/GDP ratio below 60%, and our budget deficit below 3% of GDP.
 It was natural that we should have agreed to this, once we agreed to a common currency in the first place.
 If one country in the euro was free to “print” as many euros as it liked, by running uncontrolled Government deficits, that would automatically debase the value of the currency, and rob other countries in the euro of the value of their savings.
I make these points simply to reiterate that the Fiscal Compact Treaty does not involve some new principle or some novel incursion into national prerogatives. We accepted EU involvement in our budgetary policies twenty years ago, and we did so by the most inclusive method possible, by a referendum in which every voter had a say.
WHAT IS NEW ABOUT THE FISCAL COMPACT TREATY
In essence what the Treaty does which is new is to require us to incorporate into our
 “national legal systems through binding and permanent provisions, preferably constitutional” 
a ” balanced budget rule”.
A   balanced budget   is something we have accepted as a goal when we accepted the Maastricht Treaty , in the Stability and Growth Pact agreed in Dublin in 1996, and in detailed rules that were brought into force late last  year, under existing EU Treaties, as part of the so called “six pack” of measures to confront  the  financial crisis.
The novelty in the Fiscal Compact Treaty is that it defines a balanced budget more precisely, and requires that each country write a requirement to have a balanced budget into its permanent law.
What is new therefore is that we will no longer just rely on EU level rules to ensure that we move steadily towards balanced budgets. If we accept the Fiscal Compact Treaty, we will incorporate that requirement into our own domestic permanent legislation as well.
The Fiscal Compact Treaty defines a balanced budget in a very specific way. It says that a country will have a balanced budget if
“the structural  balance of the general government  is at its country specific medium term  objective as defined in the  revised  Stability  and Growth Pact with a lower limit of 0.5% of  its GDP at  market prices”
A rule along these lines has to be written into the country’s own  permanent law.
A “structural “  balance  is different from an ordinary budget deficit or surplus. It is an estimate of what the deficit or surplus would have been if economic conditions were normal.
In other words, if the economy is in the middle of a temporary recession or depression, it might have  a budget deficit, which would become a surplus of its own accord, without any  change of tax policies or spending commitments, once conditions returned to normal.
Conversely, if a country is in the middle of a temporary boom, it might have an apparent budget surplus in ordinary money. That was the position Ireland was in from 2002 until 2006. But once conditions returned to normal, if tax policies and spending commitments remained the same, the surplus would turn into a deficit. This is what happened in Ireland after 2008.
There are obvious difficulties in defining what “normal “conditions are.  If the concept of the economic  cycle is used to determine what is “normal”, there will be debate as to when the cycle began and when it will end.  But the definition would have to be exact, if it is to be legally enforceable as a means of forcing a country to change its budget.
This is where the words in the Treaty about a “country specific medium term objective as defined in the Stability and Growth Pact” come into play. This “medium term objective” will have to be negotiated between the country and the European Commission. So also would the time frame for reaching that objective. So the definition of what would be the permitted actual level of deficit or surplus, to comply with the 0.5% structural rule, would be negotiated in advance, and the budget would then have to comply with what had been agreed.
This detailed formulation of this will be incorporated in a Fiscal Responsibility Act to be passed into law by the Dail and Senate. It is important that we use the maximum scope in this legislation to define the term “structural deficit” in a way that takes Irish conditions into account.  For example Ireland is   dependent of foreign investment, which does not move in the same “cycle” as consumer spending does. Some argue that the Irish economy is so open , that it does not have an economic cycle in the normal sense at all.

AN IRISH RULE, ADMINISTERED IN IRELAND, TO KEEP IRISH POLITICIANS IN LINE
 But the bottom line is that, where previously we might have relied on external EU disciplines to keep spendthrift politicians in line, we will, if we accept the Treaty, commit ourselves to introduce permanent Irish laws to do so as well, to reinforce the rules we have made at EU level.
 In general this is a better approach.
 It is much better, in the first place, to have an Irish Fiscal Council, composed of  people most of whom  live here in Ireland , forcing an Irish Government to recast its budget, to  bring it into line with an balanced budget rule, as negotiated with the European Commission .This is preferable to relying solely  on Commissioners in Brussels to  do that job of keeping  our finances honest. That is the basic change that the Fiscal Treaty will bring about.
When is the risk of dishonest, or unbalanced, budgets most likely to arise?
The biggest dangers will be in the year before a General Election, and when the economy is booming.
Part of our problem today is that we had unduly expansionary budgets in 2002, and 2007, just before the Elections in those years. The 2007 budget, in particular, contributed a lot to today’s problems.  That temptation will arise again.
When the economy is booming, revenues will be flowing in, the temptation, to agree to permanent spending commitments that one ultimately cannot afford, will be greatest .
 That is what happened in Ireland during the time when there was an artificial and temporary housing boom, revenues from house sales were flowing in, and the Government agreed to permanent   increases in pay, welfare and pension levels, on the strength of revenues flows that could not last.
 A strong balanced budget rule, written permanently into Irish law, administered by Irish people, would ensure we do not repeat those mistakes ever again. Of course, that Irish rule will be reinforced by EU vigilance.  And the terms of the rule will have to conform to  the Treaty,  and be subject to  appeal to the European Court of Justice on that point.
 But the first line of defence against another outbreak of pre election budget irresponsibility will in future  be in Dublin, not in Brussels.
Rules like this have had a good effect elsewhere.
 In Chile, Government revenues are  dependent on royalties from copper of which the country is a major producer. A balanced budget rule in its constitution has forced the Chilean Government to run big surpluses when copper prices were high. As a result, when copper prices fell, Chile had the savings to maintain its social programmes without big cuts.
 Without a balanced budget rule in its constitution, the Chilean Government  would have had  great difficulty  persuading its people  that it should run a 10% budget surplus during the copper boom.
But if it had not done so, it would have had difficulty maintaining spending during the downturn in copper prices.
In Sweden, a balanced budget rule forced the Government to run surplus budgets during the   boom, and ,as a result, Sweden has come through the recent  crisis in much better shape than almost any  other  EU country.
EVEN WITHOUT THE TREATY, IRELAND WILL HAVE TO HAVE ‘STRUCTURAL’ BUDGET SURPLUSES ANYWAY
In the short and medium term, the balanced budget rule , which will require  every country  in the euro to have a “structural “ budget deficit no greater than 0.5% of it GDP, will have little effect here.
This is because Ireland is already obliged anyway, under new rules made last December pursuant to the Maastricht Treaty, to systematically reduce our Debt/ GDP ratio to  60% . Our Debt/GDP ratio   will peak at around 120% in 2015, so for the following twenty years, Ireland will have to run substantial budget surpluses to enable us to reduce the debt/GDP ratio, either by a repayment of debt , an increase in the GDP, or a bit of both combined.  It will only be when the Debt has been substantially reduced, that the 0.5% rule will take over as a discipline. And, as I have said earlier, this rule really only makes a difference in boom times. When times are bad, the markets force a country to  try to reduce its deficit anyway, because otherwise it will have difficulty borrowing.
The Fiscal Compact will not prevent countries running budget deficits during recessions. The 0.5% limit takes account of normal up and down cycles in the economy. That is what the word “structural” before deficit means. That is why even non euro countries like Sweden, with generous welfare systems, have signed up to the Compact. The idea that the Fiscal Compact outlaws Keynesian counter cyclical policies, put forward by commentators like Fintan O Toole, is wrong.
There are a number of other things in the Treaty, which simply reiterate and entrench rules that have been already adopted. There are also new provisions for Euro area Heads of Government to meet more often , and  for  the Dail’s budget committee to work more  closely with committees in other  Euro area parliaments.
To summarize, the Treaty will bring greater credibility to the finances of all EU countries. It complements controls at EU level with new controls at national level. For these reasons, I  urge people to vote  Yes in the referendum.
It is important now to turn to what might happen if people were to vote No. Some will argue that we should consider that as a tactic, a sort of bargaining approach.  That worked in the past, they might say. Why not try it this time? This time the rules are different, and the potential downsides are much bigger.


THIS DECISION, THIS TIME, IS NOT THE SAME AS THE ONES ON LISBON AND NICE

If Ireland votes No to the Fiscal Compact Treaty, and as a result the Irish Government is prevented from ratifying the Treaty it has already signed, the Treaty will probably come into effect anyway for the countries that have ratified it.
This is because the Treaty itself provides that, once 70% of euro area states have ratified it, it comes into force.  So if 12 of the 17 states ratify, we have the Treaty in effect for those 12 countries. No matter what the other 5 do.
 This means that the  scenario whereby Ireland was able to vote No to the Nice and Lisbon Treaties and, because Ireland’s ratification was essential for everybody else, it could negotiate for further clarifications or protocols to meet popular concerns  in Ireland, does not apply in this case.
 This sort of threshold provision is not unusual in international treaties.  Few international Treaties require ratification by 100% of signatories to come into effect.

DENYING OURSELVES ELIGIBILITY TO APPLY FOR EUROPEAN STABILITY MECHANISM
But a decision not to ratify would have a consequence for Ireland. The Treaty says
“the granting of assistance in the framework of new programmes under the European Stability Mechanism(ESM) will be conditional, as of  1 March 2013, on the ratification of the  Treaty by the  Contracting Party”
Ireland was a Contracting party, and if it does not ratify, it will not be eligible for assistance from the ESM.
We all hope Ireland will not need assistance from the ESM, and that once our present  EU/IMF programme expires  , we will be able to borrow, at  low interest  from commercial markets, all we need to cover   the ongoing shortfall between our tax revenue and our spending . But there is no guarantee of that.  We could find, when the EU/IMF programme expires, that commercial bond markets are still a bit nervous about Ireland, and  ask us to pay higher interest rates than we had  got used to paying to  our EU partners, and to the IMF.
Ratifying the fiscal compact Treaty is really like buying ourselves an insurance policy.
 We hope we will not need to make a claim on the ESM, but it is nice for us, and for those who might lend to us,   at least to know  that we are at least eligible to do so.

VOTING NO WOULD BE REJECTING AN INSURANCE POLICY..................... 
By voting No, Irish people would be saying that they do not need any insurance policy for our public finances after the current EU/IMF programme expires.
In that sense, I would argue that those who will be advocating a No vote to the Treaty, will, in practice, be advocating more, and faster, austerity in the immediate future.
To be able to survive without the possibility of turning to the ESM after the present EU/IMF programme expires, Ireland would have to convince commercial bond market lenders that we had everything fully and permanently under control, as far as tax revenue and spending was concerned. Only then would we be able to be sure they would lend to us at reasonable rates of interest.
 And we are not there yet, by any means. Even if we paid no interest at all on our debts this year, we would still need to borrow 10 billion euros to cover the gap between our spending on salaries, pensions, welfare etc and our revenue from taxes.
AND OPTING FOR FASTER AUSTERITY..................NOT A CLEVER MOVE 
In other words, we have what economists call a “primary deficit ’’ of 10 billion euros.
A primary deficit is the deficit we would have if we had no debts and had to pay no interest on debt. Most countries have debts. So most of them should run a primary surplus, so they have room to keep spending going, and also pay the interest they owe.
Ireland is not in that fortunate position.
 Our primary deficit will be about 4% of GDP this year and about 2% next year. This puts us in a vulnerable position because, even if all our debts were abolished (which is not going to happen) we still have to borrow new money just to keep going.  Those who think we can play hardball with bondholders or bond buyers, should keep the primary deficit in the forefront of their minds. 
We cannot tell them to get lost because we need  them to lend us some of the money  to pay salaries  etc, because  we are not raising enough tax ourselves yet, to cover  all of our  outgoings, even without interest on debt .
That is about to change. The Government is budgeting to have a tiny primary budget surplus in 2014, and a slightly larger one in 2015. 
In other words, if things go according to plan, we will still be borrowing in 2014 and 2015, but then  we will “ONLY” be borrowing to pay interest on, or roll over, past debts!
That is if a number of further, some yet unannounced, revenue raising and expenditure cutting  measures, are successfully implemented by then.
Suppose the Irish people reject the Fiscal Compact Treaty.
Then, to be sure we would be able to borrow without the possibility of turning to the ESM, I believe we would have to introduce a budget for 2013 that had no primary deficit at all.
This would mean  about 5 billion euros more spending  cuts  and tax increases than are now planned by the Government in agreement  with the EU and the IMF.
 I have no doubt that the advocates of a No vote do not want that. But that is the logic of their rejection of the Fiscal Compact Treaty and its consequent removal of Ireland’s   eligibility to apply, as a fall back, for funds from the ESM, if we need them.
Of course, they will try to change the subject, rather than answer that key question. They will get into the blame game. But blame does not pay bills.
Some have suggested that linking eligibility to apply for the ESM with ratification of the Fiscal Compact is some sort of “blackmail”. If it is, then any condition imposed by any lender to ensure they have a good chance of getting their money back could be called blackmail.  It is not blackmail. No one, with any sense, lends money with some conditions to secure repayment.

IT IS NOT ALL ABOUT BANKS, IT IS ABOUT DAY TO DAY SPENDING TOO
Advocates of a No vote might say Europe owes us the money anyway, because, they will say, we indirectly bailed out Europe’s banks, when we bailed out our own banks.
There is some truth in that,  as I pointed out to President Barroso of the European Commission myself  when he made some one sided remarks about Ireland in the European Parliament, but it is beside the point as far as the decision we have  to make now is concerned.
Of Ireland’s present national debt, only 21 to 27%, or 37 and 46 euros billion of it,  is attributable  bank rescue.
The rest is due to
1.) servicing other debts we have run up which have nothing to do with our banking problems and
2.) funding   the gap between day to day Government spending and revenue, a gap that is still very wide,
We have to find this money  by  borrowing.......from someone,   among  lenders who has plenty of  other  options for the use of their money apart from lending it to us.  
CONCLUSION
The next few years will not be particularly easy.
We have made progress. We have a balance of payments surplus. People are accumulating savings. Foreign investment here is at an all time high. But consumer confidence is low, and unemployment high.  The oil price rise is a threat, but the increased demand for food is an opportunity. Confidence in politics has been shaken by the Tribunal findings, but the Irish political system is fundamentally stable and capable of making decisions.
Ratification of the Fiscal Compact Treaty would reinforce the sense that Ireland is getting its act together. Failure to ratify would not derail the euro, which can go ahead without us, but it would, unfortunately, derail Ireland. 

Speech by John Bruton, former Taoiseach, and current vice President of Fine Gael, at meeting on the Fiscal compact organised by Malahide branch of Fine Gael in the Grand Hotel, Malahide, at 8pm on Monday  26th March 2012
 

3 comments:

Anonymous said...

"THIS DECISION, THIS TIME, IS NOT THE SAME AS THE ONES ON LISBON AND NICE
If Ireland votes No to the Fiscal Compact Treaty, and as a result the Irish Government is prevented from ratifying the Treaty it has already signed, the Treaty will probably come into effect anyway for the countries that have ratified it.
This is because the Treaty itself provides that, once 70% of euro area states have ratified it, it comes into force. So if 12 of the 17 states ratify, we have the Treaty in effect for those 12 countries. No matter what the other 5 do"


OH. So we shouldn't have voted for Lisbon. Thanks for letting us know, even at this late stage.

Anonymous said...

John im wondering will you be speaking anywhere else on this subject?

Anonymous said...

Very helpful to have clear and concise facts - You deliver the message In a comprehensive but simple way - it would be helpful to have you and noonan spearhead the communication to the public - keep it simple

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