Public versus Private Sector Pay

Proinnsias Breathnach: On August 26 last, the Irish Times published an article with the headline “Public sector pay a third higher than private sector” in the front page of the Business section.  This was a highly irresponsible headline of the type one might expect to find in the Sunday Independent.

If the Irish Times presented a headline stating that, on average, workers in solicitors’ offices are much better paid than workers in supermarkets, readers would immediately regard this as being obvious, given the major differences in qualifications and hence pay rates between the two.

Essentially the same situation applies to comparisons between the public and private sectors.  There is a much higher proportion of professional people (e.g. teachers, doctors, nurses, administrators) and a much lower proportion of unskilled people (e.g. retail, catering, hospitality workers) in the public sector and therefore one would expect average pay rates in the sector to be higher.

To quote the 2010 Employment Survey (the most recent to be published by the Central Statistics Office), “on average, public sector employees had higher educational attainment, longer service, were older, and were more likely to be in professional jobs than their counterparts in the private sector.”

The 2010 Survey found that, while overall average weekly earnings in the public sector were 35 per cent higher than in the private sector, when allowance is made for these and other variables (including organisational size), the gap between the two for permanent full-time employees aged between 25-59 was only around 8 per cent and had fallen from around 13 per cent in 2007.  

Furthermore, the gap was greatest between workers at the lower end of the pay scale while at the higher end, private sector earnings were higher than in the public sector.

Misleading headlines such as the one used in the article referred to do nothing to promote balanced and reasoned debate on this topic and instead are conducive to the kind of emotive language (“inflated public sector pay”, “tiger wages” in the public sector) attributed to the Irish Small and Medium Enterprises Association in the same article.

I sent a letter to the Irish Times putting the above points, but it was not published.  I routinely send letters to that newspaper seeking to correct what I believe to be errors of fact or interpretation which have appeared in the paper but these are hardly ever published.  I am thinking of changing my name to Anthony Leavy!

Economists on Ireland's export performance - more sad stories

Proinnsias Breathnach: One thing that has always struck me about Irish economists is that, despite the importance of foreign direct investment and international trade to Ireland’s economy, they actually know very little about the activities of the transnational firms in question, or the structure of Ireland’s foreign trade and, above all, about the factors which attract foreign firms to Ireland and allow them to use Ireland as a base for serving external markets.

Rather than conducting real research in these areas, most economists who write on these topics appear to draw on undergraduate textbook models of how markets operate – models which in turn were originally devised to explain the kinds of competitive markets for commodity-type products (clothing, food, furniture) which were fairly typical of the British and US economies in the 19th century. Subsequent developments, such as industrial concentration, globalisation, rising living and educational standards, advertising and marketing and technological change, appear to have bypassed many of these people entirely.

Thus, a few weeks ago, we had Anthony Leddin of the University of Limerick (writing in The Irish Times) postulating trends in Ireland’s foreign trade which anyone with knowledge of this area would have realised right away were completely wrong. More recently (January 28), and again writing in The Irish Times, former Central Bank Chief Economist Michael Casey wrote: “At present the only bright spot in the economy is the output and exportation of pharmaceutical products”. This is an extraordinarily uninformed statement for a person of this status to make. Of the nine broad product categories into which the CSO divides Ireland’s merchandise exports, eight experienced growth in nominal export value in the first ten months of 2010 compared with the same period in 2009. Of the total growth in these eight categories, pharmaceutical products accounted for less than half (46.5%).

The growth in total merchandise exports, in turn, accounted for only one half of the overall growth in exports (including services) in the first three quarters of 2010. The growth in exports of computer services in this period exceeded that in pharmaceutical products by 24 per cent. Many economists have been unable to internalise the fact that services exports exist at all, never mind that they have been the main growth sector in Irish exports for many years and, in 2009, accounted for 46.5% of total exports. In the five years to 2009, exports of both computer services and business services grew much more strongly than exports of pharmaceuticals. In 2009, exports of both computer services and business services exceeded exports of pharmaceutical products in value terms.

In that year, these three sectors, along with organic chemicals, accounted for over half of Ireland’s total exports. If we throw in insurance & financial services, food & beverages and office & data processing machinery, the proportion rises to almost three quarters. If one were seeking the key to Ireland’s international competitiveness, one should be looking at why these seven very disparate sectors are able to use Ireland as a successful base for serving external markets.

But this would require some real research. Instead, our economists reach for simplistic and largely irrelevant statistics which are both readily available and tend to confirm deeply-entrenched prejudices. We got a good example of this in an article on Ireland’s competitiveness by The Irish Times’s chief economics journalist, Dan O’Brien, in the issue of February 4 last. While acknowledging that there are many ways of measuring competitiveness and that the National Competitiveness Council employs more than 100 competitiveness indicators in its annual reports,O’Brien then devotes most of the rest of his article to the old diehards – prices and labour costs.

Irish economists have an extraordinary tendency to rely on the EU’s harmonised index of consumer prices (HICP) as a measure of competitiveness, even though its relevance to Ireland’s export competitiveness is not immediately obvious – it is hard to see what bearing the price of a meal or a CD player has on the competitiveness of the organic chemicals or software sectors. Nevertheless, O’Brien regards the fact that Ireland’s HICP fell relative to the rest of the EU between late 2008 and early 2010 as evidence of Ireland “regaining” competitiveness.

O’Brien then suggests that trends in economy-wide unit labour costs (the ratio of wages to net output) are a better indication of Ireland’s improved competitiveness. However, the fact is that the vast majority of the Irish workforce are not engaged in export activity and, again, it is hard to see how the unit labour costs of a waitress or CD player salesperson have a bearing on the competitiveness of the main export sectors identified above. While Ireland’s economy-wide unit labour costs have tended to rise relative to the rest of the EU over the last ten years, the opposite has been the case in unit labour costs in manufacturing, the great bulk of whose output is exported. Yet, while the latter are to be found in the same page in the OECD website as the former, they are rarely, if ever, quoted by Irish economists.

There are no comparable data for export services, but the Forfás Economic Impact surveys indicate that payroll costs as a proportion of value added in foreign-owned export services (which account for 95% of the total) fell from 19% in 2000 to 9% in 2008 – a fall of over 50% in unit labour costs.

This is not to say that labour costs are important (never mind crucial) in the competitiveness of Ireland’s main export sectors. If general labour costs were a key determinant of competitiveness, then one should expect exports in all sectors to be influenced by labour cost trends. However, Ireland’s main export sectors have been very variable in their export performance, and there is no evidence that this variability has been influenced in any way by labour cost trends. Between 2000-2006 (the last year for which the relevant data are available), the chemicals & pharmaceuticals sector experienced volume output growth of 50%, despite a rise of 50% in the share of costs accounted for by pay (up from 12.6% to 18%). In the electronic components sector, there was a more modest rise in the labour share of costs from a lower base (up from 13.1% to 16.4%) yet production volume fell by 7%. In the office machines and computers sector, a fall in labour’s already very low share of total costs (down from 4.1% to 3.5%) produced volume growth of 22% - much more modest than that experienced by chemicals & pharmaceuticals.

The key point is that the idea of Ireland Inc. gaining or losing competitiveness is meaningless. Ireland’s exports are dominated by a small number of sectors whose characteristics are extremely varied and whose export performances are equally varied. Adding up these performances and then concluding from the total that Ireland is becoming more or less competitive is pointless. Over the last ten years Ireland has experienced strong export growth in a range of export services, and in pharmaceuticals and medical devices, modest growth in chemicals, and, overall, a sharp fall in exports of electronics hardware. A wide range of factors account for this export variability, of which labour costs play, at most, a minor role. In compiling its Global Competitiveness Index, the World Economic Forum employes no less than 113 quantitative criteria; in Ireland’s case labour cost factors account for less than two per cent of the total value of the competitiveness index.

The economists’ disconnect from the real world is nicely demonstrated from a passage towards the end of Dan O’Brien’s article. Referring to evidence that average productivity in Ireland has been raised by the collapse of the low-productivity construction sector, he suggested as an example that “a bricklayer produces less than the average assembly-line worker or office drone (sic)”. Productivity in the construction industry is indeed low when compared with manufacturing or business services, but O’Brien’s choice of bricklayers for his example was surely unfortunate. Assuming that earnings bear some relationship to productivity, in 2006, when industrial production workers were earning €601 per week, clerical and secretarial workers €540 and administrative civil servants €819, the average weekly earnings of all skilled construction workers came to €877 and there was one report of bricklayers at that stage earning over €3000 per week! The company making these payments was also reportedly paying its Turkish labourers €2.50 per hour. They might have been a better choice for O’Brien’s example.

Economists’ disconnect with the real world not just confined to Ireland

Proinnsias Breathnach: The disconnect between the economics profession and the real world of business and commerce which is so apparent in Ireland is not, apparently, confined to this country. In an article on the strong performance of the German economy in 2010 in last Friday’s (January 14) Irish Times, Derek Scally quotes two German economists who attribute this performance to greater labour flexibility and associated lower labour costs. Scally appears to have accepted this viewpoint, given the article’s subtitle: “A decade of labour and welfare reform laid the ground for Berlin’s latest success story”.

Yet the one example from the real world of business cited in the article gives an entirely different reason for Germany’s export growth. Daniel Dreizler, partner in a producer of high-tech gas burners for boilers, attributes the firm’s success to “long-term thinking and consistent investment of 5 per cent of turnover in research and development of high-tech patents and products”. Dreizler goes on: “We aren’t the ones who can offer a standard product cheaper; we will never manage that…We can offer a quality product that is more efficient and offers technical advantages, and argue for the price premium on that basis”.

Scally describes Dreizler as a “classic example” of “all that’s right with the German economy”. Yet the rest of his article highlights labour market and welfare reform as the key to Germany’s renewed economic success, even though Dreizler makes no reference at all to these. Is it too much to expect joined-up thinking in what purports to be Ireland’s leading serious newspaper?

Constant repetition does not make an argument correct

Proinnsias Breathnach: Garret Fitzgerald’s Saturday articles in the Irish Times have become so repetitive as to be hardly worth reading anymore. Last Saturday he was at it again, pushing two of his favourite hobby horses whose correctness he seems to take for granted but which, in one case, is quite questionable and, in the other case, is plain wrong.

The latter refers to Dr. Fitzgerald’s repeated assertion that Ireland’s export competitiveness was undermined in the early 2000s (due mainly to government-induced inflation) and that, that as a result, Ireland’s share of global exports fell by one fifth.

In fact, the available data directly contradicts these assertions. OECD data show that unit labour costs in Irish manufacturing (most of whose output is exported) fell by nine per cent between 2000-2007. Very few of our main trading partners bettered this, and overall Ireland’s position improved vis-à-vis the Eurozone, the EU and OECD.

The OECD does not publish similar data for export services, but we can compute from Forfás data that unit labour costs in Irish export services fell by a quarter in the same period. This presumably was better than most of our competitors, as Ireland’s share of global services exports more than doubled in this period (from 1.23% in 2000 to 2.75% in 2007.

Overall, according to World Trade Organisation data, Ireland’s share of global exports of goods and services rose from 1.21% in 2000 to 1.235% in 2007. I presume that Dr. Fitzgerald’s assertion of a fall in global export share refers to merchandise exports, but these only accounted for just over one half of Ireland’s total exports by 2007. Even then, most of the fall in merchandise exports was confined to a single sector (office and data processing equipment) where special circumstances applied viz. the dot.com crash of 2000-1 and the emergence of China as a major low-cost competitor in this sector which has impacted negatively on the export share of most western economies.

Garret Fitzgerald’s second hobby horse is his argument that Ireland’s system of multi-seat constituencies is responsible for the preoccupation with local affairs of Irish TDs, due to the competition it engenders between TDs from the same party. It would seem more obvious to me that the local focus of our TDs arises from the highly-centralised nature of Ireland’s administrative system which means that local residents are forced to go to their TDs to seek intercourse with this system. In most other European countries most everyday public services (health, education, social welfare, community care and facilities) are the responsibility of local government, leaving parliamentarians free to devote their attentions to matters of national interest.

Any attempt at political reform which fails to address this basic structural problem in Ireland’s political/administrative system is, in my view, doomed to failure. Garret Fitzgerald favours a system whereby Dáil Éireann would be elected by a combination of local representatives and a national list system. I would argue that we should eliminate local representation entirely from our lower house of parliament. Instead – if it is to be retained at all – the Seanad should be made up of local representatives whose main function would be to review legislation arising the the Dáil for its possible local impacts. This would give it a more focused and clear-cut function than it has at present.

Is high income tax bad for the economy?

Proinnsias Breathnach: In the debate over the extent to which the Irish government should resort to tax increases or expenditure cuts in correcting its fiscal deficit, it is presented as a self-evident truth by most economists and government ministers that we should avoid tax increases as far as possible because of the negative impact they would have on economic growth. The other day Richard Bruton referred to “international evidence” in defending this position, but of course didn’t tell us what or where this evidence is.

In the Irish Times last Thursday, we had Don Thornhill, Chairman of the National Competitiveness Council, trotting out the same argument. Thornhill stated quite bluntly that higher income tax rates “would be bad for competitiveness” and are “a disincentive to people to remain in the labour market”.

If this simplistic argument were in fact true, one might expect countries with high rates of income tax to be less successful economically and to have higher rates of unemployment.
I have compared the average proportion of wages paid in income tax by a single individual (without children) in the 23 richest OECD countries (excluding Luxembourg) in 2009 with those countries’ per capita GDP (GNP in the case of Ireland) and unemployment rate. The correlation coefficient between income tax burden and per capita GDP is 0.363 and between income tax burden and unemployment rate is -0.08.

The first thing to note about these correlations is that they are quite weak – in other words there is no strong association between income tax and per capita GDP or unemployment rate. Secondly, to the extent that there is an association, it is in the opposite direction to what one might expect from Thornhill’s contention. Thus, the higher a country’s average income tax burden the higher its per capita GDP and the lower its unemployment rate are likely to be. In other words, there is a tendency for countries with higher levels of income tax to be more economically successful and have fewer people unemployed.

I have also looked at the overall tax burden (tax revenue as % of GDP) in the 23 countries included in this exercise and found a weak but positive correlation (0.29) between it and per capita GDP. In other words, countries with high general tax burdens are also likely to be among the wealthiest countries. In fact, six of the ten countries with the heaviest tax burdens in the world are in the top ten countries in terms of per capita GDP (oil-rich countries excluded).

This is a fairly simple exercise, but at least it provides some evidence which challenges the widely-held position presented by Don Thornhill. An obvious counter-argument to this position is that a tax system which redistributes revenue from the rich to the poor also moves money from those most likely to either save or spend their money abroad to those most likely to spend their money and to spend it on locally-produced goods and services, thereby benefitting domestic firms.

Another argument presented as being axiomatically true by most Irish economists and business people is that reduced wages are the key to national economic success through – allegedly – improving competitiveness. How does one square this argument with the fact that the most competitive economies in the world are the ones with the highest wages and living standards? The same economists and business people seem unable to grasp the simple fact that cutting wages actually undermines demand for the products and services which these businesses produce. In other words, high wages and high taxes can actually be good for business.

Anthony Leddin on Ireland's export competitiveness

Proinnsias Breathnach: Last Friday’s Irish Times (November 12) contained an article by Dr Anthony Leddin, Head of the Department of Economics at the University of Limerick, which raises further serious questions about the quality of advice on economic policy emanating from Irish academic economists.

The basic thrust of the article was that Ireland’s international competitiveness declined seriously for most of the 2000s due mainly to rising costs, but that a fall in costs and wage restraint since 2007 helped reverse this trend. Leddin concludes that a deflationary budget, through further containing wage and other costs, will work to Ireland’s long-term advantage by enhancing competitiveness.
Leddin cites trends in what he terms net exports (i.e. exports minus imports) in support of his argument. He states that net exports fell from a surplus of €226 millions in 1999 to a deficit of €10.124 billions in 2007 (reflecting falling competitiveness) but then recovered to a deficit of €4.85 billions in 2009 (indicating improving competitiveness).

Even if these data were accurate, they would indicate a highly unlikely speed of response on the part of trade volumes to changes in costs. However, much more seriously, not only are the data inaccurate, but the trends derived from the data are the opposite of actual trends in net exports. In 1999, according to CSO Balance of International Payments data, total exports of goods and services exceeded imports by €12 billions, not the €226 millions claimed by Leddin. Between 1999 and 2007, the excess of exports over imports increased by €6.7 billions (to €18.7 billions), directly contrary to the fall of €10.3 billions postulated by Leddin.
Over the next two years Ireland’s trade surplus grew by a further €9 billions to €27.7 billions (according to Leddin there was a deficit of €4.85 billions in 2009).
The data cited by Leddin refer, not to net exports, but the so-called “balance on current account” which includes not only net flows of export revenues but also net flows in factor income and transfer payments. By far the biggest component of the latter elements is net direct investment income i.e. income earned by transnational firms from overseas operations.

In 1999, the net outflow of direct investment income came to €13.5 millions, which exceeded the trade surplus. However, a surplus in other investment income gave a small surplus in the overall current account of €226 millions which is the figure given by Leddin for the trade surplus. By 2007 the net outflow in direct investment income had doubled to €26.3 billions, €7.7 billions greater than the trade surplus. Deficits in transfer payments and other income flows produced the overall current account deficit of €10.1 billions which Leddin presented as the trade deficit.

Over the next two years the net outlow of direct investment income rose by €2.6 billions but a much sharper rise in the trade surplus (of €9 billions) produced the substantial fall in the current account deficit which Leddin presented as a fall in the trade deficit.

Overall, therefore, where Leddin claimed that Ireland’s net exports fell by €10.4 billions between 1999-2007, they actually rose by €6.7 billions. This, of itself, undermines Leddin’s argument that Ireland’s competitiveness deteriorated in this period. Indeed, the key factor in the difference between Leddin’s purported net export data and the true position, i.e. rapid growth in the net outflow direct investment income, is itself an indicator of rising rather than falling competitiveness, to the extent that it reflects rising profitability among foreign firms based in Ireland.

It is shocking that a senior academic economist would make such a glaring mistake in the presentation of basic macroeconomic data. What is more disturbing is that this is just the latest instance of misinterpretation (or non-interpretation) of data by a wide range of economists in support of an erroneous view that Ireland’s competitiveness was undermined in the first decade of the current century. I have already refuted this view in some detail in a series of articles on the Ireland After Nama website (May 2010).

Almost unanimously, these economists further attribute this postulated loss of competitiveness for the most part to rising labour costs (itself not true, at least insofar as it applies to Ireland’s main export sectors). The idea that international competitiveness is primarily dictated by labour costs is extraordinarily simplistic (and of course untrue, at least for the markets in which Ireland participates).

What is even more extraordinary is how widely held this idea is among Irish economists. It is a view very firmly held, for example, by Alan Aherne, Brian Lenihan’s economic advisor who wrote in the Sunday Tribune (January 11, 2009) that “if we are to regain competitiveness, we have to do it the difficult way – through wage cuts” and followed this up on RTE’s Morning Ireland programme (January 19, 2009) with the view that “the only way to improve export competitiveness is through wage cuts in the export sector”.

This immediately rules out enhanced productivity, design and performance improvement, technological upgrading, marketing and branding, to mention just a few of the standard approaches used by firms to improve market share in the real world. If the Irish government’s economic policy is based on views and analyses of the level of accuracy and sophistication indicated here, then there really is little hope for us at all.

'Smart economy' is crucial for future jobs growth

Proinnsias Breathnach: Recent calls for a shift in the focus of Irish economic policy from the promotion of a “smart” economy to the cultivation of conventional manufacturing have attracted considerable media interest. In an address to the Lemass International Forum, Seán O’Driscoll, Chief Executive of Glen Dimplex, maker of electric heating appliances, argued that, during the Celtic Tiger era, Ireland had neglected its manufacturing base – in effect, we had “stopped making things” – in pursuit of “financial engineering” and what he termed the “imaginary” Smart Economy.

Meanwhile, according to media reports, economist Colm McCarthy, Chairman of An Bord Snip Nua, told the Richard Cantillon School that Ireland needed to rebuild its light manufacturing capacity which, he argued, was the driver of the original Celtic Tiger boom. This, he said, offered far greater prospects of replacing jobs lost in construction, retailing and manufacturing than the kinds of jobs likely to ensue from the smart economy policy.

David Begg, General Secretary of the Irish Congress of Trade Unions, followed up with the view that, in recent years, the services sector has grown rapidly at the expense of manufacturing and that it is naïve to think that the “so-called” smart economy could solve our employment problems.

All three arguments are at odds with the facts, display ignorance of how economies function to create employment, and appear unaware of how the Irish economy has developed over the last 20 years.

For a start, the idea that manufacturing and the Smart Economy are mutually exclusive is simply not true. The government document, Building the Smart Economy, states quite clearly that “Manufacturing will continue to play a fundamental part in our economic future, with an increasing focus on securing competitive advantage through innovation, R&D and design”.

The idea that manufacturing and services are mutually exclusive is equally incorrect. A key feature of modern advanced economies is the increasing integration of manufacturing and services. Ireland’s leading services export, software, can only work on manufactured hardware. A large proportion of the business services which are our second most important services export are performed by manufacturing firms.

Thirdly, Seán O’Driscoll’s notion that “we had stopped making things” is patently invalid. Between 1991-2000 – the boom period of the “real” Celtic Tiger – Irish manufacturing output grew by 250% in value terms and 225% in volume terms, over twice the overall growth rate of the economy. In this period, manufacturing’s share of total value added in the economy rose from 15% to 23%.

In one of the main drivers of this growth – pharmaceuticals – the average salary in 2000 was two thirds higher than the average for all industry – hardly indicative of the “light manufacturing” which Colm McCarthy reckons was the main driver of growth in this period. While this term might apply to a lot of the work in the other main growth sector (office machines & computers), this sector also includes major high-tech employers such as Intel, HP and IBM where the bulk of workers have higher education qualifications.

After 2000, Irish manufacturing continued to grow strongly – by 43% in volume terms between 2000-2008 – with medical devices emerging as a new star performer. In 2009, manufacturing industry (including power generation) accounted for over one quarter of gross value added.

Seán O’Driscoll’s notion that Ireland’s export competitiveness has been undermined by excessive wage growth is entirely erroneous. According to OECD data, unit labour costs in Irish manufacturing fell by 10% between 2000-2008 compared with an 8% fall in the USA and an increase of 3% in the EU at large. Not that labour costs are a major factor in the total costs of Irish manufacturing in any case – wages and salaries accounted for just 10% of total input costs in the sector in 2007.
David Begg’s view that services have grown at the expense of manufacturing is clearly not true. Even then, the perception that services are in some way inferior to manufacturing as a source of economic and employment growth is to seriously misunderstand their role in the Celtic Tiger phenomenon. Services exports hardly existed in 1990, yet ten years later they accounted for one quarter of total exports and employed over 68,000 workers at average pay levels which were significantly above those in manufacturing.

Since 2000 export services have gone from strength to strength, accounting for almost one half of total exports in 2009 and more than doubling their share of global services exports between 2000-2008. Nor do these services simply involve “manipulating money”, as dismissively suggested by Seán O’Driscoll. In fact, only 28% of services exports are IFSC-related, and lag well behind the two main export categories, computer services (including software) and business services.

Colm McCarthy’s idea of converting unemployed construction and services workers into manufacturing workers is far-fetched. In Germany, one of the most industrially-oriented of the advanced economies, manufacturing accounts for less than one fifth of all workers while only about one third of manufacturing workers in export sectors are unskilled. Large-scale employment in unskilled manufacturing is simply not an option in advanced economies.

In a small open economy such as Ireland, broadly-based employment creation depends on establishing a foundation of exporting, high-value, activities and then maximising the extent to which the spin-offs from these activities (input purchases, consumer spending by workers in export sectors) are retained within the economy. The replacement of the unskilled foreign branch plants of the 1960s and 1970s with more sophisticated, high-salary, activities in the 1990s played a key role in the rapid growth in overall employment in that decade.

Further export growth in the 2000s, in both manufacturing and services, has continued to support employment expansion – even with the collapse of the construction sector and its knock-on effects, there are still 135,000 more people employed in 2010 than there were a decade previously. The current unemployment crisis is attributable almost entirely to the bursting of the construction bubble of the early 2000s. By March 2010, construction employment had fallen by 130,500 from its peak in 2007. Adding in spinoff employment, the total job loss came to about 235,000.i.e. over 90% of the total fall in employment in this period.

What this means is that around a quarter of a million jobs were created in this country on the back of what was an unsustainable construction bubble and were duly wiped out when the bubble burst. In essence, these jobs comprised an excess above and beyond what the real productive economy was capable of supporting. Given the current depressed state of global markets, it could take up to twenty years to clear this excess (much of which will probably emigrate or leave the labour force in the meantime, a process which is already apparent).

Special measures are needed to provide meaningful employment for this overhang of excess unemployment, and there has been little sign of creative action from the government on this front. What is certain is that any action designed to promote low-skill manufacturing will produce minimal results. In an address to the Royal Irish Academy last February, Craig Barrett, former Chairman of Intel (operators of Ireland’s largest manufacturing facility) called for an expansion of investment in education and R&D in order to create the “smart people” and “smart ideas” which were key to Ireland’s future competitiveness. Moves to restrict the growth of the high-tech, knowledge-intensive activities which the Smart Economy entails will prove disastrous for general employment creation in Ireland over the coming years.

Proinnsias Breathnach on Ireland's export competitiveness - myths and facts (III)

Part III of Proinnsias' paper is now available here; click here for Parts I and II.

Proinnsias Breathnach on export competitiveness - myths and facts

Over at Ireland after Nama, Proinnsias Breathnach is taking an in-depth look at the myths and facts surrounding the issue. Part I of his three-part paper is available here, and Part II here. A link to Part III will be posted shortly.

Competitiveness myths ...

"There is a real danger that, encouraged by the economists’ chorus on the need to cut costs as the way to get us out of our current economic troubles, the government will actually undermine Ireland’s long-term competitive position through cutbacks in research and education (in fact, such cutbacks are already being imposed). We desperately need to substitute serious evidence-based analysis for the rote incantation of inherited mantras which currently passes for expert economic advice in the realm of competitiveness policy in this country".

That is the conclusion reached by Proinnsias Breathnach; you can read his full post on Ireland after NAMA here.

Multinationals and Cheap Labour: Myths and Facts

Proinnsias Breathnach: The extraordinarily blinkered and simplistic preoccupation of Irish economists with labour costs was once again in evidence in a book review by Michael Casey, former Chief Economist of the Central Bank, published in the January 4 issue of the Irish Times. Reviewing Graham Turner’s No way to run an economy (Pluto Press), Casey offered the following observation: “multinationals are now more or less beyond the control of the authorities and will shift production to any country in the world to avail of lower wage costs”. This gives the impression that the main consideration of multinational companies (MNCs) in choosing overseas locations is wage costs.

In fact, when one strips out investment in oil-rich economies such as Saudi Arabia and the United Arab Emirates, tax havens such as the Cayman and Virgin islands and the traditional four Asian tigers (Hong Kong, Taiwan, Singapore and South Korea – still included among the “developing economies” by the World Bank etc), the proportion of global foreign direct investment stock located in low-wage economies is of the order of 15%, and even in these cases, much of the investment is oriented towards serving local markets (China, India, Mexico, Brazil) rather than exploiting cheap labour. The fact is that the vast bulk of overseas investment by MNCs is located in high-wage economies, demonstrating that low wages are, at best, a minor factor in influencing multinational investment patterns.

In the same book review, Casey offers a second observation which is so off the mark as to be downright risible: “The lack of demand in the US economy is also due to the compression of wages. This was caused by multinationals leaving en masse for cheap-labour countries.” That someone who is currently a board member of the IMF could offer such a simplistic and erroneous view of what is a highly complex phenomenon is actually quite disturbing.

The idea that US multinationals have been relocating jobs en masse to low-wage economies is simply not true. For a start, the great bulk (70%) of employment in US MNCs is actually located within the USA itself. An even greater proportion (80%) of overseas employment in US MNCs in located in other developed countries. This is reflected in the fact that (according to UNCTAD data) the average overseas employee of a US MNC earned almost $38,000 in wages/salaries in 2005 i.e. 86% of the average salary of all US employees in that year. These are crude averages, but the orders of magnitude are nonetheless indicative. When one allows for overseas investments by US MNCs which are primarily designed to serve local markets, it is likely that the search for cheap labour accounts for less than ten per cent of all overseas employment in US MNCs.

In 2005, overseas employment in US MNCs was the equivalent of 8 per cent of total employment within the USA itself. This suggests that, if all jobs relocated overseas to access cheap labour were to be repatriated, it would increase employment in the USA by less than one per cent. Clearly, such relocations have had, at best, a marginal impact on US wage levels. If Michael Casey is looking for causes for the compression of US wage rates (which are lower now in real terms than they were forty years ago), he might do better to look at other factors such as large-scale immigration of unskilled workers from abroad, low education and skill levels among large swathes of the indigenous population, anti-trade union legislation and the absence of the social protections for marginal groups which are found in more civilised societies elsewhere.

Reduced costs are not the route to export competitiveness

Proinnsias Breathnach: I sent the following to the Irish Times in early December but it wasn't published:

The ability to penetrate export markets is the crucial ingredient upon which Ireland’s recent economic success was built. Today, exports of goods and services are the equivalent of over 80% of gross domestic product compared with less than 30% in 1960. However, the basis of Ireland’s exporting success is very poorly understood by most Irish economic commentators and by the politicians who come under their influence.

There is an extraordinary unanimity among economists that Ireland has been losing international competitiveness and that this is attributable to rising wage levels relative to our main trading partners. This view of Ireland’s competitive position is not only simplistic and erroneous but could be profoundly damaging to this country’s economic future.

In the modern global economy the recipe for competitiveness is a complex mixture of a wide range of ingredients. Up to now Ireland has managed to produce a good blend of these ingredients and, while the unsustainable boom conditions of the 1990s are now well behind us, the export sector has, for the most part, continued to perform quite solidly. Contrary to what appears to be a common view, Ireland’s exports grew in real terms (i.e. allowing for price changes) in each year between 2000-2007. Export volumes did fall by one per cent in 2008, and have fallen further in the first six months of 2009. However, the rate of export decline has been much lower than for the EU and OECD countries at large, which means that Ireland’s share of export volumes in both these regions has actually been growing.
Between 2000-2008 Irish exports grew by a total of 47% in real terms. While Ireland’s share of total world exports (in current value terms) did fall slightly in this period, this was due mainly to contraction in the electronics sector arising from growing competition from Asia, and particularly China. By contrast, Ireland has increased its share of global exports in six key sectors which, between them, now account for one half of our total exports: computer services (mainly software), insurance, financial services, other business services, odourifous mixtures (mainly drink concentrates) and heterocyclic compounds. Ireland’s share of global exports in some of these sectors is extraordinarily high, ranging from 18% (insurance services) through 21% (computer services/software) and 28% (heterocylic compounds) to 40% (odouriferous mixtures).

Strong growth in these sectors clearly has not been inhibited by rising labour costs. It could be that, unlike elsewhere in the economy, productivity is rising more quickly than wage costs in these particular sectors. However, in order to properly understand why Ireland might have a competitive advantage in sectors such as these requires a somewhat more sophisticated analysis of the nature of competitiveness than has generally been offered to the Irish public by our politicians and economic commentators.

The National Competitiveness Council (NCC) was established in precisely to provide such analysis, which it does in its annual Competitiveness Report. Unfortunately, the fruits of the NCC’s labours appear to have never troubled the gaze of those who seek to influence or formulate Irish economic policy. In its Competitiveness Reports, the NCC uses 18 different indicators (just one of which relates to productivity and labour costs) to assess Ireland’s competiveness. These include, inter alia, business environment and performance, physical and knowledge infrastructure, prices and costs, productivity and innovation. However, the NCC does not quantify these indicators in a way which would allow them to be compared with each other, or combined together to create a composite competitiveness index which would allow Ireland’s overall competitiveness to be monitored over time.
However, such an index is produced in the Global Competitiveness Report published annually by the World Economic Forum (WEF), the Swiss-based independent think-tank organisation. The WEF’s Global Competitiveness Index (GCI) was devised by, and is compiled under the supervision of, Michael Porter of Harvard University, one of the world’s foremost authorities on international competitiveness and author of the path-breaking book The competitive advantage of nations (1990).

The GCI is compiled from no less than 113 different indicators, divided into twelve “pillars” of competitiveness (education, efficiency of labour and product markets, business sophistication, innovation, etc.).. The relative weights given to these indicators vary depending on each country’s level of development. In the WEF’s view, competition based on cost is only appropriate for countries at a low level of development, for whom cheap labour or resources are frequently their only source of competitive advantage.

For countries at an intermediate level of development, the keys to competitiveness are production efficiency and product quality, while for countries at the highest development levels, the key factor is the ability to produce new and different products employing cutting-edge production processes. In the system of weightings applied to this group of countries (in which the WEF places Ireland), labour cost factors account for just 1.7% of the total value of the competitiveness index.
What is more, while Irish economists have been decrying Ireland’s declining competitiveness, the WEF have been moving Ireland up its competitiveness league table, from 30th position in 2002 to 22nd in 2009. From their point of view, Ireland’s key competitiveness weakness lies in infrastructure, along with small market size and the country’s current macroeconomic stability problems. Labour costs are not mentioned.

Evidence from other sources vindicates the WEF’s relatively sanguine view of the direction in which the Irish economy is moving. According to the IDA, the rate of return on US investment in Ireland rose from 19% to 22.5% between 2000-2007. This is over twice the EU15 average and is only surpassed by China, India and Singapore. In 2008 Ireland was the most successful country in the world in attracting foreign investment, up from tenth place the previous year. These are hardly the signs of a country in competitive decline.

Ireland’s economic future lies in maintaining and enhancing the country’s attractions for high-end inward investment. Inward investors repeatedly highlight the skillsets of Irish workers in this context. Spokespersons for the foreign sector have regularly emphasised the importance of continued and expanded investment in education – at all levels – and technological know-how. This was the key message in an article by Jim O’Hara, General Manager of Intel, published in the Irish Times on November 13 last.

Yet the Government appears to have swallowed, hook, line and sinker, the argument that reduced costs are the key to enhanced export competitiveness. This argument is being routinely used to help justify the current programme of spending cutbacks. While there is an obvious need to contain costs, it would be misguided to do so on the basis of false premises. The way to strengthen Ireland’s competitiveness is through expanded spending in education. Spending cuts in this area in order to balance the books in the short term could have very negative long-term consequences.

Casino capitalism and the way forward

Click here to read an article by NUIM's Proinnsias Breathnach in Irish Left Review, in which he argues that:

The crisis was not caused by trade unions, the public service or the level of public spending, which is quite low by international standards. Furthermore, a recent report by the National Competitiveness Council concluded that the productivity of the Irish public sector is favourable by international standards. A lot of commentators have seized on the current crisis to pursue old hoary agendas.

At national level, we need much more effective leadership than we have got from the present government. We need to get across-the-board agreement on what needs to be done, and a commitment to supporting the agreed recovery programme from all stakeholders and interest groups.

We need a national forum of experts (not just economists) to advise the government - reliance on just one economic advisor is just not good enough.

We need a comprehensive plan for national recovery and development with clear strategies, priorities, and targets - not the kind of piecemeal approach to reforms and savings which An Bord Snip and the Commission on Taxation represent.

You can read the rest of the article here.