No recovery yet - and debt deflation

Michael Burke30/06/2010

Michael Burke: The Q1 real GDP figures show the economy expanding by 2.7%. No doubt these will be hailed as a turning-point, and even a vindication of policy. If only that were true.

As everyone knows, this is a twin-track or two-speed economy. Organisations such as the ESRI, OECD, IMF and EU Commission all forecast that the export sector would recover reflecting the rebound in global demand following the recession, but that the domestic economy would remain mired in recession. That's what is happening. GNP, the domestic sector of the economy contracted again in Q1 by 0.5%, for the ninth consecutive quarter, far longer than in any other Euro Area economy.

But even this is to understate the true picture. Usually, growth data is presented in real terms, so that it is real activity that is captured not just inflation. But Ireland is experiencing deflation, a generalised fall in prices. So, concentrating on the 'real' numbers means not extracting the effects of deflation. To do that, we have to go to the nominal numbers, the actual Euros produced or spent in each category of national income.

Then the picture is more accurate. Just much worse. On this measure, GDP grew by just 0.1% in Q1 (€38.752bn compared to €38.715bn in Q4 2009- that's just ¤37mn) and GNP contracted by a massive 6.8% in the quarter. Nominal GDP fell 4.4% year-on-year and is now 20.2% below its end-2007 peak. GNP fell 8.6% from a year ago and is now 27.6% below its peak. This is an Irish Depression.

If we take the components of growth the data are as follows: personal consumption is down 4.6% year-on-year, -19.6% from the peak; current govt. spending down 8.9%, -11.2% from peak, and investment remains the biggest single contributor to the slump with gross fixed capital formation falling 7.6%, -66.4% from its peak. The decline in investment actually exceeds the decline in GDP, and accounts for 93% of the decline in GNP. Exports are the only bright spot, up 3.5% from a year ago, belying the idea that the economy is uncompetitive, they are 5.1% below their peak. But the improvement in net exports is actually greater as import demand continues to decline.

Unsurprisingly, given the litany of declines in all other sectors, net exports more than accounts for the entirety of quarterly GDP growth, €2,137bn of a total improvement of just €37mn. Taken together, personal consumption, government current spending and investment fell by more than ¤2bn in the quarter. Because this is on export-only recovery and the sector is capital-intensive, dependent on imports and has ultra-low taxes, this 'recovery' will actually lead to increased joblessness, bankruptcies and a widening of the deficit. Even worse, rampant deflation will increase the real debt for all households, businesses and of course the government, making interest payments and debt repayment more burdensome from shrinking national incomes.

Posted in: EconomicsFiscal policyFiscal policy

Tagged with: GDPDeflationgrowth



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