The Irish Austerity Plan

by Veronique de Rugy

The government of Ireland just outlined a €15 billion austerity plan. According the Wall Street Journal:

The plan detailed €10 billion in spending cuts, plus €5 billion in tax and revenue increases to bring the budget deficit to below 3% of GDP by 2014 from an estimated 32% in 2010—or 11.7% excluding the cost of the bank bailout.

The government vowed to maintain its 12.5% corporation-tax rate, but said the four-year plan will raise €1.9 billion through income-tax changes, and said it will raise value-added tax to 22% in 2013 from 21% currently.

Of course, the increase in tax revenue may just be wishful thinking.

It will be interesting to see if the markets respond positively to this plan. They haven’t been impressed with the announcement of the bailout so far, as Paul Krugman explains in this good post (ignore his rant about austerity measures).

The Irish are vowing to maintain their 12.5 percent corporate tax rate, which is great news. Some countries that never liked the tax competition from Ireland are using this crisis as an excuse to blame Dublin’s woes on low tax rates. (The Germans and the French, for instance.) Many liberal American pundits, always eager to argue against low tax rates, have done the same.

But that’s probably because they haven’t looked at the data. Don Boudreaux has:

The modern, tax-rate-cutting liberalization of the Irish economy is commonly dated to have begun in earnest in 1987.  In that year, Irish government receipts were about 10 billion euros and expenditures were about 12 billion euros.  Over the next 20 years, government receipts and expenditures both rose, largely in lock-step with each other, to about 55 billion euros.  Steady and significant increases in the government’s expenditures tracked closely the steady and significant increases in receipts.  But since 2007, although government receipts have since fallen to about 42 billion euros, government spending continued to rise.  That spending was more than 70 billion euros in 2009.  (These expenditures are falling back a bit, to about 66 billion euros in 2010.)

As a percentage of Ireland’s (fast-growing) GDP, government expenditures fell steadily from 1987 until 2007 – but then rocketed upward from about 36 percent of GDP in 2006 to about 58 percent in 2009.  (These expenditures will be about 54 percent of Irish GDP in 2010.)*

Over at International Liberty, Dan Mitchell has a chart showing the spectacular increase in tax revenues that followed the cuts in tax rates. It also shows how these tax revenues were promptly devoured by government spending. But the Irish government, like many others, wouldn’t restrain itself to spending within the limits of what it collects.

As we see, when the financial crisis hit a couple of years ago, tax receipts started falling. That wasn’t the result of cuts in rates, but of lower economic growth. However, as the chart shows, politicians didn’t stop spending to adjust to lower receipts.

Considering that Ireland’s insolvency started after the government had consumed over half of the wealth produced by the country, and following almost 20 years of increases in tax revenue, it seems hard to argue that it’s the low tax rates that fueled the crisis.