Why Ireland boomed.

• Author: Burnham, James B.

The great economic success story of the past ten years has been the Republic of Ireland. At the end of the year 2000, Ireland could look back on fourteen years of uninterrupted economic growth, which had accelerated to nearly I0 percent annually in the closing years of the i990s. With this growth came markedly lower inflation, one of the lowest unemployment rates in the European Union (EU), and a growing government-budget surplus. Most dramatic, however, was the return to Ireland of young workers in increasing numbers to fill new jobs awaiting them at home.

Contrast this happy state of affairs with that of the mid-1980s, when the unemployment rate reached i7 percent, emigration soared, the government's finances were a shambles, and submission to a draconian International Monetary Fund (IMF) program was considered as a means of getting the economy back on track.

How did the dramatic turn of events come about? What lessons, if any, might the Irish events teach others? In this article, I examine the sources of the apparent transformation of the Irish economy. How much was the result of conscious, farsighted government policies? To what extent did historical trends or external events play a part?

The analysis here demonstrates that the adage "fortune favors the well prepared" applies especially well to the Irish case. To be sure, Ireland had been well prepared by virtue of sound, sustained policies in matters such as taxes, education, and telecommunications. These policies, though improvements, were not revolutionary by any standard, nor were they part of a grand, overarching plan. Even when dramatic results followed from the adoption of market-oriented measures, as in the case of deregulation of Ireland--United Kingdom air routes, the lessons were not applied with vigor elsewhere in the economy. In short, Ireland illustrates how large the payoffs from better policies can be in a few critical sectors in the presence of favorable external factors.

Starting Points

The Republic of Ireland is a small, relatively new nation on the western edge of Europe. After emerging as the Irish Free State in 1922, following a long history of conflict with Great Britain, it promptly plunged into a civil war that lasted until 1923. At that time, the population included fewer than three million people and was dwindling. The new nation's desire to demonstrate economic "self-sufficiency" as well as political independence contributed to the adoption of inward-looking, protectionist policies: high tariffs, bans on majority foreign ownership in industry, and the establishment of state-owned enterprises in areas such as power generation, shipping, banking, and insurance (Foster 1988; MacSharry and White 2000). These policies were pursued well into the 1950s, with increasingly perverse results. The economy stagnated, emigration soared (more than four hundred thousand people left Ireland between 1951 and 1961), and foreign trade remained tied in large part to the United Kingdom (UK).

By the mid-1950s, the hopelessness of the situation, combined with the emergence of the Common Market (even though Ireland was not a member at the time) brought about the first significant change in government attitudes. Foreign investment, particularly in exporting industries, was made welcome. In 1956, new investors' export-derived profits were made tax free for a fifteen-year period. Restrictions on foreign ownership of industry were phased out, with full repeal in 1964. Recognizing the importance of low-cost imports for the exporting industries, tariff barriers began to be lowered. Still outside the Common Market, Ireland entered into a free-trade agreement with the UK in 1965.

The Industrial Development Authority (IDA), established in the 1950s, played an active role in soliciting foreign investment and provided substantial--and frequently controversial--subsidies for many firms in the form of nonrepayable capital grants, ready-made facilities, training, and research-and-development (R&D) grants. An industrial estate and free-trade zone, with full profits tax exemption, was established at Shannon. This city also hosted the major trans-Atlantic base for all commercial air traffic between North America and northern Europe until the advent of the Boeing 707 in the early 1960s.

All of these initiatives, however, were taken in the context of the prevailing view that the government, through its ownership of key sectors (for example, power and telecommunications) and a series of national development plans, had a major role to play in economic development. Although doctrinaire socialism has never been a prominent feature of Irish economic policy, as it was in England for a time, neither the political leaders nor their economic-policy advisers have made a Reaganesque or Thatcherite commitment to rely on the "magic of the marketplace."

The effort to entice foreign, in particular American, investment in Ireland began to show measurable results by the end of the 1960s. During that decade, 350 foreign companies were established and rapidly became leaders in the export sector. Traditional industries, however, were slow to adopt new ideas or to increase their exports (Foster 1988, 579).

Economic performance in the 1960s at first glance appears to have been satisfactory. Average annual growth in real output exceeded 4 percent (table 1). However, net emigration persisted (at a somewhat lower rate than in the 1950s), total employment stagnated, and the number of unemployed persons rose as a rise in manufacturing and service jobs was offset by continued job declines in agriculture. In Ireland, as in most countries and regions, a higher gross national product (GNP) means little politically if people are still voting with their feet to find jobs abroad.

First Steps Forward

Ireland's long-anticipated entry into the Common Market in 1973 (along with the UK) set in motion important structural and psychological changes for the country at all levels. The Common Market provided an alternative to England and the United States as an outlet for Irish energies. At last, Ireland was positioned to reduce its historic dependency on the UK market, a long-sought if generally unremarked goal for many.

The immediate impact was a boom in agriculture as Irish exports gained free entry into a vastly expanded market at attractive prices. Between 1972 and 1978, real farm income rose more than 40 percent, and land prices soared (MacSharry and White 2000, 152). Foreign investment continued to grow, although not without problems. In 1977, the largest foreign employer, a subsidiary of a Dutch multinational, closed, causing a loss of fourteen hundred jobs. Although poor management-labor relations apparently brought about the closure, the Irish Republican Army's kidnapping of the plant manager in 1975 might have contributed to the shutdown decision (258).

By some measures, the record of the 1970s constituted an improvement over that of the previous decade. As table 1 shows, real GNP growth again averaged close to 4 percent per year. (1) The net loss in migration was reversed, but inflation--fueled by loose fiscal and monetary policies--soared, the government's foreign borrowing skyrocketed, and unemployment rose. Although the oil price shock of 1973-74 was a factor, Irish economic performance, compared to that of other European countries, was well below average.

By the end of the 1970s, some Irish economists were calling for a repudiation of the national debt, labor strife was rampant, and political leadership was sorely lacking. Thanks to entry into the Common Market, the farmers enjoyed the ride, and foreign investment continued to create jobs, but there was little evidence of a decisive break with previous patterns of development, even if the net outflow of Irish citizens to other countries had been modestly reversed.

One important step forward was taken, however, in tax policy. The European Commission objected to the tax exemption on export-derived profits as excessively discriminatory. (The existing statutory rate on domestically traded output was 50 percent.) In 1978, the Irish government negotiated a very favorable "compromise" that enabled it to make a twenty-year commitment to a 10 percent rate on all manufacturing, while still honoring the zero-rate, twenty-five-year commitments made to earlier investors (MacSharry and White 2000, 249-50).

The 1980s: Touching Bottom

If analysts were gloomy at the end of the 1970s, they had even more cause to lack optimism throughout much of the 1980s. The government's budget deficit averaged 12 percent of gross domestic product (GDP) in the first half of the 1980s. Concerns about the country's creditworthiness began to spread to international investors. A start at bringing government spending under control helped to cool down the economy but sent the unemployment rate up to a high of 17 percent in 1986. Job growth through 1986 averaged--1.3 percent, and the net outflow of citizens resumed (see table 2). Out-migration peaked at forty-four thousand in 1989. With two important exceptions (both overlooked by most analysts), the government took no decisive action in restructuring the environment for business or in selling off inefficient state enterprises, as the UK government was doing under Margaret Thatcher.

IDA policies came under attack from a variety of critics. A government report in 1982 found that policy was "overly generous towards multinationals--relative to what was needed to attract them--and providing the wrong kind of incentives." IDA policies historically tended to favor capital-intensive investment, such as those of chemical and pharmaceutical companies, provided few penalties for firms that did not live up to their original employment projections, and did little outsourcing with Irish firms (O'Grada 1997, 118). Shortly thereafter, IDA programs and marketing began to concentrate more on the service sector, in particular software and...