IRELAND AND BRAZIL...WHAT CAN WE LEARN FROM ONE ANOTHER?

I am delighted to speak at the Liberty Forum here in Porto Alegre in Brazil. 

First of all, let me introduce myself. 

I spent 35 years in Irish politics, and 5 years as a diplomat representing the EU in the United States. Now my role is primarily in private business.

I work promoting investment in the Irish financial services industry. Ireland is a major global centre for the listing of investment funds, including many Brazilian funds. We are a global centre for aircraft leasing, for fund administration, and international banking and insurance.

I am also chairman on the European Sustainable Materials Platform, which works to ensure that Europe uses non renewable as sparingly and efficiently as possible.

I wish to talk this evening about the challenge of sustainable economic development, and drawing on the example of what was done well, and less well, in Ireland.

Of course, Brazil is a huge country of 200 million people, and Ireland is a very small one, so comparisons are not exact.  

Brazil is still heavily dependent on natural resource exports, the product of the land and of mines.

10% of the Brazilian state’s revenue comes from mining taxes and levies. Brazil has large unexploited oil reserves.

Brazil is vulnerable to climate change, which is melting the Andean glaciers,90% of which drain into the Amazon. Drought adversely affected hydro power this year. 

Brazil is currently building the third largest hydro power plant in the world and 70% of its electricity already comes from hydro sources.

Brazil’s exports are 11% of its GDP, whereas exports are 100% of Ireland’s GDP. Brazil is still protectionist in some respects. It increased tariffs on 100 products in 2012.

Brazil’s government Debt/GDP ratio is 40%, and most of it is owed to Brazilian creditors. Ireland’s equivalent ratio is 120% and much of Ireland’s government debt owed to creditors outside Ireland.

Brazil has a Fiscal Responsibility Law, enacted in 2000, which ties it to a goal of a 3% primary budget surplus, and to achieving a structural primary balance on its budget. The IMF has found that the Brazilian Government has recently tried to circumvent these disciplines and added

   

“these actions and policies have started to undermine the credibility of the policy framework and to reverse the downward  trend in the gross debt to GDP ratio”

Ireland, by a Treaty approved in a Referendum in 2012, has committed itself to similar disciplines. Ireland has enacted a similar Fiscal Responsibility Law, and will come under similarly close observation in the years ahead. 

Brazil’s unemployment rate is only 5.5%, as against 13% in Ireland.

Inflation is a problem in Brazil, but not in Ireland.

The reasons for Brazil’s higher inflation rate include

1) the fact that Brazil has an automatic  system of wage and pension indexation, and 2) has a flexible exchange rate, whereby devaluations of the currency can increase Brazilian domestic prices more  easily than is the case in Ireland, which, as a member of the euro, cannot unilaterally devalue its currency.  

Brazil is acutely short of school building and it needs to invest heavily in its ports, airports, and in its electricity grid.  Bottlenecks in these areas are preventing economic development.

It takes an unduly long time to set up a new business in Brazil, 119 days, as against less than 14 days in Mexico and Chile. For ease of staring a new business, Ireland ranks 12th in the world, but Brazil is 123rd.

Enforcing a contract through the legal system in slow and expensive in Brazil. Brazil ranks 118th in the world in a recent survey whereas Korea ranks second, the US 7,th and Ireland   62nd

Ireland ranks  6th, but Brazil is in 80th place in the ranking for protecting investors.

THE ECONOMIC BACKGROUND TO IRELAND’S SUCCESS

I would now like to say something about some the things Ireland did well, and did badly, which may have relevance to the challenge facing Brazil

Irish economic growth accelerated rapidly during my term as Prime Minister or Taoiseach, from 3.5 in my first year to 11% in my last.

This was largely due to a harvesting of the benefits of changes that had been made in the previous 30 years, but which had been prevented  by other factors from yielding their full fruits until my time in office. 

The profound changes for the better, that I refer to here, include

+  a low corporate tax policy (1956),This was initially introduced to promote exports, but now applies to all business. A 12.5% rate applies across the board. It has helped Ireland attract a great deal of foreign investment and thereby become a world leader in pharmaceuticals, medical devices, international financial services and software +  opening up to free trade (1966 to 1973), This policy was not popular at the time and led to job losses in sectors like  clothes and shoe manufacture, but was vital to modernising our economy and attracting foreign investment+  free second level education (1966), Ireland was 20 years behind most European countries in doing this but it was a decision that paid big long term returns, as I expect the improved educational participation brought about by the Braxilian government initiatives will also do+  EU membership (1973),This was a vital decision too. It brought big benefits in terms of access to markets and funds for infrastructure development. But even more important it imposed necessary disciplines on our own policy. We were forbidden by EU rules from subsidizing particular industries, by cheaper energy or current subsidies of any kind. Sometimes it is helpful to have an external agent imposing disciplines like this.+   investment in technological education( 1980’s), The availability of young people with good technological skills was vital in attracting Foreign investment in new business start ups in Ireland+  improved tax collection (1987), This is something in which I was directly involved myself as Finance Minister. We introduced a system of self assessment for income tax, higher penalties for tax evasion, and simplifies tax filing systems. As a result Ireland was number one in the world for ease of tax  collection, whereas Brazil was 150th. The number of hours it takes a firm to meet its tax filing obligations should be kept to an absolute minimum. The tax system should be as simple as possible. VAT should be levied at point of final sale, not at different stages in the value chain+   improved court services(1990’s), This included the setting up of specialised courts with special expertise in different types of the dispute. Ireland’s specialised Commercial Court has been a particular success+   aggressive promotion of foreign direct investment (1960 to date). Ireland’s Industrial Development Agency (IDA) has offices all over the world and has had particular success in attracting a disproportionate share of US investment coming to the European Union market, of which Ireland is an integral part. Were we not members of the EU we would not have been able to attract that investment, because our access to the EU market, and our input to EU rule making , would not have been guaranteed.

On the other hand, the factors which delayed Irish economic growth, notwithstanding the positive factors just referred to, were

+  the oil price shock(1974), This hit Ireland hard because we had few energy resources of our own. Ireland responded to the oil shock and the surge in inflation it caused by mistakenly introducing  food subsidies, price controls and other forms of public spending which proved  to be difficult to dismantle and led to a misallocation of resources+  irresponsible fiscal policies (1977 to 1981),In an attempt to boost the economy the then Government removed property taxes and boosted public employment. This proved to be a disastrously expensive mistake when there was the increase in international interest rates initiated by the US Federal reserve (early 1980’s), +  exchange rate instability(1993).Before the introduction of the euro there was a period of exchange rate instability between the  currencies of  EU states. This led to uncertainty for business, high and volatile interest rates, which delayed the release of the pent up growth potential of the Irish economy+ Another important factor postponing economic growth until 1994/7 was demographic. Ireland had a very high birth rate up to the early 1980s. This kept women out of the paid workforce and added to the cost of education .By the mid 1990s, many of these children were entering the workforce, the birth rate had fallen, and women were freer to enter the paid workforce. As a result the available workforce in Ireland in the mid 1990’s was twice what it had been in the early 1980’s  

It is important to distinguish between growth in an economy that come from a simple increase in the SIZE of the workforce, and growth that comes from increases in the PRODUCIVITY of the workforce.  A good part of Ireland growth in the 1990’s, in contrast to the 1980’s, is due to a simple increase in the number of people available to work.

In Brazil’s case, I have seen figures which suggest that 74% of the recent economic growth here is due to an increased number of available workers, and only 26% to increased productivity of workers.  I believe this was also true of Ireland. Productivity is something upon which we both need to focus.

THE REASONS THE BUBBLE BURST

After very rapid economic growth, from 1994 to 2000,which was based on real improvement in the size and productivity of its workforce, Ireland’s bubble burst in 2008. 

The factors which led to the bursting of the bubble in 2008 originated in the 2000 to 2006 period. 

During that time there was a  credit fuelled construction boom, and a consequent temporary surge in government revenues. Meanwhile wage rates grew, competitiveness deteriorated and the  balance of payments went into the red.

The then Government treated this temporary surge in revenues from the construction boom as if it was permanent. 

It made permanent increases in the level of Government spending, including rates of pay and pensions. This process was particularly marked in the year before the Irish General Elections of 2002 and 2007. The tear before an election is often a particularly dangerous time, when populism rather that wise thinking, dominates the political agenda of both Government and opposition. 

These permanent increases in spending levels proved to be unsustainable when the economy, and government revenues, turned downwards.

Meanwhile, during the construction boom, people in Ireland borrowed money to buy second homes or to pay too much for their primary residence.

The people who borrowed, the Irish banks who lent them the money, and the foreign banks who lent the Irish banks the money, all of them assumed that these inherently temporary conditions were permanent. They were wrong.

This was a major policy failure by the Irish authorities, but also by the international supervisors who allowed international banks to lend so much money to the Irish banks.

RATING AGENCIES

Some have asked how it is that, after the crash, Ireland still has the same credit rating as Brazil

Brazil has huge natural resources, which Ireland does not have to the same degree.

Brazil now has a younger population than Ireland has, and therefore has some of that, one off extra human potential, that enabled Ireland to grow so rapidly in the 1990’s.

Brazil has taken important steps to ensure that even the children of the poorest citizens attend school regularly and work hard.

Brazil’s debt to GDP ratio is far less than Ireland’s is.

On the other hand, Ireland has undertaken important reforms recently, and enjoys the stability that comes from being a part of an integrated economic bloc, the European Union. 

Brazil has rigidities in its state system and its wage setting policies that may inhibit development, which Ireland does not have. The indexation of the minimum wages and of pensions reduces the Government’s ability to manage the economy here.

One must also question the authority and wisdom of the rating agencies.

I believe that the rating agencies are followers of fashion, and are frequently wrong in their judgements. 

They sometimes do not look behind the statistics to see the real strengths and weaknesses of different societies. Rating agencies should hire more historians, and the might make fewer mistakes!

And lenders should look at the fundamentals themselves, and should not delegate that role to  rating agencies, who are often superficial and short term in their judgements.

PRIORITIES FOR BRAZIL TODAY

I think it is important to take a long term view, and look beyond the electoral cycle. As Ireland’s story illustrates, decisions taken now can sometimes yield their fullest harvest only after many years. But it is vital that such long term and courageous decisions are taken.

The IMF has estimated that Brazils long term potential growth rate is 3.5% per year. 

But it has said that this can only be achieved if there is increased productivity in Brazil, productivity in Brazil’s use of its labour force, and productivity in Brazil’s use of materials.

 It says that a 3.5% growth rate also requires more investment.

The IMF says that Brazil needs to increase its domestic savings rate, by between 2 to 3 percentage points of GDP, to meet the required investment targets. Otherwise the IMF says Brazil will find itself relying on “more volatile (foreign) sources of capital”.

There are bottlenecks in Brazil’s infrastructure, in its ports, its airports, and its water treatment systems. Unless these are eliminated, Brazilian business will not grow to its full potential. 

Between 1971 and 1980, Brazil devoted 5.42% of its GDP to investment.

But between 2000 and 2010, only 2.32% of GDP went to investment .Of course that meant that more was available for immediate consumption, but there is a price to be paid for that choice.

The Brazilian electorate should be asked what percentage of GDP they would like to devote to investment and if they are happy to live with the consequences of that decision. That is what an election campaign should be about.

Brazil needs to make it simpler, and less costly, to set up a new business and reduce the cost of complying with tax obligations.

Brazil should benchmark itself against other countries which have had remarkable economic success. One such country is South Korea.

The Brazilian economist, Pedro Cavalcanti Ferreira has calculated that

+ if, since 1950, Brazil had had the same investment rate as Korea, it would be  18% richer today than it is, and+ he estimated that if it had made the same educational effort as Korea made since 1950, it would be  40% richer than it is today.

 Calculations like this can never be exact, and Korea is a high anxiety society. The quality of life is probably better here. But benchmarking is useful because it shows that all choices have costs and lost opportunities, and one should debate these choices so one understands them.

It is very important to avoid populism. Populism pretends that protest can be a substitute for policy decisions, that emotional empathy can be a substitute for paying one’s way in a competitive world.

Ireland’s economic growth was delayed by the populist policies of the 1977 to 1981 period.  

Populism directly caused the economic crash in Ireland in 2008, because the Government, in the 2000 to 2006 period, caved in to popular pressures, and increased public expenditure to unaffordable levels, because the money was temporarily available. For populist reason, it failed to stop the credit fuelled party.

It is important to pursue monetary and fiscal policies that are internally consistent.

One should invest in infrastructure improvements that are chosen because they will yield long term returns in economic and social efficiency, and not for any other purpose. Brazil needs to save more if it is to fund its own infrastructural improvements, rather than rely on foreign funds which can be withdrawn at short notice.

Optimism, lively debate and a willingness to change are the ingredients of success. Brazil has these ingredients in abundance, so I am very confident  about the future of this country.

Keynote address by John Bruton, former Taoiseach (Prime Minister) of Ireland at the 27th Forum da Liberdade in the Catholic University in Porto Alegre Brazil at 8pm on 7 April