Ireland in EMU: Straightjacket or Skateboard 

Ireland's hair-raising rate of sustained economic growth over the past seven years has not faltered since it entered EMU. But soaring property prices, accelerating real wages and consumer price inflation running at almost three times the ECB's target make it natural to worry about the risks of a future crash.

At a Lunchtime Meeting organised by the Centre for Economic Policy Research, Patrick Honohan reviewed the sources of economic growth and the role of EMU in accelerating it. The weakness of the euro has both contributed to the export boom and to imported inflation, and has prevented the use of monetary policy as a brake (indeed real interest rates in Ireland are negative and lower than at any time since the 1970s).

The roots of the Irish boom are longer-term and well-based on fundamentals − including the supply of human capital, agglomeration economies and global shifts in technology playing to Ireland's comparative advantage − and cannot be attributed to activist macroeconomic policy. EMU membership rules out runaway inflation as the end-result. And Ireland is still running a current account surplus, though not for much longer. But none of this precludes spending and expectations spiralling into a bubble that could end in grief.

The relative inaction of Irish policy-makers faced with these risks is no surprise: macroeconomic stabilisation policy − whether fiscal or monetary − has typically been either weak or counterproductive in recent decades.

It is through corporatist national wage deals that recent Irish Governments have sought to influence macroeconomic performance. The danger of the current deal unwinding contentiously in the face of higher-than-anticipated price inflation is now both the most imminent risk and the only lever likely to generate an energetic policy response.

Although it contributes elements both of the skateboard (decline of euro) and of the straitjacket (interest rate policy constrained), EMU membership may still help avoid disaster, essentially by removing some volatile elements from the domestic policy and expectations scene.

Notes for Editors:

CEPR is a network of over 500 Research Fellows based throughout Europe, who collaborate through the Centre in research and its dissemination. CEPR helps its Research Fellows to develop projects, obtain their funding, administer them and disseminate their results. The Centre’s research ranges from open economy macroeconomics to trade policy, from the economic transformation of Central and Eastern Europe to regionalism in the world economy.

For further information about CEPR, please contact Rita Gilbert, Tel: (44 20) 7878 2917 / Mobile: 07941 196 806 or email: rgilbert@cepr.org, or contact James Morgan, Tel: (44 20) 8225 7262. Visit our website for a copy of this document or for additional services: http://www.cepr.org.

The Speaker:

Patrick Honohan is Lead Economist of the Development Economics Research Group at the World Bank and is a Research Fellow in CEPR’s International Macroeconomics research programme.