‘Most effective budget cuts will not be the fairest ones’

Achieving the necessary savings in December’s budget poses huge political challenges, and has already caused a series of rifts between the Coalition partners.

Whether the economy can be put on a path to fiscal sustainability depends on making the budget cuts by doing the least amount of damage to the economy.

DCU economist Tony Foley says that “the most effective way of making the cuts will not be the most fair”.

He says one of the most expedient ways of plugging the budget deficit over the short term would be to raise social welfare payments — which would be funded through income tax increases — because social welfare payments go straight into the local economy.

However, this would not be politically feasible and would create a welfare trap that would have damaging consequences over the longer term, he adds.

Michael Noonan, the finance minister, described the forthcoming budget as being the most difficult since fiscal consolidation began in 2008 “because all the low-hanging fruit has been plucked”. There has already been a series of acrimonious exchanges between Fine Gael and Labour over how to achieve the €3.6bn in savings needed this year.

Mr Foley says there is no way of avoiding doing harm to the economy following December’s budget. “But if we went to the markets and tried to fund spending at these levels, it would not happen,” he said.

Sinn Féin proposes a wealth tax to plug the budget deficit. But there are inherent problems with this approach, says Mr Foley. “If it is a tax on €100k or more than how is it possible to differentiate between a house with two earners on €50k each as opposed to another household with one earner on €100k.”

Another danger of a wealth tax is that if it becomes too punitive it will encourage more skilled and higher paid workers to move to other jurisdictions, which would weigh on the economy’s ability to recover in the longer term.

Davy economist Conall Mac Coille says if cuts are to be made to welfare entitlements, such as child benefits, it should be means tested with cuts made from the higher-income earners. Moreover, if there are to be pay cuts across the public sector, then they should be made from higher-income earners, which again would have less negative consequences for the economy.

Mr Foley says there are at least another five budgets that will require spending cuts if the Government is to meet the 0.5% structural deficit by 2017.

Maintaining social and political cohesion over that period will be one of the biggest challenges facing the country, he adds. “The danger is that populist parties emerge that promise to rip up all EU/IMF agreements and refuse to make debt repayments.”