The notion that reckless fiscal policy would have operated hand-in-hand with prudent monetary policy, is an absolute joke.
The case was compelling for joining the euro in the late 1990s. Ireland was a developed country with the biggest dependence on foreign direct investment and its membership of the European Union was a key selling point in winning significant investment from America's biggest companies. A decade later, outside of the euro, the Irish economic crash would have become a meltdown comparable with Iceland's.
In recent times, anti-EU/Lisbon Treaty types, have latched onto arguments, that through joining the euro, Ireland had to accept interest rate levels suitable for Germany while forfeiting the flexibility provided by devaluation during an economic downturn.
So the euro becomes the main reason for the economic crash while reckless fiscal policy and comatose central bankers have a minor role in the dénouement.
Policy choices usually have downsides and even if Crony Ireland had an independent central bank, as the UK had since 1997, it would have had limited room for manoeuvre during a period of low inflation.
During the boom, when global rates fell to historic lows, the search for yield would have pushed up the punt rate.
The UK experience shows that fiscal policy is paramount in a period of sustained low inflation.
Even if an independent Irish central bank (not a credible concept in the real world) had maintained a margin of for example 3% above the ECB level, in Ireland's system of crony capitalism, where land is made artificially scarce in a country that is 4% urbanised, the politicians would of course found other means to keep the party going.
Even with a milder boom, outside the euro, we would not have been able to maintain a strong currency during the worst financial crisis since 1945, without double-digit interest rates.
Ireland and Iceland would have been in the same boat.
Financial Times - - Ireland woes are not linked to Emu membership
Published: February 16 2009 02:00
From Prof Philip R. Lane.
Sir, Bill Bailey (Letters, February 11) attributes Ireland's economic difficulties to its membership of the eurozone. However, the problems facing Ireland are not fundamentally linked to economic and monetary union (Emu) membership. Equally, it would be a serious misjudgment to believe that abandoning the euro would be helpful in promoting economic recovery.
In particular, it is probable that a significant housing boom would have occurred even if Ireland had not joined Emu: many peripheral European countries (including both members and non-members of the euro area) experienced a credit boom over the last decade, due to low global interest rates and the decline in risk aversion. Even if Ireland had been able to raise interest rates, policy rates have relatively limited impact on the housing market when bubble psychology dominates investor sentiment.
Accordingly, if the relevant comparison set is composed of other non-advanced European countries (in terms of income levels in the late 1990s), it is not clear that Emu was a fundamental factor in driving the Irish credit boom.
Had Ireland remained outside Emu, it is likely that it would now be suffering the same severe currency crises that face several countries in central and eastern Europe.
While Emu membership does provide a safe haven, the policy framework in Ireland requires a major overhaul in order to live more comfortably with the constraints imposed by participation in a currency union. In particular, success under Emu requires national governments to maintain discipline over budgets, the banks and the labour market.
On all three fronts, the Irish government is now actively engaged in active reforms.
Philip R. Lane,
Professor of International Macroeconomics,
Trinity College Dublin,
Dublin, Ireland
