The problems of small nations

There’s an interesting discussion of the Republic’s economic policy problems as a eurozone member and the potential lessons for other small eurozone countries by Michael O’Sullivan in Wednesday’s Wall Street Journal Europe — along with a set of policy prescriptions that go exactly against the policy instincts with an election coming. 

O’Sullivan (who has a book out) views the Republic’s problem as having an economy with Anglo characteristics — a consumer and property boom — but not having the control over interest rates that similarly-afflicted economies could use to slow it down.  Realistically, the European Central Bank couldn’t care less about the Irish economy, so unless the trends coincide with those of the big eurozone countries, we’re not going to get the interest rates we’d want.  And we’ll have increasing company in that regard, as all the likely candidates for ECB membership in the near future are small economies.

Anyway, here’s his punchline (subs. req’d):

Managing expectations is more difficult. In countries like Ireland that have undergone great transformations of their economies, expectations of productivity, incomes and growth have been raised sharply. The most dangerous effect on expectations that globalization can have in an economic sense is to support the notion that the very high level of economic growth enjoyed by Ireland in the last 10 years, together with surges in private wealth and incomes, will continue in the long term. The sustainability of such high rates of growth is doubtful and any view that sees them lasting well into the future would be very optimistic, and most likely overconfident.

Two further constraints operate to make the job of steering this small and very open economy even more difficult. The first is the need for huge amounts of investment to improve Ireland’s infrastructure, which is still on par with many Eastern European states and well behind other highly globalized states like Singapore. The other demand relates to human and social infrastructure, and the need to convert economic growth into more developed public services and institutions.

Underlying the above challenges is the fact that policy makers in Ireland operate with a limited arsenal. In this regard, policy innovations will be precious and will offer Irish policy makers, more than the European Commission or European Central Bank, the opportunity to truly distinguish themselves and offer a leading example to other small countries in and on the periphery of the euro zone.

In other words, there’s a strong need to avoid any public spending splurges, but there is a need to carefully spend a lot more on infrastructure.  The only real free lunch in all this is getting rid of the most dubious tax breaks (e.g. the ones that encourage property speculation) — but otherwise it’s exactly the wrong mix for a pre-election year, when the politicians want to talk up expectations and where the incentive of setting a good example for Slovenian policymakers somehow doesn’t seem quite as appealing.