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It’s a long way from a Smith classroom in Massachusetts to a prestigious seat on the Irish Fiscal Advisory Council in Dublin, but professor Róisín O’Sullivan’s career as a macroeconomist has taken her to both places.

/ Published December 7, 2015

How a Council of Eggheads Helped Save Ireland from Financial Ruin

After four and a half years playing a high-profile role in her native Ireland’s rough and tumble efforts to pull itself out of recession, Associate Professor of Economics Róisín O’Sullivan is leaving the Irish Fiscal Advisory Council. Her term, as a member of the country’s independent fiscal watchdog, is up just as robust growth returns to the Irish economy.

By contrast, the scene in 2011, when O’Sullivan joined the newly forming council, was one of a turbulent world economy and a financially ravaged Ireland. The country had gone so bust after its last boom that it went into quasi-receivership with the so-called troika that bailed it out. The International Monetary Fund, the European Commission and the European Central Bank teamed up with the Irish government to construct safeguards against repeating mistakes of the past.

Creating a council of eggheads (a word O’Sullivan embraces) was not a uniquely Irish strategy for increasing the political cost of shortsighted fiscal policy decisions by holding them up to higher standards of scrutiny. Many industrialized countries have such bodies.

The Irish Fiscal Advisory Council, whose members are all economists, is charged with bringing coherent, nonpartisan and, so far as is possible, nonideological analysis to bear on the democratic process through which nuts and bolts decisions are made about fiscal policy.

Their advice isn’t always greeted warmly, O’Sullivan says. The council’s job, after all, is to hold politicians’ feet to the fire and to dampen politically motivated financial decisions.

In a democratic society, politicians win by being popular. In Ireland, as elsewhere, that can mean revving up the economy to appeal to voters even when things are already humming. This kind of “procyclical” free spending will make the high that much higher but will eventually lead to a lower low. There won’t be a reserve to pull the economy out of the inevitable downturn.

“There is an entire literature about ‘the political business cycle’,” says O’Sullivan.

While academic economists usually just advance such ideas, O’Sullivan got to get her hands dirty in the public arena trying to do something about averting the cycle.

One of the council’s jobs is to endorse (or not) forecasts on which the government bases its fiscal policy. Predictions help frame the debate. The council assesses whether the government’s policies are conducive to prudent economic and budgetary management. It publishes a steady stream of reports and commentary, which are often covered by the press, and members testify before a parliamentary committee. If the agreed-upon goal is countercyclical policy, then the actual decisions made along the way matter greatly. The basic idea is that politicians must have the discipline to save some of the additional revenues from a strong economy so as to have the wherewithal to stimulate the economy when it is weak.

The council has no statutory power to impose fines or to formally discipline anyone. But it does have a large soapbox from which to advance its tightly reasoned and copiously documented arguments and views. In theory at least, it injects a voice of moderation into public discourse, which politicians ignore at their peril.

Ireland’s largely agrarian economy began a transformation to a high-tech, modern economy during the “Celtic Tiger” period of unprecedented growth.

During much of the ’90s and into the new millennium, Ireland’s roaring economy was on a roll. The “Celtic Tiger,” as it was called, saw unprecedented growth that seemed likely to stretch far into the future. Like the “Asian Tigers”—Hong Kong, Singapore, South Korea and Taiwan—the conventional wisdom was that the country was poised to make its economic mark on the world. “A strongly agrarian economy was becoming a high-tech modern economy,” says O’Sullivan. “It seemed to some extent to be skipping over the industrialization stage that a lot of other countries went through.”

Ireland was riding high. Along with that came a building boom, the scale of which appeared to be justified at the time. Unfortunately, “when the property market began to taper off naturally,” the government “provided fiscal incentives to keep it going,” says O’Sullivan. For instance, it used interest relief to subsidize rental property. It also used windfall tax revenue for expenditures it couldn’t sustain.

Even once an artificially inflated housing bubble started becoming apparent, financial institutions kept making bad decisions. “They were not driven by logic or good business practice,” says O’Sullivan. “People lost the run of themselves.”

Countercyclical economic theory says government should slow things down during a boom. But that is never an easy sell when people are giddy at the prospect of endless opportunity.

When the bubble burst around 2007, the economy went reeling.

The council came into being a bit later, in 2011, when the pain of the hangover was widely felt. “Austerity” was a dirty word among much of the electorate.

Countercyclical economic theory says government should slow things down during a boom. But that is never an easy sell.

“It was a shaky period in the Irish economy, and there was a lot of public sentiment against the IMF and the bailout,” says O’Sullivan. “People were very wary about the council and there were a lot of assumptions made about what our ideological leanings would be.”

The situation was dire. There was a widely held perception that the government was at risk of defaulting on its debt. At the same time, if the government had not accepted the austerity measures that were conditions of the bailout, it is highly likely that Ireland would have been shut out of financial markets. In that case it would have had no source of funds to finance the gap between revenues and expenditures, and there would be a danger of having to slash hospitals, educational systems and basic public services like the police. A lingering fear that “the country could grind to a halt” was still palpable, O’Sullivan recalls.

“I don’t think anybody knew with certainty what needed to be done at any given time,” says O’Sullivan. The council persevered in its mission to establish itself as a respected part of the conversation. A purpose of the council, she says, “has been described as to institutionalize the memory of the crisis and so avoid a similar fate in the future.”

A lesson from the boom is that groupthink across sectors can drive bad decisions to disastrous conclusions. In a capital city as small as Dublin, “Everybody knows each other. The regulators know the bankers and bankers know the Department of Finance guys and the Department of Finance guys know the guys at the Central Bank,” says O’Sullivan.

The council, as an independent fiscal watchdog, was to have “an international composition,” says O’Sullivan. She is not the only expatriate on the body. “There was a sense that if you were removed from the circle in Ireland that you would bring a more objective analysis,” she says.

Though the members were all “relatively mainstream macroeconomists, by no means does that mean that we agree on everything,” says O’Sullivan. One thing they did agree on was that they would hash out differences among themselves and make policy recommendations with a unified voice.

“We’ve been highly critical of government policies at many junctures,” says O’Sullivan. Part of the council’s persuasive power is that its pronouncements are widely regarded as being “completely independent,” she adds.

In the end, though, it is elected representatives who have the final say.

O’Sullivan believes the council was able to build trust by working hard and demonstrating that it is more than a showpiece. “Over time we convinced people that we were just a bunch of economists trying to use analytical tools to put in front of policy makers the range of choices and the likely consequences of those choices,” she says. “We weren’t there to push things in a certain direction for ideological reasons or political reasons.”

O’Sullivan is looking forward to being an outside observer of the Irish elections coming up in spring 2016. Therein will lay a test of how effectual the council has been so far.

Elections in the spring of 2016 will be a test of the country’s commitment to fiscal reforms.

“Will this history of procyclical policymaking or this political business cycle be curtailed by the new institutions?” asks O’Sullivan. “There’s mixed evidence right now. I think history will show us that the new institutions and frameworks have restrained behavior. Whether it’s going to be enough or not, I don’t know.”

The measure of success won’t be “who wins and who loses the election,” says O’Sullivan, but rather whether “a commitment to the fiscal reforms will continue” in the run-up to the voting and beyond.

Overall, she is happy about how Ireland is coming through, observing, “One of the reasons Ireland fared better than other countries is that our representatives are capable people by and large, and our political and democratic institutions are strong.”

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