Tuesday, 7 April 2009

Budget 2009: Banking proposal and cuts in discretionary income the real news

Terry McDonough: It is interesting that the initial reactions to the budget are emphasizing the stunning nature of the package. My own take is different. I am struck by the overall sense of moderation. The total sum of cuts and tax increases is on the low end of the predictions and recommendations. Cuts are by and large unspecific. Tax measures are widely spread and each is close to expected levels.

This said, the total will provide a widespread shock to disposable income which will exert further downward pressure on the economy. The government has done well to ignore some of the more extreme advice eminating from academia.

The major innovations in revenue are the signaled future property taxes and the carbon tax. It seems unlikely, however, that the government is planning to substantially alter the structure of revenue. A progressive approach to this question would involve a combination of a more steeply graduated income tax, substantial carbon taxation, wealth taxes (not just property taxes) and increased inheritance tax (while exempting unsold family homes).

There is little indication of the necessary employment programmes which will be increasingly central to responding the current crisis.

Despite the understandable interest in the impact of the budget on family incomes, the "bad bank" proposal may ultimately be the most significant announcement. The estimate of 80 to 90 billion in impaired loans was quite startling. The real question, of course, is how much of this is ultimately unrecoverable. This should determine what the government should pay for the impaired loans. This is, of course, effectively unanswerable because no one knows where the bottom of the property market is. It would have been far preferable for the government to create good banks under public control which would have retail lending as their purpose. This would have left the risk in private hands where it belongs. The minister's proposal potentially exposes the state to losses which it cannot afford while it does not guarantee lending by the "cleansed" banks. Further recapitalization will ultimately be needed.
Professor Terrence McDonough teaches at NUIG

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