There was a fascinating piece over at The Journal yesterday which exposed where a lot of political establishment thinking on the mounting inflation crisis is at. Headlined “Traditional remedies might not work. So how will we cure the surging cost of living?” the article expounded on the idea – which is growing in popularity at the moment on both sides of the Atlantic – that perhaps the way out of the present inflationary cycle was not to cut the money supply, but to pump more money into an already over-heating economy.
Here is Ciarán Nugent, an economist with the Nevin Economic Research Institute, quoted in the article:
But this is no time for the Government to get gun-shy about longer-term spending on areas of need like childcare, transport and housing, says Ciarán Nugent, an economist with the Nevin Economic Research Institute.
In fact, improving and expanding public services and the provision of housing could actually be viewed as a way of reducing wage and price pressures in the future if the Irish economy continues its dramatic growth path.
“Ireland is not really your typical high-income EU country,” Nugent tells The Journal.
“Childcare, housing, public transport — these things are lacking and our welfare state is lacking in-depth and breadth relative to other high-income countries. Wages aren’t as important in these countries because their cost of living is much lower.”
This general approach should not be a surprise to anybody who follows Irish public affairs: In general, the single transferable solution to every single problem this country faces, for the last decade or more, has been “spend more on childcare and housing”.
But in fact, this has already happened: Since 2014, Irish annual capital expenditure on housing has increased by almost 1000%: From €300m in 2014 to over €1.5bn in 2019. Last year, the capital spending budget for housing almost hit €3billion. It is one of the most extraordinary expansions of spending in a single area of the economy in Irish history. And of course, house prices are still rising.
The problem is not money: It is that far from bringing prices down, Government spending often just pushes them up. Take childcare, as an example: Extra Government grants provided to people to pay for childcare do not increase the number of childcare places available. They just increase the number of people able to pay for childcare places at the current price. But because there are only a fixed number (or a slowly increasing number) of places, what happens is that childcare providers can afford to increase their prices even more to take in the same number of children. So ultimately, costs go up, but the problem is not solved.
The basic fact of inflation is this: Prices go up when demand exceeds supply. More Government spending – always, and in every circumstance – increases demand. It does this in the housing market as well: In the long term, Government might be able to encourage more people to become builders. But it cannot do that in seven years. In seven years, all it can do by increasing spending by 1000% is to create vastly more demand for the builders that Ireland does have, and encourage them to raise their prices in response. Or take the first-time buyers grant: That does not create more houses. It just puts more money in the pocket of people bidding for houses, which, again, pushes prices up. It might be politically popular, but most of the money Government spends on housing ultimately just adds to the profit margins of suppliers.
The same is true in the energy sector: Energy bills are increasingly crippling Irish families, so the Government’s response will be to spend more money, giving these families a payment to help them meet the costs of the bills. The problem is that the net effect of such a payment – if it works as intended – will be to maintain the demand for electricity, and push prices even higher. Instead of cutting back on use, people will just have more money to pay their bills. This is even more incongruous when you remember that this is the same Government that wanted high energy prices in order to make us all more conscious of turning off the lights.
The only way, in the long term, to defeat inflation is to bring supply and demand back into equilibrium. That means investing in the education of more builders – not paying existing builders spiralling sums to build more homes. It means producing more energy, not – as has been Government policy – producing less. It means providing more childcare facilities, not giving people grants so that they can get into a bidding war with their richer neighbours.
Ireland suffers from a cost of living crisis because fundamentally it suffers from a supply crisis: The structural weakness in the Irish economy is not that we are not spending enough money to build houses, but that we do not have enough builders to build them fast enough. More money will not fix that problem: It will, like almost everything the Government has done in recent years, make this inflation problem worse.