Why worry?

The economy has some weaknesses - but several strengths too

IF THE Irish miracle materialised so quickly, might it as suddenly vanish again? The country faces more intense competition than it did, often from lower-cost rivals that are becoming equally adept at attracting FDI, investing in education and encouraging indigenous industries. But there are also more specific concerns.

Some of the biggest are macroeconomic. Ireland's fiscal position, which in the 1980s put the country in danger of default, is today enviably healthy. But a pre-election spending splurge in 2001-02 has had to be sharply cut back; and the country still needs to spend a lot more on infrastructure. The long-serving, tough-minded finance minister, Charlie McCreevy, has gone off to a job in the European Commission in Brussels, and his successor, Brian Cowen, may find it harder to keep the lid on spending.

Ireland also suffers from an acute monetary-policy dilemma. In the run-up to the launch of the euro in 1999, Irish short-term interest rates were cut sharply. The result was an extra stimulus to an already fast-growing economy, a burst of renewed inflation and a further ratcheting-up of property prices, especially in the Dublin area. The subsequent depreciation of the euro made matters worse. Fortunately, a sclerotic European (and, by 2001, world) economy held prices down, so that inflation has remained relatively low, although higher than elsewhere in Europe. But interest rates, set in Frankfurt by the European Central Bank, are still far lower than Ireland would choose for itself.

Higher inflation than in rival countries means that Irish competitiveness is being steadily eroded. Moreover, if the euro appreciates further against the currencies of Ireland's two biggest trading partners, America and Britain, Irish exports will be hurt. Even more serious, low interest rates have helped to cause a property frenzy, particularly in the greater Dublin area, in which average house prices have quadrupled over the past decade, with household debt expanding to match.

Ireland is not the only country to have experienced a housing bubble in recent years. But it may be peculiarly vulnerable, because as a member of the euro area it cannot raise interest rates in order to prick the bubble. Moreover, in the past decade or so property and construction have become unduly dominant in the economy (and in politics too). This year, for example, Ireland is on course to build almost 80,000 new houses. Britain, which has 15 times as many people, builds only twice as many. Employment in construction has almost doubled in the past decade, and the sector accounts for some 15% of national income - over twice as much as in Britain.

Ireland is also exposed to property prices abroad. The Irish, like the British, have always liked property portfolios. Various London landmarks, such as Claridge's, the Connaught hotel and the Unilever building, are Irish-owned. The banking system is heavily exposed: the big Irish banks, such as Bank of Ireland and Allied Irish, are in effect mortgage banks, observes Colm McCarthy of DKM Economic Consultants. A property crash would badly hit their balance sheets.

The dominance of Dublin is another risk factor. The city and its region contain almost a third of the Irish population and generate close to 40% of GDP. Dublin is also a surprisingly spread-out city, with low-density Georgian streets at its heart, big parks and almost no high-rise buildings. Two consequences are giddy house prices and long commutes for those who cannot afford to pay them.

Clearly there are big risks ahead, with a property crash perhaps the most threatening. But the gloom can be overdone. Ireland also has a number of plus points that should help it grow rapidly.

The big magnet

For a start, there is an impressive FDI machine, led by the IDA but with help also from Science Foundation Ireland, Forfas and Enterprise Ireland, which fosters indigenous industry. The IDA is a world-class agency, able to compete not just with the rest of Europe but with places such as Singapore and Taiwan for valuable projects in pharmaceuticals, biochemistry, IT and medical devices. Its roster of satisfied investors, mostly but not exclusively from America, remains impressive.

Ireland takes roughly one-quarter of all American FDI in Europe. It now has over 1,100 multinational companies, which export goods worth some $60 billion a year. In certain sectors it is pre-eminent; for example, it takes almost one-third of all FDI in Europe in pharmaceuticals and health care. Nine of the world's top ten drug companies are present (the republic produces most of Europe's supply of the drugs Viagra and Botox). One-third of all personal computers sold in Europe are manufactured in Ireland. The country is the world's biggest software exporter, ahead of America. And Dublin's International Financial Services Centre, about which many were once sceptical, has become a big success, employing some 16,000 people.

The companies that have come to the emerald isle seem delighted with it. At Leixlip, west of Dublin, Intel has invested some $5 billion in its biggest semiconductor plant outside America; it has just started operating Fab 24, the most advanced chip-making facility in the world. Wyeth has chosen Dublin as the site for one of the world's biggest bio-pharmaceutical centres. Dell's personal-computer plant in Limerick is one of the company's most productive. HP Compaq is the biggest employer in Galway, with its main plant on the site of the Digital Equipment venture that went wrong in the 1990s. Apple has chosen Cork for its chief European software-development and support centre, although it has shifted most manufacturing to the Czech Republic and Taiwan.

The Apple story is a symbol of a broad change. As Joe Gantly, its outgoing vice-president, notes, in 1997 the company employed 1,800 people in Cork, 90% of them in manufacturing. But as Ireland saw its low-cost advantage erode over the next few years, most of those jobs were lost. Instead, Mr Gantly persuaded the firm to move into higher-value-added operations, concentrating most European support services and research in Cork. Today it employs just over 1,400 people there, most of them skilled graduates; only 15% of them are in manufacturing.

Brains in clover

That, writ large, is what the country now has to do. At Science Foundation Ireland, Bill Harris uses public money to lure top scientists and researchers to Ireland. His goal, he says, is to make Ireland “science-friendly and friendly to scientists”. Many of his targets are Americans with Irish roots, rather like himself. He trumpets the recent investment by Bell Labs in top-end research, and he works closely with universities. University heads such as John Hegarty at Trinity College, Dublin, and Hugh Brady at University College, Dublin, have spent time in America and brought back an American fervour for links between universities and high-tech industry.

Gerry Wrixon, president of University College, Cork, is typical of the breed. After graduate work and an academic career in America, he came back home to run Ireland's National Microelectronics Research Centre before moving on to UCC, where he seems to spend as much time on links with business and industry as on students. He sees Stanford University and its relationship with Silicon Valley as a model to aspire to, and unabashedly proclaims that, if a university is to thrive, it must be a research-based, elite institution. It is a far cry from the mass universities, with poor links to local industry, that are the norm in continental Europe.

The universities are also integral to another big challenge for Ireland, which is to foster home-grown industry. There are few well-known big Irish companies beyond the Kerry Group (foods), CRH (building materials), Jefferson Smurfit (paper and packaging) and Ryanair. And none is in the booming sectors that dominate FDI in Ireland, notably IT, health care and pharmaceuticals. Such firms as Elan (drugs) or IONA Technologies are successful but small (and Elan has had a big accounting scandal). Yet a growing venture-capital industry is spawning new companies. One example is Multis in Galway, a “re-manufacturer” of computer parts for HP Compaq and Sun Microsystems. The country needs more firms of this sort if it is to stay ahead.

It also needs a strongly pro-business government. The 1980s taught politicians from all sides the folly of high taxes, extravagant spending and other anti-business policies. The present Fianna Fail-Progressive Democrat coalition, led by FF's Bertie Ahern as taoiseach, but with the formidable Mary Harney as tanaiste in charge of industry and enterprise, and Charlie McCreevy as finance minister, has won plaudits from Irish and overseas businessmen alike. In EU meetings, Ms Harney and Mr McCreevy have become renowned for fighting for economic reform and against tax harmonisation - their keenest allies being the British.

Ms Harney recently took delivery of a new report on enterprise strategy by a committee chaired by Eoin O'Driscoll, managing director of Aderra, which argues not only for more emphasis on high-value-added sectors and scientific research but also for greater efforts in marketing and promotion, in which Ireland has been weak. She wants to push through the report's recommendations, and thinks Ireland needs the spur of more competition if its domestic industry is to prosper.

But Mr McCreevy has gone to Brussels, Ms Harney has now taken the health portfolio, and Mr Ahern's low popularity has put him under pressure to shift leftwards. Suddenly Irish politics has become very important for the country's economy.

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