The Irish crash of 2008 was not a surprise to anyone with their wits about them and a passing knowledge of economic history. The great delusion propagated, which continues to be propagated, was that the housing/property/banking/credit collapse was in some way unexpected.
Once the banking system ran out of Irish deposits and began to borrow abroad to finance the property mania at home, the collapse of the debt-fuelled economy was not a matter of if, but when. The banking crisis didn’t start with the bank run of 2008 but with the over-lending in the early-to-mid 2000s.
Banks go bad from the inside out and the easiest way to rob a bank is to run one. The collapse was predictable, preventable and “Made in Ireland”.
The crash itself didn’t destroy Irish wealth but merely evidenced the extent to which wealth had already been destroyed by stupid decisions taken in the boom.
Indeed, the crash itself was not the cause of Ireland’s subsequent problems; rather it was the consequence of previous economic delinquency.
The truth is that, in 2008, the Irish economy was set up to crash. Mainstream economic thinking from John Maynard Keynes to Irving Fisher, Charles Kindleberger to Hyman Minsky, explains how this boom-bust process has happened time and again throughout history.
You would expect a decent undergraduate economics student to grasp this. Lamentably, the people who were running the place didn’t.
What was surprising, however, was not the crash but the vigorous rebound in the economy since 2012. This is when the Irish economy diverged from mainstream economic thinking.
According to economic theory, the Irish recession should have lasted much longer. This is because the specific type of recession Ireland experienced was “a balance-sheet recession”.
No lost decade
This type of recession has three main components.
First, the balance sheet of the middle classes implodes. On one side of the balance sheet are the assets that were bought in the boom. These collapse in the crash. But on the other side of the balance sheet are the debts the people took out to buy those assets. These debts don’t fall in tandem with the shrinking assets, but remain the same – or even rise. Demand seizes up and incomes fall.
Second, this dynamic leads to a component Keynes described as a “liquidity trap”, whereby the banks have too much bad debt on their hands and they don’t want to resume lending. Their prospective customers have too much existing debt and don’t want to borrow any more, no matter how low the interest rates. So, asset prices continue to fall.
Leading to the third component, which Fischer terms “debt deflation”, where the US found itself in the depths of the Great Depression. In the 1930s, both asset prices and incomes were falling. People with large debts, whose incomes were falling, sold assets to pay off debts.
But as everyone moved to sell, the prices of the assets (houses in the Irish case) kept falling, driving down both demand and income further. In time, this leads to the paradoxical situation where those who try to pay off their debts quickest find themselves not with less debt relative to income, but with more.
These three dynamics came together in Ireland threatening a Japanese-style “lost decade”. However, that didn’t happen. The economy rebounded quite quickly. Why? Was something else going on?
The global economic cycle in general and the Irish economic system in particular are being profoundly affected by structural changes brought about by technological innovations. Crucially, Ireland is benefiting more than most countries. While we in Ireland tend to see 2008 as the year when everything stopped, in reality, it was the year when everything started.
Just as the door was slammed shut on the Irish property panic, in California, a revolutionary new device, the iPhone, was taking the place by storm, as was Netflix.
Amazon released the Kindle as a platform for e-books. By 2011, there would be more e-books sold than physical books. By 2014, Amazon would be worth more than Walmart.
In 2008, the first Airbnb room was rented. By 2013, it would have more rooms available than the Hilton Group.
Facebook Ireland passed 100,000 members; today it has 2.6 million. Twitter arrived and Instagram was founded. Google ramped up in Dublin, as did LinkedIn and a host of others. In Japan, pseudonymous Satoshi Nakamoto unveiled a cryptocurrency called Bitcoin.
In October 2008, in Sweden, a couple of lads launched Spotify, one of the technologies that has transformed the music industry.
Meanwhile, across the Baltic in Estonia, a start-up called Skype was offering international mobile phone access, which had been ridiculously expensive, for practically nothing. The old telecoms model was over.
As Ireland was bracing itself for the Troika, WhatsApp and Snapchat were launched. Meanwhile, in San Francisco, a pushy young techie called Travis Kalanick established an app-based taxi service called Uber that would depend on another innovation called Google Maps. All of these apps depended on the iPhone and the iPhone depended on a new data-storing innovation known as the Cloud.
These technologies have changed both how the economy works and how we live our lives. The smartphone has driven globalisation, and the most globalised countries are therefore the very countries that have taken off fastest.
Ireland, with its heavy presence of foreign companies and attractive tax incentives, is one such country.
While the Irish economy has reacted extremely well to these technological changes, with employment and demand growing strongly, the main issue for the future is how our institutions react to technological change.
In the next few years, how will our education system adapt to a world where people will have to create their own jobs as opposed to looking for a job given by someone else?
How will the welfare and tax systems use technology and data to improve efficiency? How will politics deal with the winners and losers in this new economy?
These are important questions. Have we learned anything from the last slump? Probably more than we think but less than we should. Human nature is what it is, and the housing market risks inflating yet more in the year ahead.
The big question is how are we positioning ourselves as individuals and ultimately as a country for this brave new world.