Central Bank governor outlines lessons of the financial crisis

After every financial crisis home-spun truths have a habit of reasserting themselves, according to Central Bank governor Patrick Honohan.

In the Irish case, these were - in no particular order - living within one’s means, exercising prudence and not running before you can walk.

In the end, Oscar Wilde's Lady Bracknell would have been justified in censuring Irish policymakers for their carelessness as she censured her prospective son-in-law Ernest, he said.

Prof Honohan was speaking at an event in Dublin to mark the retirement of long-time ESRI research professor John FitzGerald.

He said Prof Fitzgerald’s career had been bookended by two deep national macroeconomic crises, the first in the 1980s and the second, which the country is still emerging from, in 2008.

Prof Honohan said the macroeconomic adjustment in the wake of both crashes shared common features, like the re-balancing of the public finances using both tax increases and spending cuts

However, the adjustment in the more recent case began sooner and was being accomplished more quickly, he noted.

“This may be attributed to the loss of international confidence forcing the Government’s hand in line with the adjustment programme agreed with the official lenders.”

Prof Honohan said an additional feature of the recent crisis, which was less significant in the earlier case, was the impact of the boom and bust on wealth and debtor positions.

This time around, there was the widespread negative equity, the financial and operational crippling of the banks, and “the assumption by the Government of a large block of banking liabilities”, he said.

In his potted history of the State’s recent economic history, Prof Honohan said it was necessary to draw a distinction between proximate causes and underlying causes.

Referring to the proximate causes, he said: “Both were caused by the emergence of multi-year overspending: the distinction lying in the fact that the 1980s followed a period of mainly public sector overspending, whereas it was private overspending that teed-up the recent crash.”

In terms of the underlying causes, he said in both crises Irish governments were misled by “bad ideas falsely distilled from simplistic versions of prevailing orthodoxies”.

“Thus, in the 1970s it was a bowdlerised deformation of Keynesianism that was used to justify a government spending-led growth spurt which was intended to generate self-sustained revenue expansion.”

In contrast, in the lead-up to the more recent crisis, the Government was lulled into complacency by an apparently crass belief in untrammelled financialisation, he said.

Prof Honohan said curing the current crisis had been more challenging than the last time, given the absence of some previously available tools and because of the greater complexity of resolving the indebtedness problems.

In conclusion, he said: “We are still learning.”

Paying tribute to Prof FitzGerald, he said: “What is undoubtedly true is that our national ability to achieve improved policy responses now - and in the future - has been greatly enhanced by an improved understanding of the macro-economy to which John FitzGerald’s tireless and immensely well-informed research has greatly contributed.”