Special Series: European Economies At Risk – Ireland March 19, 2012

The Irish economy's favorable corporate tax structure helped it become an entry point for many foreign companies into the European market, and this in turn fueled strong economic growth for the country from the early 1990s until 2008. But this growth led to a real estate bubble, and the overleveraged financial sector made it particularly vulnerable to the 2008 financial crisis, forcing the country to seek aid from the European Union and International Monetary Fund to bail out its financial sector.

Thus far, Ireland has met all conditions for its bailout program, but it may not be enough; rating agency Moody's said March 5 that the country likely will need a second bailout package once the current program ends. Nevertheless, Ireland's economic dependence on external partners means its fate is largely out of its hands.

Domestic Conditions

Economy Ireland's economy is highly dependent on external demand, with exports higher than its gross domestic product (GDP). As two-thirds of its goods exports go to European countries, its dependence is problematic in the current weak European growth environment. While demand for Irish products from the United States -- which, as the destination for 23 percent of Ireland's goods exports, is its largest trade partner -- can be expected to stay strong, the economic downturn in Europe will likely offset the export growth to countries outside of Europe.

House prices in Ireland have dropped by close to 70 percent since their peak in 2007, which has contributed to a 40 percent decline in the net worth of Irish households since 2006, from 700 billion euros to 400 billion euros ($920 billion to $530 billion). These households generally are in debt -- the debt-to-income ratio was 203 percent in 2010, much higher than the eurozone average of 98 percent -- which has weakened domestic consumption and investment. Further weakening consumption is a trend of net emigration; around 50, 000 people -- 1 percent of the Irish population -- left the country in 2011 alone.

The Irish government is currently under bailout and therefore does not have the capacity to produce growth through its own expenditure. The Irish government must rely on outside investment to fuel economic growth, and that investment is expected to continue to decrease. Recent attempts to attract investors from the United States and China highlight Ireland's search for investment from outside Europe.

Ireland's boom was fueled by U.S. investment; a new Irish economic boom will require more of such investment as well as increased European consumption, which is unlikely in 2012.

Politics The current government coalition of the Fine Gael and Labor parties came to power in early 2011 and holds 109 of 166 seats in the Irish parliament. The government maintains strong support; the main opposition party, Fianna Fail, still has not recovered from its 2011 election losses.

The government's main challenge in 2012 will be to convince the Irish public to vote in favor of joining the European Union's new fiscal compact treaty in a coming referendum. The date of the vote and the exact question on the referendum have not yet been set, but the treaty has the support of both the ruling coalition and the country's largest opposition party. The latest polls indicate that around 40 percent of Irish voters support the treaty and 26 percent oppose it.

Irish voters historically have been wary of EU treaties, and there is a risk that they will vote against the treaty to show their discontent with the government and the troika. The price of rejecting the treaty will be high; though it will enter into force with the support of 12 eurozone countries, further EU bailouts through the new European Stability Mechanism will only be provided to countries that ratify it. A " no" vote would leave Ireland's government isolated from needed EU financial support and would also put EU decision makers in a difficult position because removing such support would threaten the entire eurozone.

Society Ireland has seen relatively little social unrest in the past few years. The largest protests were in late 2010, with smaller demonstrations in 2011 that attracted only certain segments of the population such as students, rural residents and health care workers.

There are several reasons for the lack of unrest. While unemployment increased since 2008, it stabilized in mid-2010 and is now around 15 percent. The current emigration trend, while pressuring the economy by decreasing demand, decreases the burden on domestic social services and can act as a stabilizer for unemployment and lessen social tensions.

Another reason is the weakness of Ireland's labor unions. Unions had strong political influence in Ireland from 1987, when unions and employers established an agreement to renegotiate wages on a national level every three years, to 2009, when this agreement collapsed. Over this time, unions have seen a decrease in public support and membership (unions currently represent around 31 percent of the labor force, down from 62 percent in 1980).