For most of the 20th century, even well into the late 1980s, Ireland’s economic record was somewhat dismal. Chronic unemployment led to large emigration flows and dampened entrepreneurial activity. The country’s economic situation eventually reached crisis levels because of the spillover effects of the two oil shocks of the 1970s and the high interest rates resulting from the United States’ anti-inflationary policies of the early 1980s. By 1987 the fiscal situation clearly needed to be addressed as soon as possible, but the unemployment situation was also serious, emigration resurged, the economy stagnated, and living standards deteriorated. The current budget deficit reached 7.9 percent of GDP in 1986, while the public sector borrowing requirement increased to 14.2 percent of GDP.

In 1987, taking advantage of a broad consensus for change that had emerged among all the major domestic policy actors, the newly elected Prime Minister Charles Haughey pushed through a set of dramatic actions. He introduced large tax cuts, and as GDP growth responded to tax cuts and wage moderation, the budget deficit was slashed and the debt to GDP ratio shrank. A centerpiece of the reform was a social pact, the Program for National Recovery (1987-90), which essentially removed most of the rancor from the macroeconomic debate and resulted in stable labor relations. By 1990 the budget deficit had dropped to 0.6 percent of GDP and the public sector borrowing requirement to 2.8 percent of GDP.

Several other factors also played salient roles in Ireland’s spectacular development. These included opening up toward Europe, breaking with British currency, granting massive incentives to foreign direct investment (FDI), engaging in technological development, enhancing industrial organization, and recognizing the role of information.

Ireland became a member of the European Community in 1973. This led to a broader free trade regime, and the country reaped significant benefits, especially in the agriculture sector. While previously the United Kingdom and the United States had tended to have a dominant role in Ireland, not only in economic terms, but also in terms of how people framed their view of the world, now the Irish public realized the increasing importance of the European dimension and it led to a new more global outlook. The younger generation in particular began to look to Europe, and education became more cosmopolitan. At a different level policymakers were more aware of the constraints of European Community membership and the associated rewards for prudent action.

Foreign business, in turn, saw the advantages of an English-speaking, well-educated populace with ready access to the large European market and the broad institutional stability provided by the European umbrella. This institutional framework helped foster more transparent and responsible behavior, supported by better monitoring and accountability, especially in the use of public funds. As this virtuous cycle got under way the overall entrepreneurial spirit increased steadily and a more positive "can do" attitude prevailed.

As a net exporter of farm goods Ireland benefited greatly from transfers through the Common Agricultural Policy that amounted to 3 to 6 percent of GNP per year. In 1981 agriculture accounted for about 14.7 percent of employment, or 167,000 people, but by 2001 this figure had fallen to just 9 percent or 117,000 people, and Common Agricultural Policy transfers did provide a cushion during this transition. Much of the surplus labor was absorbed into other sectors, especially the service sector.

Ireland also received resources from various EU structural funds, including assistance to develop Ireland’s poorer regions, to mitigate the social consequences of restructuring, and to help develop the transport infrastructure. While Ireland’s EU contributions offset some of these flows, net receipts were equivalent to another 3 percent of GNP. Some benefits of Ireland’s EU association have been indirect, for example, the 1993 Maastricht Treaty provided a clear blueprint for Ireland’s integration into the Economic and Monetary Union. Ireland adopted the euro in 1999. Substantial support from the EU for physical infrastructure and human capital significantly contributed to the rapid economic development.

With the macroeconomic situation stabilized, Ireland’s focus turned to growth. The Industrial Development Authority’s policy of attracting high-tech foreign firms to Ireland started in the late 1960’s. Digital Equipment Corporation came in the early 1970s, followed by Apple Computers. [An English-speaking, well-educated, populace] good labor relations; [and access to the large European market] were major attractions, along with a low corporate tax rate of 10 percent after 1979 (figure 1). However, even though some foreign firms took advantage of the various enticements in the 1970s and early 1980s, this did not have a strong impact on the economy. Linkages between the foreign firms and the rest of the economy were often weak, and some of the companies gravitated toward other countries when they offered more favorable conditions.

In the late 1980s, however, major changes in industrial structure occurred as multinationals moved away from the mass production model toward greater flexibility and foreign branches of these companies moved away from relatively insulated units toward ones more integrated with the local economy. At the same time companies of the "new" economy were intrinsically more flexible. In particular, new technology reduced transport and communications costs, sharply reducing the geographic disadvantage of being an island economy. The strategy of the Industrial Development Authority was quick to take these new trends into account, and was able to attract a number of flagship companies that were enjoying rapid growth at the global level, such Intel and Microsoft. At the same time the authority offered a good platform for many of the large chemical and pharmaceutical multinationals.

The Industrial Development Authority provided significant subsidies to foreign investors in the early 1980s, yet FDI growth was slow. By the early 1990s the authority’s subsidies were at about half the level of a decade earlier, yet FDI growth was strong. Apparently foreign companies cared more about the tax structure, in particular, the 10 percent corporate tax rate and relatively low labor costs (figure 2), than direct subsidies. Investments by U.S. multinationals in Ireland are getting a 25 percent rate of return, twice what they can expect in Portugal, three times that in Spain, and five times that in the United Kingdom.

In 1998 foreign-owned firms employed 47 percent of the industrial workforce, or 200,000 people out of the total workforce of about 1.7 million, and accounted for 82 percent of industrial output. Some 75 percent of FDI came from the United States. U.S. investments were the largest, both in terms of numbers of companies and numbers employed, dominating in the computer, pharmaceuticals, and electrical machinery sectors. U.S. foreign affiliates now account for 16.5 percent of Ireland’s GDP. In 2001 Ireland attracted 10 percent of the EU’s FDI. The new companies are building links with domestic suppliers. Employment in "home-grown" industry has also risen, much of this in the service sector, which is still linked to and dependent on foreign companies.

Ireland now ranks as the world’s third largest world exporter on a per capita basis behind Singapore and Belgium and Luxembourg. For example, one-third of all personal computers sold in Europe are now made in Ireland. In 2000 Ireland’s total trade in goods and services was equivalent to 175 percent of GDP, up from 141 percent in 1995. At the same time the composition and direction of trade moved away from exports of primary goods, mainly agricultural, to manufactures. In 1987 agricultural produce made up 17.5 percent of exports, but this had fallen to 4.8 percent by 2000. During the same period industrial products increased from 80.2 to 92.8 percent of trade. In addition, trade moved away from the United Kingdom, Ireland’s traditional dominant trading partner. The share of trade with the EU remained stable at close to 40 percent, while that with NAFTA, which stood at 9 percent in 1987, had doubled by 2000.

In the late 1980s the weak position of the economy and the increasing role of some forward-thinking union leaders facilitated a tripartite agreement between unions, employers, and the government. In 1987 the first of a series of tripartite agreements designed to moderate wage increases was signed. A key outcome was to establish a formula for moderate wage increases over the next three years. What the unions wanted in return stimulated economic growth and job creation even more, namely, further tax cuts that resulted in a strong increase in after tax real incomes. In turn, fiscal restraint and wage moderation slashed inflation.

The tripartite agreement was followed by a series of three-year agreements: the Program for Economic and Social Progress, 1990-93; the Program for Competitiveness and Work, 1994-96; the Partnership 2000, 1997-2000; and the Program for Prosperity and Fairness, 2000. Each of these agreements devoted increasing attention to the broader issues of distribution and structural reform. In the early 1990s unemployment and emigration were dominant concerns. As economic gains continued through the 1990s the agreements increasingly emphasized social cohesion, regional development, and poverty.

In a recent speech, David Begg, general secretary of the Irish Trades Union Congress pointed out that Ireland remained the most unequal country in Europe with regard to income, after Portugal. Wage inequality has grown, with the top 10 percent of income earners increasing their earnings from 196 percent of the median wage in 1987 to 232 percent in 1997. The 1998 Sunday Times "rich list" established that in 1997 the 25 richest individuals in Ireland had collectively earned 828 million euros. By contrast, the wages of the bottom 25 percent of income earners fell from 73 percent of median earnings to 69 percent the same year. Infrastructure spending has failed to keep pace with social or industrial demands.

As for the poor, in terms of conventional measures of purchasing power and income, the poverty level declined dramatically in the 1990s as average real household incomes rose rapidly and unemployment fell sharply. Social welfare provisions rose in real terms, but not as much as other incomes. In net terms, the number of those on social welfare fell, but their incomes fell further behind the average.

How long can the Celtic Tiger keep going? The IMF 2002 Staff Report on Ireland warns that "the stellar performance of the Irish manufacturing sector in recent years was partly interrupted in 2001. The main reasons for fairly limited gains were the global economic slowdown, the bursting of the Internet communications technology bubble, and the rapid increase in Irish wage costs." The IMF also noted that some of the high-tech industries attracted to Ireland in the 1990s were permanently relocating away from the island despite the "astonishing performance of a handful of sectors mostly dominated by multinational companies, whose gains in productivity often result from intangible foreign inputs in production, such as global investment in research, product development and advertising." Irish industrial competitiveness also became vulnerable to fluctuations in the exchange rate between the dollar, the euro, and the pound sterling.

The government is currently facing some difficult issues. The slowdown and uncertainty in the global economy are putting some pressure on the government budget. While economic growth is expected to be around 5 percent, there is a significant fall in revenues. This requires hard choices in slashing budget expenditures. The unavoidable cuts should not endanger promised improvements in social provisions, and continuing infrastructure investments should not result in undue foreign borrowing.

Despite Ireland’s current difficulties, several aspects of the Irish approach may offer useful ideas for countries that want to converge rapidly with the industrial countries, namely: