What was the Cause of Economic Growth in Ireland?

The source of Irelands startling economic transformation has been widely debated. Many
analysts have sought to find a single underlying cause behind the rise of the Celtic Tiger,
with suggestions including EU in the form of policy initiatives, such as collective bargaining
and education reforms, as well as exogenous factors, such as favorable exchange rates
and

assistance

from

the

transfers,

farming

subsidies,

and

structural

funds

for

infrastructure development. The majority of scholars studying this phenomenon have

focused on one area in particular: foreign direct investment.
The Industrial Development Authority (IDA), developed in 1949, played a large role
in the prominence of foreign direct investment in Ireland. In 1971, the IDA sent executives
to foreign countries to present companies with detailed investment plans. As a result,
major multinational companies began to enter Ireland and FDI grew continuously. The
decade of the 1990s was an especially promising time for Ireland as the Irish economy
grew rapidly and attracted unprecedented levels of FDI. A key reason for the high level of
FDI was the combination of a low corporate tax rate and Irelands membership in the EU
after the creation of a single European market in 1992. By the early 1990s, it was widely
accepted that the impressive rise in Irish exports was almost completely due to exports of
foreign firms and that exports from local firms had stayed stagnant. People opposed to
FDI-focused policies pointed to the high levels of employment and the limited ties between
domestic and foreign firms, largely because local suppliers could not meet foreign
standards. Nevertheless, it was undeniable that foreign firms played a crucial role in the
growth of the Celtic Tiger, especially within the manufacturing sectors of chemicals,
computers, and electrical engineering.
Another proposed reason for the rapid economic growth in Ireland was the countrys
attachment to the powerhouse US economy. Many analysts were especially concerned that
the boom in Ireland was merely a by-product of American growth, and was therefore not
sustainable. Throughout the 1990s when Ireland was experiencing the most growth, the
US was also in the midst of the longest bull market in American history and the American
IT boom. Furthermore, many of the industries targeted by the IDA were also primary
beneficiaries from this American boom. As a result, many believed Irelands growth to be
merely an illusion.

Role of Foreign Direct Investments in Ireland

While the source of Irelands economic prosperity may be questioned, it is evident
that the surge of FDI should have had a significant impact on improving Irelands capital
inflow, technological knowledge and linkage.
The important inflow of FDI throughout the second half of the Twentieth century played a
key role in allowing Ireland to develop credibility as being a leader in pharmaceutical and
electronics sectors. Its rapid rise in becoming Europes most attractive country made
investors quickly forget about its past struggles in controlling its high debt levels and its
difficulties in minimizing its deficits in 1987.

By 2004, this impressive rise to fame

attracted 13 of the worlds biggest pharmaceutical companies, 16 of the top medicaldevice companies and 7 of the best software designers such as Intel, Google and Dell to
name only a few. With new foreign investors entering Ireland, the country was gaining
extraordinary amounts of capital financing from the abundance in FDI. Also, the increase in
demand for skilled labour and tax revenues gave Ireland the funds to invest in education
and other organizations such as the National Linkage Program (NLP).
In addition to the rich source of capital financing, FDI should have had an
important role in fostering linkages and positive spillovers between foreign and indigenous
firms. This, however, was not the case in Ireland. While tech savvy firms in Ireland were
growing, the transfer of technology and knowledge between foreign and domestic firms
was scarce. Local suppliers were unable to produce goods and services for the
sophisticated technology sector and evidently struggled to meet foreign standards. In
addition, linkage with domestic firms was practically inexistent. Though FDI should have
fostered stronger relationships with local firm and stimulated the domestic economy, the
linkage between both remained relatively low, as there were sectorial differences in the
extent of linkage created.
Benefits of Foreign Direct Investments

Foreign direct investment (FDI) can be highly beneficial to the growth of country. In
Ireland, massive inflows of direct investment played a major role in the massive positive
shock that influenced its economy in the 1990s. Indeed, Irelands share of OECD total
inflows surged dramatically. In terms of advantages, FDIs benefits span a variety of areas,
including increased employment, employee training, technological improvements, larger
tax revenues, and increased resilience during financial crises. Compared to other forms of
foreign cash flow, the benefits of FDI are long lasting for the host country. These are some
of the reasons why in general, the amount of FDI has increased while bank loans have
decreased over the years (Figure 1). Indeed, FDIs impact has also been far more
significant compared to portfolio investments and loans, especially in developing and
emerging countries (Figure 2).
With FDI, a snowball effect can occur, with one multinational corporation enticing
others to invest in the country as well. This in turn stimulates growth in the country.
Indeed, a local market that caters to MNCs will continue to attract more and more
companies to invest in that country. For instance, Ireland attracted many technology
companies, becoming known for hosting all the big names in the IT industry. Together,
these companies accounted for 40% of Irish GDP growth.
As an attractive destination for MNCs, Ireland saw its unemployment rates fall in the
mid-1990s, with 47% of its industrial workforce employed by foreign-owned firms (mostly
originating from the US). Indeed, this positive employment data illustrates one of the
benefits that FDI represented for Ireland. These employees have been provided with
training in order to carry out their jobs, contributing to the overall development of the
countrys human capital. Other potential benefits include business management,
accounting, and legal training.
Technological growth is also another byproduct of FDI. MNCs often provide technical
assistance and training to raise the quality of the suppliers products, and may even assist
local suppliers in purchasing raw materials and intermediate goods. They also have access
to international markets and banks that may otherwise not have been available to the host
country. Infrastructure transfers and modernization of production facilities are a major
benefit of FDI as well (OECD, 2002). Increased efficiencies can also be seen, such as

enhanced export capabilities. For example, in Ireland, there was a spectacular rise in Irish
exports, mostly originating from aggressive export-oriented foreign firms.
From a macroeconomic view, FDI has a number of direct and indirect benefits. For
instance, both inflows of capital and export revenues positively affect the host country. In
addition, inflows of resources can act as substitutions of goods and services that may have
been imported in the past. Tax revenues are also beneficial. In Ireland, the low tax rate
attracted many foreign companies to invest in the country. This in turn attracted a large
number of foreign companies to the country, all of which generated in substantial
corporate tax revenues and additional tax revenues from income tax and indirect taxes for
Ireland. In fact, MNCs directly accounted for 85% of Irelands economic growth from 1995
to 1999, primarily from the chemical, computer, and electrical engineering sectors. In
addition, the launch of a single new product by an MNC had a positive effect on its
economic growth, especially considering the small size of its economy: when Pfizer
introduced Viagra, which was produced in Ireland, Irish output of organic chemicals rose by
an impressive 70%.
The long-lasting effect that FDI has to a host country is also an advantage of FDI.
Indeed, it can help countries be more resistance during a financial crisis. FDI played a
critical role during the debt crises of 1994 and 1980 in Mexico and Latin America,
respectively, acting as a strong buffer. More recently, during the financial crisis of 1997,
FDI was highly resilient in East Asian countries. In contrast to private capital flows, which
can be quickly pulled out in the face of a crisis, foreign companies that directly invest in
the country have a larger stake in the country. Certainly, short-term lenders and currency
traders can create an asset bubble where investments are made and sold in a very short
period of time, creating volatility and instability for the country. FDI on the other hand, has
a more permanent and long-lasting effect for the host country (Loungani, 2001).
In sum, there are many benefits to FDI. An increase in FDI can entice more
multinational firms to invest in the country, resulting in increased employment rates and
improved employee training. In addition, FDI promotes technological advancements and
positive macroeconomic effects, such as increased tax revenues. The larger stake that
foreign investments have in the host country can also help act as protection in the face of

financial crises. However, countries must ensure that they take ownership of the positive
effects of FDI to ensure that they do not become overly dependent on it.
Costs of Foreign Direct Investments
While the abundance of foreign direct investments may have stimulated Irelands
economic growth and competition, the cost of such improvements, such as the lag of its
domestic economy and dependence on foreigners, raised some concerns about the actual
benefits of direct investments on the Irish economy.
Firstly, Irelands efforts to fuel FDI were damaging to the growth of its local
economy. Put forth by the IDA, the FDI-led policies were at the forefront of the disparities
in success between foreign and domestic firms. Evidently, the rise in Irish exports had
come almost entirely from aggressive export-oriented foreign firms, while indigenous
export accounted for merely nothing. In addition, the mounting gap between Irelands GDP
and GNP further stressed the lack of linkages between domestic and foreign firms. With
such limited ties to local businesses, the FDI-focused policies yielded little in terms of
creating a vibrant domestic economy. As foreign owned industrial operations neglected to
integrate with the traded and skilled sub-supply industries of Ireland, it became
increasingly clear that local suppliers were inevitably going to lag behind and struggle to
meet foreign standards.
Secondly, the weakness of Irelands indigenous economy resulted in its dependence
on specific sectors and increased reliance on foreign economies. From 1995 to 1999, 85%
of Irelands growth was concentrated within three manufacturing sectors Chemical,
Computers and electrical engineering. Accounting for 40% of Irish GDP, the concentration
of FDI within these sectors significantly increased Irelands exposure to volatility in trends
and demands within these markets. In addition, Irelands heavy reliance on foreigners
made it more vulnerable to external forces. With such abundant FDI and weak linkage to
the local economy, Irelands over dependence on foreigners, such as the United States,
made it particularly susceptible to external shocks. Evidently, the 2001 global downturn
resulted in a large reduction of FDI inflows and 13% job loss in Ireland.
Lastly, the special treatment given to foreign investors resulted in wasted taxpayer
funds. By transferring funds from average domestic taxpayers to foreign owners of capital,
these investment incentives were economically inefficient and made income distributions
more unequal (Good for the Taxpayer?, 2012). This had clearly been the case in Ireland, as

McGowan states: It is not so clear now that people will subordinate their own interests for
the national well-being.
Is Growth in Ireland sustainable in the long run?
Irelands Celtic Tiger years brought forth an unprecedented growth for the European
nation. Their consistent adaptation to their economic policies and attraction of foreign
investment proved very successful, but like many countries that have experienced
unparalleled growth, the rapid expansion of Irelands economy brought to question its
economic sustainability. Many of Irelands success drivers had been one-off (Tiger, Tiger,
Burning Bright, The Economist), meaning that the government is faced with the
predicament of finding a way to adapt policies the prolong its economic prosperity as the
drivers that lead to Irelands growth are also responsible for uncertainty in the future.
A key success driver for Ireland has been its ability attract a substantial amount of
FDI, around one-quarter of all American FDI in Europe (Why Worry, The Economist), from a
diversified set of international players. However, this opens up the economy to an
overdependence on these foreign firms. With a reliance on FDI of this magnitude the Irish
economy is made extremely vulnerable to external shocks, especially those related to the
economic health of the United States. Moreover, this subsequently leads to a relatively
poor performance on behalf of the local industry, making it so the country is not overly
self-sustaining. This rapid influx of FDI also inhibits future growth as the country cannot
rely on this occurring consistently for the years to come as eventually the investments will
decrease or plateau, and if this occurs without an increase in productivity the economy
could become stagnant.

Therefore Ireland needs to adapt and increase economic

sovereignty if it wants to sustain the growth experienced.

Another consequence of this rapid growth has been the elimination of what made
Ireland competitive in the first place - low inflation and increasing pressures to increase its
low corporate tax rates. With this rapid economic growth came low interest rates and
reckless lending, abetted by dozy regulation, pushed up land values and caused Ireland to
turn into a nation of property developers (After the Race, The Economist) and Ireland is
now currently in the midst of an expanding housing bubble coupled with high inflation.
This opens up the banks to high risks should property prices crash (Why Worry, The
Economist). With its high inflation rates Ireland is beginning to lose its competitive
advantage and thus is looking less attractive for foreign businesses. Additionally, with the
jump from relatively poor to relatively rich (Figure 3) Irish spending has increased, but has

done so recklessly, as one businesswoman puts it (the Irish) behaved like a poor person
who had won the lottery (After the Race, The Economist). Overall making it so these
economic advancements have been met by a country that is ill equipped to deal with
them, tarnishing the future sustainability of this growth.
Ultimately, the Irish economys structure in its current state is not sustainable
in the long run and the one-off gains and competitive advantages are waning out while
leaving the economy overly susceptible to external shocks. To bring about a sustainable
future Ireland will have to harness its competitive advantages in its educated labour force
to become more self-sustaining and attempt to control the housing bubble and inflation
that has come out of this sudden boom.