Payroll taxes, capital grants and Irish unemployment: a comment

Abstract

In this paper Frank Barry examines the issue of the appropriateness of capital versus labour subsidies in the Irish economy, in the context of three different models, namely a neo-classical small-open-economy model, a demand-constrained Keynesian model and a structuralist model, in which output is constrained by informational-type barriers-to-entry in export markets. Drawing on a series of earlier papers which consider each of these models in greater depth, Frank Barry analyses the effects of both capital and labour subsidies in terms of output and substitution effects and shows that in the case of all models a labour subsidy will be more effective than a capital subsidy in generating employment. He argues that "a strong case can be made for at least partial replacement of the current IDA capital-grants scheme by a policy of payroll-tax reductions for newly-created jobs", i.e., replacing the grants to new capital investment installed with grants to new labour employed. I agree completely with the general tenor of the argument and analysis in the paper, and confine my comments to making three points, namely, a qualification to the interpretation of what is meant by a capital or labour subsidy in the Irish policy context, a caveat on the justification of using either type of subsidy in the barriers-to-entry export framework, and a recommendation for an extension of the neo-classical model used in this analysis.