Making a Miracle: Ireland 1980-2005

We examine the proximate causes of the remarkable rise of Ireland from being one of Western Europe’s poorest countries to one of its richest in few years. We assess the quantitative significance of various contributing factors that might account for this swift and spectacular rise. Specifically, we examine the importance of corporate tax reform and changes in the size of government, in conjunction with other factors, which we model as an exogenous rise in Total Factor Productivity (TFP). We conduct our analysis using a two-sector, small-open economy model where production requires tangible and intangible capital services, and where inflows of capital are limited by a collateral constraint. We find that the much discussed reductions of corporate income taxes played a significant, but secondary, role in the Irish miracle. However, tax reform, spending changes and TFP strongly reinforce each other. We also find that Ireland’s openness to capital movements was crucial: under the same driving forces, a closed economy would have experienced a much slower and significantly smaller rise in GDP