enterprise and industry directorate general

Enterprise and Industry Directorate General

European Commission

EU’s economic reform challenges - European Competitiveness Report

2006

Gert Jan Koopman, Director for Industrial Policy and Economic Reforms

Brussels, 1 December 2006

European Competitiveness Report 2006 2

The Competitiveness Report

• The European Competitiveness report is an annual publication produced since 1997, at the request of the Council (Resolution of 21 November 1994). This is its 9th edition.

• It is an analytical paper. It examines key developments and factors that explain competitiveness -and are relevant to policy- from the point of view of economic theory and empirical research.


The Competitiveness Report

• The 2006 Report has been redesigned to serve the analytical foundations of the microeconomic pillar of Lisbon strategy. This brought it closer to the policy agenda.

• It reviewed a number of reforms:– Liberalisation of energy markets;– Business environment and better regulation;– Financing of innovation;– Designing innovation policies taking into account the lead markets

concept.

• and the competitive position of two industrial sectors:– the producers of Information and Communication Technology goods

and services; and– The pharmaceutical industry.


Structure of presentation

I. Facts on EU growth and productivity performance

II. Key policy challenges: innovation, energy, business environment

III. Competitiveness of EU manufacturing sectors


I. Recent economic performance: GDP and productivity growth


EU-25 growth: contributions of employment and labour productivity

Note: The two components sum up to the average annual GDP growth rate in the respective periods. Data source: European Commission (AMECO).

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

1990 - 1995 1995 - 2000 2000 - 2005 2005 2006f 2007f 2008f

%

Labour productivity

Employment


Productivity levels by Member State

Note: Labour productivity defined as GDP per employed person.

Data source: European Commission (AMECO).

0

20

40

60

80

100

120

140

160

Austri

a

Belgium

Cypru

s

Czech

Rep

ublic

Denmar

k

Estoni

a

Finlan

d

France

German

y

Greec

e

Hunga

ry

Irelan

dIta

ly

Latvia

Lithua

nia

Luxem

bour

gM

alta

Netherl

ands

Poland

Portu

gal

Slovak

ia

Sloven

iaSpa

in

Sweden

United

King

dom

EU-25 US

EU

=10

0


Average growth of labour productivity by country, 2000-2005

Note: Labour productivity defined as GDP per employed person.

Data source: European Commission (AMECO).

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

Austri

a

Belgium

Cypru

s

Czech

Rep

ublic

Denmar

k

Estoni

a

Finlan

d

France

German

y

Greec

e

Hunga

ry

Irelan

dIta

ly

Latvia

Lithua

nia

Luxem

bour

gM

alta

Netherl

ands

Poland

Portu

gal

Slovak

ia

Sloven

iaSpa

in

Sweden

United

King

dom

EU-25 US

% p

.a.


II. Key policy challenges: energy


Electricity markets in the Member States

Source: European Commission report to the Economic Policy Committee, October 2006.

Quantity of active generators and

suppliers

Industrial price level Degree of interconnection

Austria Medium medium high Belgium Low medium high Denmark High medium high Finland High low medium France Low low medium Germany Medium high medium Greece Low medium medium Ireland Low high low Italy Medium high low Luxembourg Low low high Netherlands Medium medium medium Portugal Low medium low Spain Medium medium low Sweden High low high UK High medium low Estonia Low low high Latvia Low low high Lithuania Low low high Poland Medium low low Czech R Medium medium high Slovakia Medium medium high Hungary Medium medium high Slovenia Low medium high Cyprus Low high Malta Low medium


Liberalisation of European energy markets Challenges and policy options

• The European energy markets have been going through a process of liberalisation since the early 1990s.

• Based on existing economic literature discussing both EU and non-EU experience, the Report presents an assessment of some of the effects of liberalising the European electricity and gas markets.



Liberalisation and efficiency• Liberalisation of energy markets will generate

efficiency gains if competition is increased.• As competition in energy markets is still limited,

we have not yet reaped the full benefits from liberalisation.

• Competition in energy markets will entice firms to shift their R&D efforts towards efficiency-enhancing technologies.



Liberalisation and security of supply

• Before liberalisation, security of supply was achieved by high level of overcapacity for which consumers paid the price.

• Less overcapacity will lower energy prices but could also lead to larger price volatility.

• Consumers can protect themselves through long-term fixed price contracts.

• The internal energy market will promote reliability of networks, provided that interconnections are sufficient.



Liberalisation and environment

• Impact of liberalisation on environment ambiguous as aggregate effect can be positive or negative, depending also on initial conditions.

• Liberalisation can strengthen the effect of market based environmental instruments such as the European Emissions Trading Scheme.


II. Key policy challenges: business environment


The Regulatory Environment in the context of the strategy for Growth and Jobs: findings from

empirical researchEffects of product market reforms (PMR):• Product market reforms in OECD countries over the period 1985–1995 contributed to an increase

of 0.2 – 0.3 percentage points in total factor productivity growth in the long run;• Moving to US levels of regulation in the EU would lead to a labour productivity growth rate

increase of 0.15 percentage points in the long run;• Regulatory reforms aligning the overall regulatory stance with that of the most liberal OECD

country could increase the annual rate of total factor productivity growth in continental EU by between 0.4 and 1.1% over 10 years.

PMR facilitating firm entry• Entry liberalisation in service would boost annual multi-factor productivity growth in the overall

business sector by about 0.1 to 0.2 percentage points in certain countries. Indirect effects would boost manufacturing annual productivity growth by 0.1 to 0.2 percentage points in certain European countries, most notably Germany, France, Italy and Greece.

• Increasing the current firm entry rate by one percent lead to an increase in labour productivity by 0.60% and an increase in employment growth of 2.67%.

• A 1% increase in the entry rate leads to an increase in output, employment and labour productivity growth rate of 2.2%, 2.7% and 0.6% respectively A 1% increase in exit rate reduces output growth rate of 0.8% (one year lag), while increases labour productivity growth by 0.7% (2-year lag)

• Reducing the level of state control and entry barriers to entry to the best OECD practice would Increase long-term employment rates by between 1.3 and 2.5 percentage points (lower-bound estimate).



empirical research -2PMR enhancing competition• Product markets reform aiming at increasing competition would lead to a GDP

increase of about 2% in the medium run (acceleration of output growth by almost a quarter of a percentage point annually over a period of 7 to 8 years).

• Competition-friendly product market reforms reducing the price-mark-up in the euro area by 10 percentage points would produce a long term increase in the GDP level in the euro area of 4.3%.

• Product market reforms reducing the price mark-up in the euro area to US levels would bring a GDP level increase in the euro area of 8.6% (relative to its baseline level) in the long run.

Reduction in administrative costs• A reduction of 25% in administrative burdens in the EU would lead to a real GDP

level increase of 1% in the short run and a real GDP level increase of 1.4% in the long run.



empirical research –an exampleThe Ease of Starting a Business and Per Capita GDP

0,0

5,0

10,0

15,0

20,0

25,0

30,0

35,0

Starting a Business

Source: European Commission calculations on the basis of data from the World Bank “doing business” database.



empirical research –an exampleCumulative GDP effects by 2025 of a 25% reduction in administrative costs (DG ENTR

and CPB, 2006)

0

0.5

1

1.5

2

2.5

3

Pe

rce

nta

ge

of

GD

P


The Regulatory Environment in the context of the strategy for Growth and Jobs

Situation in Member States: • Different sets if indicators: OECD, WB, ID, Fraser

Institute/World Economic Forum;• The group of countries with less restrictive

regulatory environments: Cyprus, Denmark, Estonia, Finland, Ireland, Luxemburg, the Netherlands and the UK;

• The group of countries with a more restrictive regulatory environment comprises the Czech Republic, Greece, Italy, Lithuania, Poland, Portugal and Spain.


The Regulatory Environment in the context of the strategy for Growth and Jobs

National efforts, in terms of setting up:• explicit Better Regulation strategies;• Impact assessment systems• Simplification programmes;• Systematic consultation of stakeholders;• Programmes for measuring and reducing administrative

costs. Conclusion: we are at the beginning of a long process.

Those starting from a less favourable position should do more.


II. Key policy challenges: innovation


The Financing of Innovation

The rationale for public intervention:• Limited appropriability of innovation

– Response: direct subsidies and fiscal incentives

• Imperfections of the capital markets: (information asymmetries, adverse selection and moral hazard).– Response: business angels, venture capital, loans and

guarantees.

• The chapter looks at what MS propose to do (in their NRPs) and draws conclusions on possible policy gaps.


The Financing of Innovation – the findings

0

5

10

15

20

25

Fiscalmeasures

Directgrants

Businessangels

Venturecapital

Loans

• Wide variation on delivery mechanisms for grants and tax incentives;

• New measures favour tax incentives more;

• Particular attention to seed and early stage venture capital;

• Schemes change frequently and often are complex.

No.

of

Mem

ber

Sta

tes


The Financing of Innovation

Policy gaps:• Need to facilitate venture capital mobility;• More consideration should be given to facilitate

debt finance of innovation;• There is scope for mutual learning and exchange of

best practice;• Need for more systematic evaluation of existing

measures. Not to forget: finance is an important but small

part of the innovation process.


The Lead Markets approach in Innovation policy

• Objective: What is a lead market? Is there a case for policy intervention? If yes, through which mechanisms?

• Varied meanings of the term in economic literature.

• Most common definition: the market where an innovation is first widely used that later becomes successful internationally regardless of where that innovation was invented


Lead Markets: stylised international diffusion pattern of an innovation design (source: ZEW)

0

10

20

30

40

50

60

70

80

90

100 Penetration ratein percent

Lead market

Lag markets

t


Lead Markets: diffusion of Internet in selected countries (source: ITU)

0

100

200

300

400

500

600

83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03

France

USA

Germany

User per 1000 people

Japan


The Lead Markets approach in Innovation policy: conclusions

• The conclusion of the Report is that innovation and technology policies should incorporate those factors that contribute to a successful lead market strategy:– incorporation of foreign market needs, preferences of

global customers, global trends;– emphasis on lowering costs of production;– allowing competition among different innovation

designs.• There is little empirical evidence in support of

policies to administratively create lead markets for specific “champion” products and technologies.


III. Competitiveness of manufacturing sectors


Manufacturing sectors in EU-25 with highest production growth in 2001-2005

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

4.5

Recycling Chemicals andchemical products

Motor vehicles,trailers and semi-

trailers

Medical, precisionand opticalinstruments,watches and

clocks

Food products andbeverages

Totalmanufacturing

% p

.a.


Manufacturing sectors in EU-25 with steepest decline in production in 2001-2005

-9.0

-8.0

-7.0

-6.0

-5.0

-4.0

-3.0

-2.0

-1.0

0.0

1.0

2.0

Office machineryand computers

Tobacco products Textiles Wearing apparel;dressing; dyeing

of fur

Tanning, dressingof leather;

manufacture ofluggage

Totalmanufacturing

% p

.a.


Sectors in EU-25 with highest productivity growth in 2001-2005

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

4.5

Chemicals andchemical products

Radio, televisionand

communicationequipment and

apparatus

Coke, refinedpetroleum

products andnuclear fuel

Pulp, paper andpaper products

Basic metals Totalmanufacturing

% p

.a.


Sectors in EU-25 with slowest productivity growth in 2001-2005

-3.0

-2.0

-1.0

0.0

1.0

2.0

3.0

Furniture;manufacturing

n.e.c.

Recycling Wearing apparel;dressing; dyeing

of fur

Tobacco products Tanning. dressingof leather;

manufacture ofluggage

Totalmanufacturing

% p

.a.


Sectors in EU-25 with strongest Revealed Comparative Advantage in 2004

0.00 0.20 0.40 0.60 0.80 1.00 1.20 1.40 1.60

Machinery and equipmentn.e.c.

Publishing, printing,reproduction of recorded

media

Chemicals and chemicalproducts

Other non-metallic mineralproducts

Other transport equipment

RCA index


Sectors in EU-25 with weakest Revealed Comparative Advantage in 2004

0.00 0.10 0.20 0.30 0.40 0.50 0.60 0.70 0.80 0.90 1.00

Wood and products of woodand cork

Textiles

Wearing apparel; dressing;dyeing of fur

Radio, television andcommunication equipment

and apparatus

Office machinery andcomputers

RCA index


The competitiveness of the EU ICT sector

The importance of ICT, direct:– In 2003, the ICT sector represented 3% of total EU25 employment and

4% of GDP. – In 2003, ICT services accounted for 70% of total EU25 ICT sector

employment, 80% of value added and for about 90% of its enterprises. – In 2003, the EU15 ICT sector contributed to 45% of total EU15 market

economy labour productivity growth.

• The importance of ICT, indirect:– ICT impacts on the rest of the economy through ICT investment, ICT

production and ICT use. ICT uptake is one of the major drivers enabling firms in the rest of the economy to increase their productivity and competitiveness.

– ICT capital contribution in EU15 amounted to 32% of total EU15 GDP growth between 1995 and 2004.



Strengths…• The EU ICT sector is successful in producing

sophisticated and high-quality ICT products (scientific instruments, electronic components and telecommunication equipment).

• It is particularly strong in chip design, software development and ICT services.

• One of the key strengths of the EU ICT sector is its human capital.

• Strategic R&D is performed in the EU while less knowledge-intensive market oriented R&D is located in South-East Asia.


The competitiveness of the EU ICT sector:export shares in ICT manufacturing industries 1995 and 2004 (percent).

0

2

4

6

8

10

12

14

16

18

20

Cyp

rus

Latv

ia

Slo

veni

a

Gre

ece

Lith

uani

a

Luxe

mbo

urg

Est

onia

Mal

ta

Slo

vaki

a

Por

tuga

l

Pol

and

Den

mar

k

Aus

tria

Spa

in

Cze

ch R

ep.

Fin

land

Bel

gium

Phi

lippi

nes

Italy

Sw

eden

Hun

gary

Tha

iland

Irel

and

Fra

nce

Mex

ico

Uni

ted

Kin

gdom

Net

herla

nds

Mal

aysi

a

Tai

wan

Kor

ea

Sin

gapo

re

Ger

man

y

US

A

Japa

n

Chi

na

ICT 1995 ICT 2004

EUEU

EUEU

EU



…and weaknesses• The ICT manufacturing trade deficit was 55 billion

euros in 2004.• Large parts of ICT hardware production software

coding have been relocated to South-East Asia.• The ICT uptake in other parts of the economy is slower

than in USA and Japan.• Lower investment growth than in emerging economies

threatens lower value added activities in the EU.• Lower R&D intensity than US or Japan, R&D

concentrated in larger companies.



Conclusions• The answer to the challenge from low-cost producers

lies in further climbing up the quality ladder.• Raising R&D investments of the EU ICT sector and

ensuring the availability of skilled labour will be crucial for the EU ICT sector’s future competitiveness.

• Policies that matter most for the EU ICT sector’s competitiveness include those fostering R&D and innovation, entrepreneurship, IPR, e-skills, ICT uptake and completing the Single Market (i.e. Growth and Jobs strategy).


Pharmaceuticals

• A fast growing global market of around 450bn€ in 2005. Two major players:– US market: a little less than 50%– EU: around 30%

• In both markets, production, employment and productivity are rising.

• Moreover, the EU has a positive and growing trade balance while the US turned negative, especially with the EU.

• US investments in the EU explain these trends.


Pharmaceuticals

The bad news

• the pharmaceutical innovation system becomes global and is increasingly dominated by the US:

– Increasing share of US held patents;– Increasing value of US patents (on basis of

citations);– Central US position in collaborative R&D

projects.


Pharmaceuticals

The bad news (continued)• The central role of smaller, dedicated

biotechnology firms in the innovation system: Much more present in the US, both as initiator and developer, of collaborative R&D projects.

• The fast rise of China, Brazil, India in pharma R&D.


Pharmaceuticals

Different market dynamisms – US market more concentrated and more

contested than EU: new drugs command much higher prices, when patents elapse –or more innovative drugs appear- prices drop abruptly;

– Product turnover much slower in Europe;– European markets remain fragmented by

different regulatory regimes; but,– A visible price convergence exists in the EU.


Pharmaceuticals

Factors: • Parallel trade;

• regulation at national level;

• External reference pricing.

Lower price group: SP, PT, EL, EU-10.

0,2

0,4

0,6

0,8

1

1,2

1,4

1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004

GRC(□)ESP(○)

New Member StatesPOL LTULVA ESTSVK HUNCZE

POR(X)

DEN(-) BEL(■) LUX(+)ITA(◆ )IRE(◊)

DEU(◆ )AUS(∆)

FRA(◊) SWE(+) FIN(■) NET (+) GBR(*)

Price convergence in EU25, median prices, 1994-2004 (EU-15 average price = 1).


Pharmaceuticals

Policy implications• Sector level: Pharmaceutical Forum

– Cost-containment policies and innovation;– Unifying effectiveness testing of drugs.

• Horizontal level: Strategy for Jobs and growth:– R&D; – Innovative entrepreneurship.

enterprise and industry directorate general

Documents

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european commission

key policy challenges

economic policy committee

eu growth

industrial policy

policy agenda

productivity performanceii