TINOS: The European Union will be marginalised if it continues to shrink compared to other parts of the world. Two former Italian prime ministers, Enrico Letta and Mario Draghi, are proposing remedies. Anxious leaders welcomedLetta’s report about how to improve the bloc’s single market at their summit last week. They may lack the will to drink the necessary medicine, though.
There are two ways of looking at the EU’s relative decline. The first is in terms of living standards. Here, what matters is not that developing countries, led by China and India, have been dragging themselves out of poverty in recent decades and so closing the gap on Europe, says Erik Nielsen, UniCredit’s chief economic advisor. Rather, it is that the EU has not been moving ahead as fast as the United States.
EU income per head has grown 55% since the single market was created in 1993 when measured on a purchasing power parity basis. That’s not far behind the 65% gain enjoyed by the average American. But the EU has only kept up because new members, such as Poland, have expanded very fast: that country’s income per head has almost quadrupled. By contrast, income per person in the bloc’s bigger and older members — Germany, France and Italy — is up only 37%, 35% and 20%, respectively, over the same period.
The other way of looking at the region’s relative decline is in terms of power. Back in 1992, the EU was a geoeconomic giant. With 29% of global output and a strong position in leading technologies, it could set many world standards.
By 2022, the bloc’s share of world output had shrunk to only 17% while the U.S. share was stable at 25% over the same period. What’s more, the EU now has only four of the world’s top 50 technology companies, Draghi noted in a speech last week.
The EU’s relative economic weight is not just declining because other regions’ living standards are growing faster. Its currency has weakened, and its population is stagnant. This would not matter if the post-war global economic and political order was intact. But Russia has invaded Ukraine, while both China and the United States are undermining the world trading system. The EU is worried that it will be bullied by larger rivals.
The other way of looking at the region’s relative decline is in terms of power. Back in 1992, the EU was a geoeconomic giant. With 29% of global output and a strong position in leading technologies, it could set many world standards.
By 2022, the bloc’s share of world output had shrunk to only 17% while the U.S. share was stable at 25% over the same period. What’s more, the EU now has only four of the world’s top 50 technology companies, Draghi noted in a speech last week.
The EU’s relative economic weight is not just declining because other regions’ living standards are growing faster. Its currency has weakened, and its population is stagnant. This would not matter if the post-war global economic and political order was intact. But Russia has invaded Ukraine, while both China and the United States are undermining the world trading system. The EU is worried that it will be bullied by larger rivals.
Different threats need different responses. Boosting the EU’s economy is not the main answer to an aggressive Russia. After all, the bloc’s economy is already seven times bigger, and Russia’s output seems set to stagnate in the coming years.
Rather Europe’s leaders need to summon up the will to provide more help to Ukraine. They also need to spend more on their own defence, while bulking up and streamlining their armaments industries.
Another geopolitical threat is from China. The People’s Republic could hold the EU to ransom because it controls supplies of critical goods such as rare earths. The answer is to secure alternative sources. The EU has made a start with its Critical Raw Materials Act, which sets targets for production of specific goods. But if it is serious about avoiding blackmail, it will need to put money behind this initiative.
Yet another threat is that China and the United States will attract the industries of the future to their shores by both fair and foul means. The EU needs to respond by strengthening its single market so it can offer companies economies of scale comparative to the U.S. and Chinese markets. It will also need a targeted industrial policy to respond to the subsidies and tax breaks on offer to companies in other large economies.
Over 30 years after the launch of the single market, it may seem odd that the EU is still discussing how to improve it. But the original design left out several key industries — energy, electronic communications and capital markets.
The cumulative impact of action on all these sectors could be significant since they are central to the functioning of other industries. The EU’s weak position in capital markets when compared with the United States is particularly glaring. The lack of an equity culture is one of the reasons that the bloc is not creating more large entrepreneurial companies.
The snag is that completing the single market is a mind-numbing job that requires confronting national vested interests on multiple fronts. Leaders may not have the will to do that. The EU has supposedly been committed to creating a capital markets union for a decade but has achieved very little. The initiative has suffered from the lack of a political champion, says Marco Buti, a former senior EU official now at the European University Institute.
An equally knotty problem is how to respond to the vast subsidies that China and the United States are throwing at high-tech and green industries. If the EU does nothing, it could find it is squeezed out of strategic industries such as artificial intelligence and high-end semiconductors.
On the other hand, engaging in a subsidy race will be expensive. It could also be wasteful if the EU pours money into industries where it has no long-term edge.
A targeted approach may be the best option. For example, it is foolish to compete with China in wind turbines and solar panels, where there is already overcapacity. It would be best to buy this kit at the lowest price and fast-track the roll-out of cheap green energy. By contrast, subsidising the manufacture of advanced chips could make more sense.
This, though, raises another problem: where will the EU find the money? After all, it doesn’t just need to fund an industrial policy. It also needs to invest in other essential public bloc-wide goods — notably some aspects of defence and the climate transition.
Letta hopes that reformed private capital markets will provide some of the cash. But a huge chunk will have to come from the EU itself. And that means its members will have to let it raise more taxes and borrow more money. With nationalism rising in most member states, getting them to accept greater European integration may be the hardest battle of all.
-Reuters Breakingviews.
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