Economic challenges for the EU: perspectives and proposals

In Europe we face several medium-term challenges whose solution is to grow economically. On the one hand, mitigation and adaptation to climate change will require multimillion-dollar investments, much higher than those that EU countries have made in recent years. On the other hand, the aging of the population will mean that health and pension expenses will increase considerably. In both cases, it will be necessary for EU countries to generate a greater gross domestic product (GDP) to be able to face this avalanche of expenses and investments. The problem is that it will not be easy to achieve this economic growth because the active population is going to reduce. Is it possible to grow more? Yes, undoubtedly. We have the example of other geographical areas, such as the United States, that are achieving this. Let us not forget that that country has a system of democratic governance and values ​​of business freedom similar to ours.

Since the end of the last century, the EU has had very low GDP growth and almost stagnant productivity. Developing countries have grown substantially, increasing their share of world GDP. It is logical that this happens since they start from a level of absolute and relative wealth much lower than that of Europe. The United States, for its part, had a share of world GDP at the end of the last century almost the same as what it has now (25% according to the World Bank). In recent years this trend has even increased. Before the pandemic, the EU’s GDP was 18% of the world total; In 2022 it fell to 16.6%. In relative terms the same thing happens. In the period 2019-2022, the EU’s GDP per capita has increased less than half that of the US.

«A large part of the prosperity obtained by Europe has been due to globalization»

What is going to happen in the future? Is it foreseeable that the EU will not be able to grow at the pace of the United States? Wealth and prosperity are strongly determined by the use of productive factors in both quality and quantity. That is, on the one hand, by the number of people who work and, on the other hand, by the productivity of those who work.

Let’s first see what is going to happen with the labor factor in the near future. There are 2 relevant factors. On the one hand, how much work is done. According to The Economist, people work more in the US than in Europe. The average number of working hours there during 2023 was 1,811, 15% more than in the EU. There they have fewer vacations and fewer holidays than here. The trend in the EU is to reduce the number of hours worked (in Spain, for example, unions are asking to reduce the work week to 37.5 hours). But also, there will be more people who will join the job market in the coming years. It is true that the population is aging on both sides of the Atlantic, but less there than here. The birth rate in the United States is 1.7 (lower than the replacement rate, which is 2.1), but much higher than that of European countries, such as Germany or Spain.

The GDP generated by workers must be distributed between them and those who do not work. In this aspect, the US also has an advantage because the percentage of the dependent population is lower there than here. A 2022 UN report indicates that if in 1970 in the United States there were approximately 4 people between 15 and 59 years old for every person over 60, in countries like England, France or Germany it was around 3. Today, the proportion has decreased on both sides of the ocean; In these European countries it is just over 2, while in the US it is almost 3.

The second factor that influences GDP growth is labor productivity. Numerous international studies indicate that since the end of the 20th century, US productivity has grown, although little. But that of the EU is almost stagnant. It is complex to determine what to do to increase productivity, but there seems to be a consensus among economists that it is strongly influenced by human capital, physical capital and technological advances. In terms of workforce training, Western countries have similar levels, although if we look at some indices (for example PISA) in the EU, especially the Nordic countries, it seems that we are better than in the US.

Let’s look at the issue of physical capital. Their total is largely determined by the volume of investment, which in turn is influenced by the size and depth of the financial markets. Once again they have an advantage over us on the other side of the Atlantic. It is illustrative that the 10 companies with the largest market capitalization in the world are from the United States and their total value exceeds the combined value of the stock markets of France, Germany and the United Kingdom. The North American market is considerably larger than the sum of the European markets, which are also not integrated. That is, in the EU there is not one market (like in the US), but one in Germany, another in France…

In technological matters, the United States has also left us behind. R&D spending, both in absolute and relative terms (in proportion to GDP) is higher in the US than in the EU. The vast majority of global patents are requested by US (and Chinese) companies. In the industries of the future (artificial intelligence, biotechnology,…) North American companies are leaders, far ahead, in general, of European companies. In the magazine Foreign Affairs It was recently published that in the year 2023, North American artificial intelligence companies attracted US$26 billion in venture capital; The second most attractive country, China, got considerably less and Europe as a whole even less. In biotechnology, the American giant attracted almost 40% of total world investment, much more than Europe. It is large companies that, in general, allocate greater spending to R&D. At the end of the 20th century, among the 10 largest companies in the world there were only 4 North American ones. Today, 9 of the first 10 are. Another example; The EU has recently approved a package of measures to support cloud computing worth €1.2 billion. This represents 4% of Amazon Web Services’ annual investment in these issues, according to McKinsey Global Institute.

The conclusion of all this is that it is necessary to modify our economic policies so that we are able to produce the wealth we need to face the challenges we have described above: climate change and population aging.

In a few weeks there will be a possibility to change this trend. All EU countries are going to have elections to the European Parliament, the result of which will be decisive in deciding who will be the next president of the European Commission and the European Council. Let us remember that the European Commission is the executive body of the EU. As such, it enjoys exclusive competence or broad powers in matters such as international trade agreements, common agricultural policy, and competition policy, among others. In addition, they are expected to increase their powers in areas such as defense and the single financial market. The Council, for its part, represents the 27 member countries and also has important powers in defining European policies.

We do not intend in this article to make a detailed proposal for economic policies and reforms for the EU institutions to implement. Furthermore, we cannot forget that it is the countries that have the bulk of the powers regarding fiscal and regulatory policy as well as the budgets to carry them out. But the EU does have powers, as we have pointed out above. Our intention is simply to launch three ideas.

First of all, maintain globalization. A large part of Europe’s prosperity has been due to globalization. According to the IMF, Europe is the region in the world most open to international trade and investment, almost twice as open as the US. In Europe we need raw materials and finished products that come from outside our borders, either because we do not have them, or because their prices are much more competitive. But, in addition, we need markets outside our borders to sell our goods and services (44% of the EU’s GDP is the export of goods and services). That is, one of the EU’s economic policy priorities must be to maintain the international system that was designed with the Bretton Woods Agreements. Certainly there have to be modifications, such as for strategic security issues; But it is essential for the prosperity of our citizens to maintain freedom of international trade and investment.

Secondly, deepen the functioning of the single market. The larger the market, the greater the economies of scale and efficiency in the operation of the economic system. The internal market for goods in the EU still has many obstacles that should be removed. The internal market for services has yet to be built in many sectors such as electricity distribution, or certain financial services, for example. Our European politicians are aware of this, as shown by the fact that they have commissioned reports from Enrico Letta (former Prime Minister of Italy) or Mario Draghi (former governor of the European Central Bank) in which the problems are analyzed and solutions are suggested at the level of The EU.

And finally, deregulation. In recent years, there has been a regulatory avalanche by the Commission, the Council and Parliament, the result of which is to make it difficult and increase the costs of our companies, especially SMEs. It is not only that bureaucracy has grown significantly, but that the reporting obligations of SMEs, among other issues, are growing very substantially. We have an example in the recently approved Supply Chain Due Diligence Directive (CSDDD). The objective pursued by this directive is laudable: to prevent suppliers of European companies from violating human and environmental rights in countries where these European companies are supplied. Although the legal obligation will fall only on large companies, they have to ensure that their suppliers (which in many cases are European SMEs) comply, so it will also indirectly affect them. In this directive, the burden of control and prevention is placed entirely on companies, which will increase their costs and reduce their competitiveness. The benefits that will be obtained, on the contrary, will be for the entire society, so it would seem logical that it would be society as a whole who would pay for it.

In short, the new leaders of the European institutions that emerge after the elections to the European Parliament must pay attention, and do so quickly, to lay the foundations for establishing economic and regulatory policies that allow and encourage growth in our GDP in order to have the necessary resources to be able to face the challenges that lie ahead. The fact that they have commissioned important reports such as those we have mentioned from Enrico Letta and Mario Draghi makes us optimistic.

Activity subsidized by the Ministry of Foreign and Global Affairs.