A recent OECD report highlighted low productivity growth as the key challenge facing the European Union.
It pointed out that, since 2000, labour productivity in the EU countries had risen by only 0.6% per year, whereas the average productivity growth, in OECD countries not in the EU, was 1.2% per year…twice as fast.
Lagging productivity growth is even a bigger problem than the debt aftermath of the banking crisis. Economic growth that derives from increases in property prices and associated consumer spending is inherently temporary, whereas growth derived from productivity increases will last.
If EU countries become more productive, they will generate the revenue to reduce their private and public debts to manageable proportions. But if productivity remains low, debts will accumulate.
Since the crisis, EU countries have focussed on reducing costs, but have neglected investments that might boost long term productivity.
Germany, for example, has a low level of public investment, even though it can borrow very cheaply to invest. In Ireland, public investment is still at two thirds the level it was in 2007.
Given that most EU countries will have to have big medium term increases in Government spending to pay pensions and provide healthcare to an ageing population, it is necessary for them to curb deficits now. Already the EU has only 7% of the world’s population, but 48% of the world’s social spending by government.
Life expectancy in the EU is expected to increase from 76 years in 2010 to 84 years by 2060, which means a longer period during which pensions will have to be paid, and healthcare provided.
But cutting deficits, by reducing investments that might generate the revenue to meet those medium term expenses, is unwise.
One concrete step that could be taken to privilege investment over current spending, would be to amend the EU Stability and Growth Pact, to exempt from the deficit calculations co financing by member states of investments being jointly financed with the EU.
The number of employable age in the EU will peak in 2022 at 217 million. After that, the number will fall. So if tax revenues, and services, are to be maintained, productivity must be continually improved.
The productivity of an economy is determined by the efficiency of the entire economy, not just of the export sector.
If Government services, the professions, the courts, or the transport system are inefficient, that can do just as much damage, as lack of research or unduly high wages in the export sector.
Ireland, in particular, needs to look at the productivity of its health services, of its training systems, and of its legal system, all of which appear to be performing relatively poorly, and are shielded from external competition.
In Germany, the delays in setting up a new business are big barrier to improved productivity. Full scale EU wide competition in the services sector is a key to solving this problem.