Europe’s Next Competition Revolution

Europe’s fiscal crisis can never be solved unless its economy orbits into a high-growth trajectory. Yet an agenda for increased economic growth is badly missing in Europe today. While many member states understandably have put time and energy into getting control over budget deficits and past decade’s runaway public spending, most of them have failed miserably in driving structural economic reform. This certainly is an economic crisis wasted. Brussels, too, shares the blame. Its recent flagship initiative for increased competitiveness and growth – the so-called 2020 agenda – is embarrassingly weak on real structural reforms.

Aneamic economic growth is at the centre of current Eurozone woes. Markets were certainly fooled by the idea that governments in Greece, Italy and Portugal could take up loans at the same rates as Germany despite sharp differences in sovereign risks. Another pipe dream, nurtured by many governments, was the phantasy that they could continue to expand public spending while productivity and growth slowed down. The problem in several countries at risk of default today is not stupendously high public debt, but profound economic underperformance manifested by low productivity growth and economic growth. The Eurozone crisis is as much about underperforming economies as high debt levels.

It should come as no surprise that the three EU-15 economies with lowest pre-crisis productivity were, according to McKinsey, Portugal, Greece and Italy. Greece and Italy are also the two economies with the lowest employment rate. Furthermore, Spain, Greece, Italy and Portugal are the countries that have seen their unit labour costs, a measure of competitiveness, rise at the fastest pace during the last decade. Exactly the same countries were also topping the league of EU countries with the biggest current account deficits in that period.

But the problem extends beyond these crisis countries. The EU economy has lagged behind other developed economies in the past decades in terms of productivity and growth. Europe’s productivity catch-up towards the United States ended in the middle of the 1990s; since then there has been a sharpening productivity divergence across the Atlantic. And it is especially one sector that gives Europe a low productivity score – the service sector. That is where Europe’s problem with productivity and competitiveness is most pronounced. And, according to data from the European Commission and the OECD, it is southern European countries that have weighed Europe down to a low service-productivity score.

The service sector in southern Europe is in many ways anachronistic. It resembles 19^th century-style privilege and guild systems rather than modern competitive markets. State-owned enterprises dominate several services sectors. If they don’t dominate the markets, governments have regulated them left, right and centre. It takes a license to set up a hair salon or bakery in Italy. Retail competition is weakened by arcane planning restrictions. In Greece, it costs around 80 000 euros to obtain a taxi license. The Greek government operated until recently a license system for trucks – but have not issued any new truck licenses since 1970, triggering the build-up of a massive black market where truck licenses have been sold for 300 000 euro, which is more than the price of a new truck. These may be small examples, but they exemplify a silliness that runs through most services sectors.

It was hoped that the single market for services, agreed some years ago, would do away with many of the regulations and corrupt practices that strangles the southern European service sector. But the single market for services is a single market in name only. The EU services market is still highly fragmented along national lines and cross-border trade remains weak. One of the fault lines is the single service-market policy itself. While it prohibited countries to discriminate against other European service providers in markets that were free, it stopped short of forcing through deregulations of markets – policies to actually make markets free. That light-touch principle may have worked when the goods market was freed up for trade in the early 1990s – after all, that single-market reform concerned sectors already dominated by private-firm competition and that had been boosted by previous product-market and trade liberalisations. But such regulatory aloofness has not worked in the service sectors. What’s required for Europe’s ossified service sector is a competition revolution that starts by deregulations and steep cuts in red tape and market-entry restrictions.

Creating a real single market for services, by a radical service sector reform programme, is central to competitiveness, especially in southern Europe. It would also unleash new forces of internal trade in Europe. Trade has been a central vehicle for growth in Europe for a long time. The creation of the single market in the early 1990s made Europe’s growth pattern even more dependent on trade. Yet that engine of productivity and growth has petered out. Now it needs new liberalisations to kick-start again. If it does not – then it is a matter of time before several southern European countries no longer can survive inside the Eurozone.