1. 1 Europe’s Productivity Gap: Catching Up or Getting Stuck? Bart van Ark University of Groningen and The Conference Board KNOWLEDGE ECONOMY - Challenges for Measurement Session: “Competitiveness and Growth” 8-9 December 2005, Luxembourg

2. Europe is the productivity laggard of the advanced and emerging economies * Per person employed, to 2003

3. Productivity Gaps of EU-15 Countries Relative to the U.S. Countries vary Strongly

4. But for almost all EU-15 Countries Income Gaps are Larger than Productivity Gaps

5. The Eroding Productivity Gap is becoming a Threat to European Living Standards

6. 6  Y/P =  Y/H *  H/P  H/P =  H/E *  E/L *  L/WP *  WP/P with Y = gross domestic product P = population H = total hours worked E = employment L = labour force WP = working age population (15-64) How do per capita income, labour productivity and employment relate?

7. Working hours are main cause of EU15-US income gap, but productivity gap also rises Groningen Growth and Development Centre and Conference Board, 2005

8. Productivity is the key to lower income in the new EU-member states Groningen Growth and Development Centre and Conference Board, 2005

9. 9 The Productivity-Employment Trade-Off is Not the Fundamental Problem  Elasticity of employment/population ratio on labour productivity is -0.3 in large sample of OECD countries since 1970s (McGuckin and van Ark, 2005)  Negative elasticities peter out within 3-5 years …  … as new entrants adjust to labour productivity performance of incumbents (little effects of low skilled labour)  No effects of declining hours per person on productivity  Reasons for productivity slowdown or of more structural nature related to interaction innovation, investment and market environment

10. 10 Structural Indicators are not the perfect instrument to monitor the Lisbon Agenda  Indicators are useful as a detection device, but weaknesses for policy evaluation and monitoring  Structural indicators have too many policy variables to focus on  Structural indicators lack an analytical framework that establishes links and trade-offs between policy variables  Growth accounting provides framework to structure economic policy variables (growth, employment, investment) …  … and extend to analyse interaction with other policy variables (technology, social, environment)

11. Productivity is Key to Economic Performance and Competitiveness

12. Main Aspects of EU KLEMS Project  EU KLEMS project is 3-year statistical and analytical research project funded by 6th Framework Programme  Purpose is to create a database on growth accounts by industry (NACE 60+) for EU member states with a breakdown into contributions from capital (K), labour (L), energy (E), materials (M) and service inputs (S)  Full coverage of “old” EU-15 plus 5 new member states (PL, SK, HU, CZ and SI)  Limited coverage of other 5 new member states (CY, MT, LT, LV and EE)  Also comparisons with U.S., Canada and Japan  1970-2005, with greatest detail for post-revision period  14 research institutes across Europe, led by GGDC and NIESR  In 2 nd phase conduct a number of analytical research projects

13. 13 How does ICT Contribute to Productivity Growth? Three channels through which Information and Communication Technology (ICT) impacts on productivity growth:  1st channel: Effect of ICT investment on labour productivity growth through ICT capital deepening  2nd channel: Rapid technological change in ICT producing industries leading to TFP growth  3rd channel: Total Factor Productivity (TFP) growth in industries that make intensive use of ICT (incremental innovation, knowledge spillovers, etc.)

14. Faster Total Factor Productivity Growth Accounts for Difference between EU15 and U.S. Source: based on Van Ark and Inklaar (2005)

15. For Manufacturing, Europe needs to look East ! * average Czech, Hungary, Poland, Slovakia ** per person employed, 1987-94 & 1994-2002 *** per person employed, to 2002

16. Relative Unit Labour Cost Levels also point to need to Focus on Productivity * Average for Czech, Hungary, Poland & Slovakia

17. The technological capabilities in Europe are under threat from its main competitors Source: OECD, STI Scoreboard

18. For Market Services, Europe needs to look West !

19. Service industries that invest most in ICT show the biggest productivity advantages

20. 20 Measurement issues in services are big but not impossible to overcome  Measurement problems of output in services is problematic  Problems have increased with higher ICT intensity in services  Problems are concentrated in heterogeneous service industries and non-market services  There may be “errors” (which can be controlled for in analysis) but little evidence of systematic bias  More transparency on measurement is needed

21. 21 Implications for Europe’s Innovation Policies  The 3% R&D-intensity target should not become the holy grail  Non-technological innovations (organisational) are at least as important  Little room for targeted innovation policies to facilitate service innovation:  invest to improve the quality of the workforce  Invest in physical and technological infrastructure to foster innovation activities  Much of the productivity-enhancing innovations in services originate from suppliers and clients in the value chain

22. 22 Implications for Europe’s Reform Policies  Reforms should concentrate on:  Help increase entry and exit in industries  Make price-quality relationships transparent  Put pressure on margins in existing markets;  … but also allow firms to exploit new markets;  … and to exploit not abuse scale advantages  Reform management is complex:  Many measures are industry-specific  Reforms need to be comprehensive & complementary  Time lags before productivity effects emerge  Reforms need to tackle vested interests;  … raise awareness of opportunities;  … and facilitate transition not the status quo

23. 23 Source: Fostering Excellence, Ministry of Economic Affairs, Netherlands, 2004 Europe shows lack in dynamics of firms at the top

24. 24 In sum …  NOT the U.S., but Europe is the outlier in terms of productivity performance in the advanced world  The cause of Europe’s productivity is NOT due to the short term productivity-employment trade-off  Productive USE of ICT is the key to productivity  Manufacturing competition with emerging economies is NOT just a cost matter, but also relates to innovation capabilities  Faster productivity growth in a small number of service industries accounts for US-EU differential  There is little room for targeted innovation policies in services – quality of workforce and infrastructure is the key  Reforms should support reallocation of resources to most productive uses

25. 25 Priorities for measurement  Sectoral and industry measures are important  Extend framework to include intangible investment  Breaks in time series are unavoidable but need to be well-documented  More transparency on measurement is generally needed  More harmonization across Europe (and beyond) is helpful  Interaction between research and statistics, and between producers and users of statistics is important  Good statistics require funding !