by Andr és Rodríguez-Pose London School of Economics Oxford University Press ISBN 0-19-874286-X

1. THE EUROPEAN UNION: ECONOMY, SOCIETY, AND POLICY by Andrés Rodríguez-Pose London School of Economics Oxford University Press ISBN 0-19-874286-X

2. Part I ECONOMY

3. Chapter 1 Competitiveness

4. The stages of economic integration • Free trade areas: • Free trade between members, different external tariffs • Little or no institutional co-ordination • Customs union: • Free trade between members and common external trade restriction • Common regulatory bodies • Common (or single) markets: • Removal of all barriers to free factor mobility • Free mobility of goods, capital, labour, and services • Greater level of regulation and strong institutions to monitor decisions adopted by member states

5. The stages of economic integration (II) • Economic union: • Harmonisation of economic policies (generally monetary or fiscal policy) • Members give up powers. Strong central institutions which dictate common economic policy • Complete economic integration: • All economic policy areas are harmonised • The capacity of states to implement independent policies disappears • Central institutions become the centres of economic decision-making

6. The stages of economic integration in the EU

7. Economic integration to achieve competitiveness • Why did a customs union (the EC) decide to increase the pace of economic integration during the 1980s and 1990s? • Increasing globalisation of the world economy (increased competition, especially from the US, Japan, and the NICs) • More sophisticated systems to dodge trade barriers (multinational corporations) • Belief that market fragmentation (nationally divided markets) was reducing economies of scale

8. GDP per capita (2000) in Europe, the US and Japan

9. The limits of European competitiveness • The costs of the ‘non-Europe’ (Cecchini, 1991): • Physical barriers: Intra-European stoppages, controls at border checkpoints, red-tape, different currencies… • Technical barriers: Different national product standards and technical regulations across Member States • Fiscal barriers: Lack of fiscal harmonisation

10. Physical barriers • Custom related costs: • Customs controls, border stoppages • Paperwork and red-tape • Exchange of low-value added perishable goods suffered as a result • High administrative costs and regulatory hassles: • Higher cost of red-tape of SMEs (higher proportion of their business volume, and lack of expertise and human resources)

11. Physical barriers (II) • Protected markets (II): • Fear of foreign dependence leads to protection of ‘national strategic sectors’ • Many sectors fall under this umbrella: petrochemical industries, shipbuilding, iron and steel, tobacco, car manufacturing, telecommunications, air transport,... • Formation of monopolies (BT, Deutsche Telekom, SIP, Air France, Iberia,...) or oligopolies • Cost of protection born by the consumer: • Lack of competition and underperforming industries • And companies: • Higher prices for services than their competitors

12. Physical barriers (III) • Different currencies: • Transaction costs of changing currencies • Higher costs of holding higher international reserves • Costs associated to exchange rate volatility • Higher interest rates in many countries

13. Technical barriers • Different product standards and technical regulations: • Problems and additional costs for consumers • Cost for firms which had to adapt their products to different national standards • Cost premium for SMEs • Protected public-sector procurement: • Government supply and construction contrast restricted to national firms • Or technical regulations discriminating against foreign bidders

14. Fiscal barriers • Different fiscal regimes: • Different regimes for companies • Different VAT rates • Different national accounting standards: • Duplication or multiplication of accounting standards for multinational companies • ‘Fiscal suspicion’ by national authorities in order to prevent tax evasion • Premium for SMEs

15. The expected benefits of economic integration • Cecchini report (1988). Cost saving effects: • ‘Static trade effect’: benefits reaped from allowing public authorities to buy from the cheapest suppliers • ‘Competition effect’: Downward pressure on prices as a result of greater competition • ‘Restructuring effect’: Reorganisation of industrial sectors and individual companies as a result of greater competition • Other possible benefits: • Benefits on investment, innovation (rationalisation of R&D expenditure) and growth • Savings for the public sector (lower government subsidies for inefficient firms

16. The expected benefits of economic integration (II) • Combination of cost saving effects results in two kinds of benefits: • Direct benefits: from the eradication of economic borders • Indirect benefits: from economic restructuring, increases in trade and competition and greater economies of scale • Result: • The emergence of virtuous cycles of innovation and competition • Lowering of prices for consumers • Greater job creation

17. Estimation of benefits • Cecchini (1988): 4 to 7% of Europe’s GDP • Baldwin:

18. The expected benefits of monetary union • For all Member States adopting the Euro: • Price transparency across borders, inducing a greater ‘competition effect’ • Elimination of transaction costs of changing currencies • Savings through holding lower international reserves • Reduction of uncertainty caused by exchange rate volatility • Specific benefits for peripheral economies: • Image premium and credibility in international markets • Monetary and macroeconomic stability (lower inflation, deficit, debt, and interest rates)

19. The possible impact of monetary union • Possible impact: • Large benefits expected … • But Commission reluctant to issue estimates (as was the case of with the Single Market)

20. The impact of economic integration • Is European economic integration delivering the benefits predicted by its supporters? • Has the EU experienced the increases in trade, the more efficient allocation of resources, and the greater growth and welfare gains expected? • Have European economies become more competitive?

21. Trade • Sizeable increase in trade across the EU • Greater expansion in absolute terms than in other developed areas of the world • But not in relative terms, where the US has expanded more (but not Japan) • This means that in a world context the evolution of European trade has been rather disappointing, especially in comparison with countries like Canada or Mexico, which have undergone milder processes of integration

22. Exports of goods and services as a share of GDP

23. Trade at a national level • Several countries have experienced significant increases: • Countries with relatively open economies: Ireland • Countries which were relatively closed: Finland, Sweden, Spain, or Italy • The trend is far from universal: • Germany, Greece, and Portugal have seen their exports as a share of GDP decline • Luxembourg, Greece, and Portugal have seen a decline in their import share • The lack of a clear pattern in the evolution of trade suggests that no greater territorial specialization is evident

24. Changes in trade patterns • Increase in intra-industry trade… • But, stability of inter-industry trade • This has prevented a further concentration of capital intensive industries in core countries to the detriment of the periphery • Former lagging countries such as Ireland and Spain have profited from integration to expand trade and attract capital intensive industries… • Portugal and Greece have been less successful • The level of intra-industry trade suggests that the expected specialization may be starting to happen

25. Foreign direct investment • Early stages of integration seem to have had a lower impact on FDI than on trade • Net inflows of FDI oscillate with economic cycles • Flows of FDI reached their peak around 1990 • After the implementation of the Single Market they followed a downward trend • In international comparisons the EU does not score favourably • When compared to the US, net inflows of FDI into the EU have declined with respect to the period before 1993. • FDI flows among the member states have lost some importance... • But, outflows to the rest of the world have increased.

26. FDI net inflows

27. Economies of scale • Ex-ante reports highlighted that economic integration was to bring about a more efficient concentration of resources • And a restructuring of companies • Number of mergers and acquisitions has increased by more than two and a half times between 1987 and 1998 • The bulk of this happened in anticipation of the Single Market • Transnational M&As have taken off after the Single Market and in anticipation of EMU.

28. Economies of scale (II) • Three stages in the process: • National M&As: started to take place during the late 1980s in anticipation of the Single Market • European M&As: the percentage of M&A involving at least one foreign company almost doubled between 1990 and 1998. • Trans-national M&As: Increasingly M&As are global. In 1998 one third of all M&As involved at least one non-EU partner. • During the 1990s there has been an important increase in the volume of the deals. • The total volume of deals has been multiplied by six between 1991 and 1998 • Greater expansion in outward M&As

29. Mergers and acquisitions (1987-98)

30. Economies of scale (III) • European companies have become more ambitious and aggressive: • Probably in connection to the launch of the Euro • But also as a result of the emergence of new TNCs in Europe resulting from previous mergers • New mergers increasingly involve companies from two different European countries: • Orange and Mannesman • Vodafone and Mannesman • And also truly global M&As: • Daimler-Chriysler • Terra Lycos • Repsol-YPF

31. Volume of cross-border M&A's (Billion US$)

32. Volume of cross-border M&A's (%)

33. Economies of scale (IV) • But have EU companies become the leading actors in international M&As? • Despite the increase in numbers and size, EU companies have lagged behind the US... • And during much of the 1990s also behind Japan and the Asian Dragons • Only the Asian crisis of 1997/98 changed the tide • And a diminishing number of European companies can be found among the top 50 in the world

34. Location of the world's largest 50 corporations

35. Productivity • European labour productivity has been reducing the gap with the US in the post-war decades • Convergence came to an end in the second half of the 1980s • Increasing technology gap between the US and the EU • Permanence of fragmented markets in Europe (monopolies which prevented access to new technologies) • Rigidity of European labour markets (which kept the young out of work) • Productivity has grown faster in the US in the 1990s • Some encouraging signs for EU (advantage in mobiles)

36. Labour Productivity Growth

37. Productivity in selected EU countries Source:World Bank World Development Indicators (2000).

38. Growth • On average, the EU has had slightly greater growth than the US and lower than Japan during the post-war decades • Precisely at the time of European economic integration, the roles have been reversed • Greater growth in the US (double that of the EMU area) • Lower in Japan • Strong internal divergence in growth patterns in the EU • Extremely high growth in Ireland and Luxembourg • Moderate in Austria, Denmark, the Netherlands and Portugal • Low elsewhere in the EU

39. Average growth in the EU, US, and Japan (1960-2000)

40. Conclusion • The impact of economic integration on the economic performance of the EU has not been as spectacular and immediate as predicted by ex-ante studies • The gap between the EU and the US has increased in many areas (growth, productivity, trade, M&As) • Different economic cycles may have a lot to say about diverging economic performances • However, economic integration may be setting the bases for a quicker adaptation by the EU in the future to new economic challenges