Anders Aslund is a senior fellow at the Atlantic Council in Washington. He is author of “Europe’s Growth Challenge (with Simeon Djankov).
When Group of 7 leaders meet today, their discussions will be focused on trade, climate and migration. But they probably won’t address one of the most urgent problems facing Europe’s economic development.
The European economy has been stagnant since the global financial crisis that erupted in 2008 and fallen further behind the U.S. economy. The key problem is that Europe’s productivity hardly grows. It is doing particularly poorly when it comes to innovation, where the United States is more dominant than ever.
Europe can and must reform. The responsibility lies primarily with the national governments, which prefer to blame the European Union rather than carry out reform themselves.
Whatever measure we use for innovation, the United States is more innovative than Europe. U.S. companies are younger. Of the 100 biggest companies in Europe, only 13 were founded after 1950 — compare that with 40 in the United States. Americans register more patents. Only six out of 28 E.U. countries file more patent applications with the World Intellectual Property Organization per person than the United States. In 2015, Forbes assessed that only 11 of the world’s most innovative companies were European.
Europe’s situation is not hopeless. It used to be highly innovative and can become so again. By most measures, the northern countries — Sweden, Finland, Germany, Denmark and the Netherlands — do quite well. They have all gone through crises that awoke them to their own weaknesses. The problems lie primarily in the south and east of Europe. The shortcomings are both qualitative and financial.
Innovations require fertile ecosystems, and the 20 leading ones are in the United States. Unsurprisingly, northern California’s Silicon Valley stands out. An innovation-friendly ecosystem requires many elements: an elite university, ample financing, risk capital, sensible property rights, friendly regulation, open markets and welcoming immigration regimes.
The most striking European shortcoming is the deficiency of its best universities. Neither of the two rankings of the best research universities in the world, the Times Higher Education Supplement or the Shanghai List, ranks any continental E.U. university among the top 25. American universities dominate, and some British universities rank high, notably Oxford and Cambridge. Without a Stanford, a country cannot get a Silicon Valley.
The state dominates and stifles European universities. One reason for the success of the best British universities is that they have sufficient autonomy from the state. Professorial salaries in Europe are usually capped, incentivizing the best professors to move to the United States. The state tends to spread its resources evenly rather than giving more to the best and brightest researchers. Politicians dominate university boards, imposing political objectives such as regional policy, mass education and egalitarianism but preventing the formation of a critical mass of elite research. Worse, the very idea of elite education is usually taboo.
The European Union has set the sensible goal of 3 percent of GDP in total private and public research and development financing, but in 2014 the European average was only 1.7 percent of GDP compared with 2.8 percent in the United States. Yet five northern European countries exceeded the U.S. level.
Another problem is the scarcity of risk-taking venture capital. Arguably, this is the shortcoming that could be fixed the most easily, by loosening regulation of capital markets. Forty percent of all venture capital in Europe comes from state coffers — a bad sign, since governments are notoriously risk-averse, and 40 percent of ventures fail.
Contrary to popular opinion, which assumes the imposition of onerous rules from Brussels, fragmentation of regulations remains a major concern, especially for new technologies such as nanotechnology and biotechnology. Moreover, many countries have a tendency to prohibit when in doubt. No country in Europe has developed significant shale gas production. France, the Czech Republic and Bulgaria prohibited it outright without scrutinizing scientific evidence. Uber and Airbnb face restrictions and prohibitions in many countries.
On the positive side, many European countries have liberalized their immigration rules and even taxation to attract qualified professionals in recent years. The E.U. introduced a special visa for prospective entrepreneurs in 2011. Currently, nine E.U. countries have a larger share of foreign-born residents than the United States. Cities such as London and Berlin compete in offering attractive liberal lifestyles. The E.U. Erasmus student exchange program has opened up the university market. Though anti-immigration moods are often reported, in practice Europe has become far more open.
The main economic achievement of the E.U. is the single market, though it needs to be completed. Two decades ago, Finnish Nokia and Swedish Ericsson beat American Motorola in the mobile phone market, but now the iPhone rules the roost and its main competitor is Samsung. Former Finnish Prime Minister Esko Aho explains Nokia’s rise and fall with the European single market functioning for goods, but not for digital goods. The Europeans did well so long as phones were hardware, because the E.U. single market provides a favorable environment for manufactured goods. Today, however, smartphones are primarily software, and the E.U. still lacks a digital single market. The global high-tech leaders are Apple, Google, Microsoft and Amazon.
This lack of a common digital market harms the development of high-tech startups, which are limited to their domestic markets. The formation of a digital market is one of the top goals of the current European Commission, but it is unclear when it will come about. The same is true of the service market, which remains only half-liberalized.
Europe is still falling behind the United States in terms of productivity and innovation, but European complacency is fading, and understanding of the need for the necessary reforms is growing.
Europe’s shortcomings are multifaceted, but they can be fixed. Europeans are increasingly aware of their backwardness, while the U.S. election of a protectionist president suggests that Americans may be losing sight of their own strengths. France’s Emmanuel Macron has even invited freedom-loving U.S. scientists to move to France. But don’t hold your breath.