How to Accelerate Economic Growth in the Euroarea?

The impetus for this article is a Budget and Finance Committee with the Bulgarian Parliament inquiry to the IME on the question “How to accelerate economic growth in the Euroarea?” because of participation of Bulgarian deputies in an interparliamentary discussion. The scope of the answer is broader as the proposals are relevant not only for the Euroarea (EA) but also for the European Union (EU) as a whole. For that purpose a short SWOT analysis is made without the claim to be comprehensive.

Strengths of EA and EU economies are the relatively good quality of education and healthcare, the availability of trained human resources, the well-developed infrastructure; and the relatively low energy intensity (188 kg of oil equivalent per 1000 euro produced GDP for the EA, in comparison to the United States – 314 kg, but not to Japan 119 kg). [1]

Weaknesses are the multitudes of regulations, the great size of the public sector, and the relatively lower R&D expenditures (1.9 percent of GDP for the EA compared to 2.6 percent in the United States and 3.15 percent of GDP in Japan). At the same time “Europe” works about 35% less than USA and 40% less than “Japan” (according to Olivier Blanchard's study). According to the OECD/SIGMA measurements in 2001 the burden of the EU legislation on companies in the member states is about EUR 540 billion per year. [2] (There are not such comprehensive measurements after 2001 but the different assessments of the Lisbon Strategy admit that the situation is even worse.)

Opportunities for the EU and the EA are discovered, at present, mainly by joining of new members from “New Europe” and by strengthening the relations to Mediterranean and other neighbor countries.

Threats to the economy may arise due to worsening demography; the growing gap in incomes per head and the labor productivity with the United States; budget deficits (they are 2.7 percent of GDP in 2004), the growing government debt, as well as unfavorable development in the international conjuncture.

The following initiatives related to the macroeconomic evaluation aimed at accelerating the growth rate of the European Union and the Euroarea economies are proposed:

·         The EU should be transformed into a free trade area and the restrictions (tariff and non-tariff) on the trade with non-EU countries should be removed, combined with a full rejection of the competition policy, based on concepts like “social” dumping. Since Adam Smith, the freedom of exchange is acknowledged as one of the main sources of economic growth. The removal of the obstacles to free trade would increase the effectiveness and efficiency of European economies by directing resources to the most productive use.

·         Limiting the European Central Bank's functions by enabling a free competition of currencies in EU borders including those issued by private institutions (banks and large corporations); facilitating the adoption of the euro as a legal tender in countries willing to use this currency. Sound money is a substantial element for the economic growth because it does not allow income redistribution, which is not justified by the market competition; they also reduce the uncertainty about the future prices and costs for planning.

·         Refusal of so-called “welfare state”; reforms in pension and healthcare system to increase the share of capital pillar and the saving rate. Systems based on solidarity should be reduced to provide the minimum of a certain service while the main package should be secured by individual accounts in separate capital funds. Pension system deficits become very important in the case of worsening demographic indicators and require faster actions in this direction.

·         Reforming education as it should provide human resources and be instrumental in the so-called “knowledge-based economy”. Separating this system from the state, using vouchers and decentralization will provide funding for these educational institutions, which are preferred by the market and will increase the quality. This, of course, is applied in some countries but the good cases should be more.

·         Private provision of so-called public services and privatization not only of state-owned enterprises which are relatively large in number but also of the other existing assets of the state (infrastructure, land, forests and mountains, rivers, water, seaside, underground resources, etc.). According to a Deutsche Bank study from September 2004, investment and projects in this area should amount of EUR 15 trillion by 2015. New member states will gain more by this privatization. This is particularly applicable to Bulgaria where there are greater limitations, the information is less and the de facto protection of local privileged persons from foreign investment has continued longer.

·         Lowering the tax burden, stimulating the tax competition among the single member states because the tax rate harmonization is harmful for countries willing to develop faster. The situation in new member states implementing policies of lower and flatter taxes on income and profit indicates that they achieve faster economic growth and attract more investment. Moreover, budget deficits should also be decreased thus reducing the possibility for higher debt burden for the next generations.

·         Reforming the common agriculture policy through removal of subsidies for this particular industry as well as others; limiting the government interference in agriculture production market (removal of so-called intervention agencies). Common agriculture policy is a substantial element of the EU budget and works as a redistribution mechanism of income to a particular industry on account of the rest. Free trade and competition as well as the lack of subsidies and market interventions would decrease the prices and force farmers to produce more efficiently.

·         Liberalizing labor market, labor migration and working time, reducing the regulations related to hiring and firing workers; reforming the social safety net (reducing the size and duration of aids) and facilitating free movement of people and services. This measure is aimed to decreasing the unemployment ratio in EU, which has grown during the last years. Flexible labor market enables creation of new jobs and higher income and gives incentives to people to work instead of rely on social payments.

Presented measures are directed to the expansion of the economic freedom in the European countries, which in turn is highly correlated with achieving higher rate of long-term economic growth. These actions should be an object of further description and extension but they comprise the main path that should be followed by the EU. A great number of them may and must be applied in Bulgaria where the expected results would be even larger because of the greater need for reforms in the country.