Europe’s Competitiveness Trap

LONDON – A flawed understanding of what drives economic growth has emerged as the gravest threat to recovery in Europe. European policymakers are obsessed with national “competitiveness,” and genuinely appear to think that prosperity is synonymous with trade surpluses. This largely explains why Germany is routinely cited as an example of a strong, “competitive” economy.

But economic growth, even in traditionally export-led economies, is driven by productivity growth, not by the ability to capture a growing share of global markets. While imports must, of course, be financed by exports, the focus on trade competitiveness is drawing attention away from Europe’s underlying problem – very weak productivity growth. And this is as serious a problem in the economies running trade surpluses as it is in those running deficits.

The idea that economic growth is determined by a battle for global market share in manufactured goods is easy for politicians to grasp and to communicate to their electorates. Economies running external surpluses are regarded as “competitive,” regardless of their productivity or growth performance. The trade balance is seen as a country’s “bottom line,” as if countries were firms. In fact, they have little in common – the trade balance is simply the difference between domestic savings and investment or more broadly, between aggregate spending and output – but referring to Deutschland AG, or UK plc, is conceptually attractive and seductively easy.

Governments obsessed with national competitiveness are likely to pursue damaging economic policies. If economic growth is seen as being dependent on the cost competitiveness of exports, governments will focus on things that might make sense for exporters, but not for their economies as a whole, such as labor-market policies aimed at artificially holding down wage growth, which redistributes income from labor to capital and exacerbates inequality.