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Many Europeans are deeply ambivalent about
the economic performance of the European Union. “The EU was
meant to bring us a golden future, but instead it has brought us
stagnation, unemployment and social discontent” has become
a familiar refrain. What is worse, lest we abandon our relentless
pessimism, our eternally optimistic American friends excel at reminding
us that they are richer, enjoy faster growth with lower unemployment
and are generally better off in every way. Lots of sensible folk
buy into this story; but is it borne out by the facts? The right
answer is not a simple yes or no, so let me explain.
In what sense is the US richer?
Average gross domestic product (GDP) in the US
is about 40 per cent higher than average GDP of the EU-15 when measured
at purchasing power parity (PPP). The gap is slightly greater if
we consider either the twelve Eurozone members (EU-12) or add the
accession states (EU-25). Although GDP is a poor indicator of measure
of welfare or happiness, let’s agree to use it for the sake
of comparison.
The main reason the US is richer is because, first,
a higher proportion of Americans are in employment and, secondly,
they work about 20 per cent more hours per year than Europeans.
When we look at GDP in 2005 per person per hour worked, there is
virtually no difference between Germany, France and the US.
Economists often speak of this as revealing different
American and European social preferences for work and leisure. In
truth, both the employment rate and how long the average person
works are explained mainly by political history. Until the late
1970s total hours worked were falling both in Europe and in the
USA; since then, total hours worked have continued to fall in the
EU-15 but have risen again in the US. Equally, if we look at employment
data by age group, Americans join the work force earlier and leave
it far later than Europeans. The key to understanding why this has
happened is the change in US income distribution over the past 30
years. Since 1979, the bottom 40 per cent of income earners in the
US has been treading water while the bottom 20 per cent has become
poorer. US workers have needed to put in more years and longer hours
simply to maintain their real income position.
Who has faster growth?
Does the US grow faster than the EU? Again, the
answer depends on what we measure. When we compare the growth rate
of GDP of the US and the EU-15, the US rate averaged over the past
decade is about 1.2 percentage points higher than that of the EU-15
(oddly, the difference is slightly smaller if we use the EU-25).
But the usual measure of growing prosperity is GDP per head; i.e.
if GDP grows at 2 per cent but population grows as 3 per cent, then
GDP per head is falling! US population growth is a full percentage
point higher that that of the EU-15, mainly because US immigration
in the past decade has been higher. Expressed on a per capita basis,
GDP growth rates in the US and the EU are virtually the same over
the past decade. The same is true of labour productivity growth.
What is also true is that since the 2001 recession,
the US has bounced back faster than the EU. At present, both GDP
growth per head and labour productivity are growing faster in the
US. But recent US productivity gains are concentrated in distribution
rather than manufacturing, and US growth continues to pull in more
imports than it produces exports, resulting in a growing external
deficit - funded in part by the EU current account surplus.
On the EU-15 side, lower growth is reflected in
a high and prolonged average rate of unemployment, which has remained
about three points above that of the US for some time. Equally,
looking at the disaggregated data, some EU-15 countries have done
better than others over the past decade in terms of prosperity and
unemployment; e.g. the UK, Ireland and the Nordic countries. But
these differences exist for quite different reasons and, equally
important, we do not normally disaggregate US data to compare growth
in (say) North Dakota and California.
Employment and unemployment
Perhaps the most common argument is that contrasting
the job-creating virtues of the US ‘flexible’ labour market
with the sclerotic state of the EU where unemployment is persistently
high. Economics students attending US university (and increasingly
those in the EU as well) learn that because EU labour is supplied
at an artificially high wage rate, equilibrium employment in the
EU is lower and unemployment higher.
Now while it is true that the US has a better employment and unemployment
record, the key to understanding the difference between the EU and
the US lies in disaggregating employment by age group. If we compare
employment rates in 2005 of the 25-55 age group, there is virtually
no difference; e.g. the employment rates are 86 and 88 per cent
for the EU-15 and the US respectively (ignoring differences in how
the data are recorded). The US data show a higher employment rate
for youth (15-24) and a much higher rate for pre-retirement (55-64)
and post retirement (65 and over) groups. What the average employment
and unemployment figures hide is the age-specific nature of the
‘European problem’. The picture remains much the same
when comparing the US and the EU-25.
source: Terry Ward, Alphametrics,
Cambridge and Brussels, 2006
Once again, the crucial element in understanding
these differences is income distribution. At the youth end of the
scale, young workers in the US get less education and those who
go to university are more likely to work part-time than their European
counterparts. At the older end of the scale, pension provision in
the US is neither as broad nor as generous as in the EU so people
- particularly the poor who cannot afford to save for retirement
- carry on working.
Making labour markets ‘more flexible’
(ie, cutting wages) does not cure these problems; if anything it
makes the problem worse. By contrast, putting resources into active
labour market policies such as improved education, retraining and
high benefit provision contingent on job searching helps workers
to find and retain high productivity jobs. This is the strategy
pursued by the Nordic countries, one which has paid and will continue
to pay handsome rewards in terms of prosperity and job security.
Who wins?
Comparing the economic performance of the European
Union and the USA does not lead one to conclude that America has
the more dynamic economy, or that it has performed better in the
past or will do so in future. The most crucial feature of the comparison’
is neither the growth nor the unemployment record of the US and
the EU. It is, rather, that US growth, unlike that in the EU, is
funded by a dangerously high mountain of foreign debt. US external
indebtedness in turn is driven by the US house price bubble, enabling
US consumers to spend more than they earn. Ironically, it is the
EU which, together with China and Japan, continues to lend the money
to the US which keeps their households spending and their economy
growing.
The truth is that neither side ‘wins’
in this beauty contest. Europe merely does less badly than the USA
in some crucial respects. Yes, while it is true that the core Eurozone
countries could perform far better, Germany, France and Italy have
quite different problems - in comparison both to the US and to each
other - which require quite different solutions. Anybody who claims
that the US provides a model which the EU should copy needs to consider
the basic economic facts of the case.
George Irvin is a retired academic economist
who is currently Professorial Research Fellow at SOAS, London. His
new book, "'Regaining Europe", was published in April
by Federal Trust. The opinions expressed are those of the author
and not necessary those of Federal Union. June 2006.
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