Can EU’s knowledge economy compete on a global scale?

Increased imports need not inevitably lead to job losses in Europe despite growing competition from globalisation, according to new research. The MICRO-DYN (Micro-Dynamics) project analysed the innovativeness and competitiveness of companies, industries and regions in Europe’s knowledge-based economy, and trends in employment in this sector.

The researchers define ‘knowledge-based economy’ by contrasting knowledge with other economic goods. Knowledge is a valuable asset held within humans or organisations that typically lacks explicit physical embodiment, although it may be embedded in forms such as patents, artefacts, designs, software programs or documents. Although it can be regarded as a common good, knowledge as an asset can be reduced in value if transferred to another company or country.

To measure knowledge as an input to the European economy, MICRO-DYN analysed data on 195,000 companies, looking at the relationship between company performance, degree of innovation, and how international they were, using comparable data across a set of EU countries. They studied balance sheets, companies’ trade status (import/export), type of ownership, amount of foreign investment, and whether they were a domestic enterprise or a foreign affiliate. The data-gathering covered the early 1990s to the mid 2000s, a period during which the European community was enlarged, the single currency introduced and China joined the World Trade Organisation.

The project began in 2006 and aimed to find out how knowledge-driven growth affects labour demand, and how European firms can respond to growing competition in the world economy and to challenges of globalisation.

In contrast to the conventionally-held view that imports (especially during a time of economic crisis) lead directly to increased competition for domestic firms, potential job losses and a deteriorating trade balance, the researchers found:

  • On average, there is a positive correlation between imports and company performance. Imported technology could bring innovations, leading to an ability to export and to productivity growth.
  • Attracting foreign capital investment may be seen as advantageous to a country’s economy, but often the cost of providing incentives renders the advantage marginal.
  • Firms in similar sectors vary considerably and different types of policies attract different types of multinationals. For example, knowledge transfers from multinational companies take place in research-intensive sectors, but to a lesser extent in manufacturing or service sectors.
  • In advanced markets such as the EU the concept of ‘reverse’ knowledge transfers exists, where multinationals from abroad invest in the EU with the explicit purpose of sourcing technology from domestic European rivals.
  • The ability of multinational groups to grasp comparative advantage through the fragmentation of the production chain is a key driver of company performance. Subsidiaries of multinational European groups, operating within relatively large networks of affiliates in New Member States, are 90.7 per cent more productive than simpler groups with just one subsidiary in the same countries. At the same time, groups which have an ultimate corporate owner are in turn more productive than groups ultimately owned (more than 50 per cent) by individual (or family) shareholders.

Key policy messages:

  • Internationalisation through trade – currently, most policy boils down to export promotion activities. New evidence from MICRO-DYN reveals that in today’s complex, integrated markets, imports matter as much as exports in driving productivity. For the most productive companies, finished products can require the use of specialised parts and components sourced from different countries. As a result, trade promotion policies should not only focus on the ‘export’ status of companies, but rather on integrating firms within global value chains.
  • Export promotion policies have mixed results and should be carefully evaluated. The most successful are undertaken in close co-operation with organisations such as Chambers of Commerce, aimed at linking companies and trade missions. Policies should concentrate on lowering costs of accessing information and services, such as providing incentives to attend trade fairs, rather than directly subsidising companies that would not be sufficiently productive to export on their own.
  • Education and training – because of the interdependence of various ways of conducting international business, such as outsourcing, offshoring, and import and export, the skills needed are not technology or job specific. Training should focus on developing general skills in foreign languages, IT and management to help a company adapt to changes and benefit from innovation and foreign exposure.
  • Internationalisation of production – knowledge can be transferred both ways, from multinationals to local companies, but also from EU companies to non-EU competitors. Non-EU investors may gain more in sourcing technology than the EU firms which benefit from the investment. This could alter economic justifications traditionally used to attract such investments, especially in those cases in which competition among host countries for attracting foreign capital provide very generous incentive packages.
  • Protectionist measures within the newly enlarged EU would damage both country of origin and of destination, and would prevent EU companies gaining opportunities offered by the increasing fragmentation of the production chain.
  • Competition policy affects innovation differently during the various stages of the innovation process. Flexibility is needed to differentiate between different categories of innovative firms.
  • Public support should focus on continuous assistance, rather than one-off projects, such as improved business conditions, or education levels. One-off grants and sector-specific support measures are likely to have a limited impact on innovation – firms only undertake research they have already planned, and are unlikely to switch following the specific needs of a policy ‘call’.
  • The relationship between innovation and job creation is not clear, as innovative activities tend to affect workers’ tasks according to their skills. The effectiveness with which national labour markets tend to reallocate workers towards the most productive firms also affects the outcome of this relationship, posing an important challenge to the development of appropriate innovation and job-creation policies in the context of the new EU2020 strategy. See: http://ec.europa.eu/eu2020/index_en.htm

The research was conducted by 17 European research institutes and funded by the EU’s 6th Framework Programme. The researchers believe that by harmonising data, setting up joint data banks and extracting the policy implications across Europe, the project will help to achieve a broad European policy perspective on these issues.

MICRO-DYN – The competitiveness of firms, regions and industries in the knowledge-based economy: What room for job-rich growth in Europe? (duration: 1/10/2006 – 31/1/2011) is an Integrated Project funded under the 6th Framework Programme for Research of the European Union, Thematic Priority 7 - Citizens and governance in a knowledge-based economy.

See: http://www.micro-dyn.eu

Contact: Michael Landesmann, landesmann@wiiw.ac.at; Carlo Altomonte, carlo.altomonte@unibocconi.it