Growth and Opportunity

 Prioritising economic reform in 
Europe 

February 2005




Growth and Opportunity

 Prioritising economic reform in 
Europe 

February 2005



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CONTENTS


Page 
Foreword by the Prime Minister 3 

Executive Summary 5 

Chapter 1 Growth and employment: a European priority 7 

Chapter 2 Seizing opportunity: economic reform in Europe 19 

List of charts and tables 49 

List of boxes 50 


FOREWORD BY THE PRIME MINISTER


2005 is an important year for the Lisbon strategy. It is a chance to take stock of 
the progress made at the European level since 2000, and set the agenda for the 
next five years. 

The EU has achieved a lot since the Lisbon strategy was established five years ago. 
We have made good progress in opening markets in telecoms, network industries, 
and financial services. We have created millions of new jobs, delivering prosperity 
and opportunity to millions of families across Europe. But as Wim Kok has said, 
commenting on progress so far, in a world economy which is constantly changing, 
we need to go further and faster. 

The European Commission has acknowledged this in its new plans to refocus the 
Lisbon strategy on promoting growth and jobs. This is the right priority and the 
best way to equip the EU to meet the social, environmental and economic 
objectives we have set ourselves. 

This report is a valuable contribution to our work in pursuing these goals. It shows 
where we have made progress, and where we now need to concentrate our efforts 
to deliver growth, jobs and a sustainable future for Europe’s citizens. It reaches 
important conclusions about how we can create more jobs, and help our 
businesses to seize the opportunities presented by a fast moving global economy. 
And it draws the right conclusions on how European leaders – acting nationally 
and together – can act to generate the conditions for sustainable growth. 


Growth and Opportunity: Prioritising Economic Reform in Europe 


Growth and Opportunity: Prioritising Economic Reform in Europe 


EXECUTIVE SUMMARY


At the Lisbon European Council in March 2000 Europe’s leaders committed themselves to 
a ten-year programme of economic reform designed to make the European Union the 
most competitive and dynamic knowledge-based economy in the world with more and 
better jobs and greater social cohesion. In the past five years important progress has been 
made in reforming the European Economy. But the challenges ahead remain substantial: 

• 
globalisation, advances in new technologies and the increasing integration of 
emerging economies into global patterns of trade and investment are placing 
Europe under sustained and intensified competitive pressure and forcing Member 
States to adapt, and adapt quickly, to maintain growth and living standards; 
• 
major demographic challenges caused by an ageing population have profound 
implications for long-term growth in Europe and place significant pressures on the 
sustainability of age-related public spending programmes across the Union; and 
• 
the gap between Europe’s economic performance and that of its major 
international competitors has widened, with economic growth, employment rates, 
productivity levels and living standards below those in the US economy. 
The mid-term review of the Lisbon strategy offers a vital opportunity for the European 
Union to address these challenges and to advance its goal of higher standards of living and 
social cohesion. The agenda that flows from this demands a concerted programme of 
structural reform, with economic growth at centre stage and urgent action by the Member 
States and institutions of Europe to strengthen each of the key drivers of growth – 
employment and productivity. In the words of the European Commission: “the opening of 
international markets and the strong growth of the newly industrialising economies will make 
a significant contribution to growth and jobs. However, this will only happen if we can ensure 
a deeper and more rapid process of structural adjustment…to reallocate resources to sectors 
where Europe has a comparative advantage. Facilitating change to more competitive sectors 
and better quality jobs is therefore critical to the success of the renewed Lisbon strategy”. 

A Lisbon strategy focused on the key objective of economic growth does not mean that 
Europe should renege on its defining commitment to social justice and to high standards 
of environmental protection. These will rightly remain at the very heart of European 
ambition. But in a world of ever-intensifying global competition, in which adaptability and 
responsiveness is the key to success, policies constructed on the outdated notion of a 
trade-off between economic efficiency and social and environmental fairness should be 
reconsidered. As the European Commission has concluded “we need a dynamic economy to 
fuel our wider social and environmental ambitions”. 

The UK Government strongly welcomes the work of the High Level Group chaired by Wim 
Kok and the European Commission’s communication to the spring European Council. If 
Europe is to set in place the foundations for economic success in an increasingly globalised 
world economy, and deliver growth, jobs and rising living standards for all its citizens, the 
mid-term review must embrace and agree a programme of change designed to: 

Growth and Opportunity: Prioritising Economic Reform in Europe 


EXECUTIVE SUMMARY 

• 
deliver a dynamic and competitive Single Market, with liberalisation in 
services, and a new strategic focus to ensure that the benefits of economic 
integration are realised, through better implementation of existing regulation, a 
pro-active approach to competition policy, steps to promote competition in public 
procurement, and further reform of the state aids framework; 
• 
establish the right climate for enterprise and innovation, through further 
action to strengthen and reform the regulatory framework in Europe building on 
the Six Presidencies’ initiative, reform of Community funding for research and 
development, urgent action to improve the intellectual property regime in Europe, 
and the launch of a new European Centres of Enterprise competition; 
• 
promote flexibility and security in the labour markets, by implementing 
the recommendations made by Wim Kok’s European Employment Taskforce, and 
so equipping people with the skills they need to master change and to compete 
effectively for jobs in a rapidly changing global economy, promoting higher 
employment and social cohesion; 
• 
establish a more outward-looking Europe, through increased EU flexibility 
in advance of the WTO Ministerial in Hong Kong in order to lead the Doha 
Development Agenda negotiations towards an ambitious, liberalising and pro-poor 
agreement; and through further concrete steps to strengthen bilateral trade and 
investment relationships, especially with the US; and 
• 
deliver environmental protection with competitiveness, in particular by 
promoting eco-efficient innovations and ensuring that economic and social 
progress is matched by progress on the environment. 
To underpin delivery of this ambitious programme of reform, further action is also needed 
to improve the governance of the Lisbon strategy, strengthening political ownership and 
national incentives for reform, and ensuring that wider Community policies support, rather 
than hinder, the process of structural economic reform across Europe. To this end: 

• 
Member States should prepare National Growth and Employment 
Plans, summarising annually the actions they have taken to reform labour, 
product and capital markets, and setting out specific forward-looking 
commitments to further reform; 
• 
benchmarking of national performance should continue and be developed 
to enhance political and public exposure to the results; and 
• 
the Community budget should be refocused to better support the overall 
goals of the Lisbon Strategy, while ensuring that limited resources are directed to 
where they can add most value at the European level. 
Growth and Opportunity: Prioritising Economic Reform in Europe 


GROWTH AND EMPLOYMENT: 
A EUROPEAN PRIORITY 

At the Lisbon European Council in March 2000 Europe’s leaders committed themselves to 
a ten-year programme of economic reform designed to make the European Union the 
most competitive and dynamic knowledge-based economy in the world with more and 
better jobs and greater social cohesion. In the past five years important progress has been 
made in reforming the European economy. But the challenges ahead remain substantial: 

• 
globalisation, advances in new technologies and the increasing integration of 
emerging economies into global patterns of trade and investment are placing 
Europe under sustained and intensified competitive pressure and forcing Member 
States to adapt, and adapt quickly, to maintain growth and living standards; 
• 
major demographic challenges caused by an ageing population have profound 
implications for long-term growth in Europe and place significant pressures on the 
sustainability of age-related public spending programmes across the Union; and 
• 
the gap between Europe’s economic performance and that of its major 
international competitors has widened, with economic growth and living standards 
below those in the US economy. 
These challenges call for a renewed commitment to economic reform, with flexibility and 
economic growth at centre stage. Crucially, they demand concerted action from Europe’s 
policy-makers to strengthen the key drivers of economic growth – employment and 
productivity. For example: 

• 
22 million more people must succeed in finding work if Europe is to meet its 
employment target for 2010. This will require average annual employment growth 
rates of twice the level of those achieved in the past four years and necessitates a 
comprehensive programme of reform to improve levels of skills in the labour force 
and to facilitate greater adaptability to change; and 
• 
Europe’s productivity gap with the US has widened, with US productivity levels 
now substantially above those in the EU. This requires further structural reform to 
enhance levels of product market competition in Europe, to create the right 
climate for enterprise and innovation to flourish and to upgrade the skills of 
European workers. 
INTRODUCTION


1.1 At the Lisbon European Council in March 2000 Europe’s leaders committed 
themselves to a ten-year programme of far-reaching economic reform intended to make the 
European Union the most competitive and dynamic knowledge-based economy in the world 
with more and better jobs and greater social cohesion. As the Union approaches the midpoint in the original timeframe envisaged for action, now is an important time to take stock 
of what has been achieved and, crucially, to ask what more must still be done to realise the 
strategic vision of the Lisbon strategy. 
1.2 Since the launch of the Lisbon strategy important progress has been made in 
reforming the European economy. Many Member States have taken action to improve the 
functioning of their labour markets, to lower the obstacles faced by new and innovative 
businesses, and to open up markets to the rigours of external competition. The Community 
too has taken important strides, with reforms to competition policy and the state aid rules, 
and further action to extend and deepen the Single Market. 
Growth and Opportunity: Prioritising Economic Reform in Europe 


GROWTH AND EMPLOYMENT: A EUROPEAN PRIORITY 

1.3 But the stark reality facing policy-makers today is that the scale of reform has yet to 
match the challenges confronting the European economy. Advances in technology and the 
rapid integration of emerging economies into global markets are putting Europe under 
sustained competitive pressure, while demographic developments pose a serious threat to 
the long-term growth and prosperity of many EU nations. As the European Commission 
notes in its communication to the spring European Council: “Europe’s performance has 
diverged from that of our competitors in other parts of the world. Their productivity has grown 
faster and they have invested more in research and development.We have yet to put in place the 
structures needed to anticipate and manage better the changes in our economy and society.” 
1.4 Against this backdrop, the mid-term review of the Lisbon strategy presents a vital 
opportunity for the Member States and institutions of the European Union to reassess the 
global economic challenges that lie ahead and to unite around a common framework of 
action to ensure lasting economic prosperity for all of Europe’s citizens in the years to come. 
As the High Level Group chaired by Wim Kok noted “Lisbon’s direction is right and imperative, 
but much more urgency is needed in its implementation – and more awareness of the high cost 
of not doing so”. This chapter describes the challenges facing Europe as it prepares to 
conclude the mid-term review of Lisbon and assesses the scale of the task ahead. 
THE LONG-TERM GLOBAL CHALLENGE 

1.5 The backdrop to the Lisbon strategy is a global economy in the midst of radical 
transformation, with far-reaching and fundamental changes occurring to technology, 
production, and trading patterns. Faster information flows and falling transport costs are 
breaking down traditional geographical barriers to economic activity. The boundary between 
what can and cannot be traded is being steadily eroded and the global market encompassing 
ever-greater numbers of goods and services. Ever more countries are opening their 
economies to global trade and investment and seizing the opportunities that come from 
closer integration with the global economy. As set out in the UK Government’s December 
2004 document, Long-term global economic challenges and opportunities for the UK, each of 
these trends is set to continue, posing significant new challenges for advanced economies: 
• 
the balance of global economic activity is likely to shift significantly, with an 
increasing proportion of global output produced in the rising Asian nations 
and other emerging economies – for example, by 2015, China and India will 
account for around 25 per cent of world output in real terms. These 
developments present advanced economies with new opportunities to trade 
and invest but also pose challenges to traditional industries and sectors. 
Structural reform and flexibility is key to harnessing the benefits; 
• 
the integration of global economic activity looks set to intensify as 
international trade and investment expand, increasing competition among 
producers and offering increasingly diverse sources of, and destinations for, 
foreign direct investment (FDI). In 2003, China was the number one 
destination for FDI, attracting $57 billion. To attract investment flows, 
countries must put in place policies to create a strong investment climate; 
• 
as communication and technology continue to improve, production chains 
will become increasingly specialised and dispersed across continents in 
search of the most productive location. This places a premium on actions to 
promote enterprise and productivity to ensure that businesses can compete 
effectively in the global market place; 
Growth and Opportunity: Prioritising Economic Reform in Europe 


GROWTH AND EMPLOYMENT: A EUROPEAN PRIORITY 

• 
as global competition and the speed of technological change intensify there 
will be increasing rewards from innovation. Countries at the forefront of 
research and innovation will be best placed to move into high value-added, 
technology-driven areas which can provide new sources of growth and 
enhance their attractiveness as centres of economic activity; 
• 
to harness the opportunities that come from accelerating global integration, 
countries will increasingly need to invest in the skills of their workforce and 
ensure that individuals are equipped to continually update their skills. For 
firms deciding where to locate different parts of the production process, the 
relative skills of the labour force are likely to become increasingly important, 
and skills that were once regarded as high-level are now increasingly viewed 
as basic; and 
• 
the pace of global economic growth will place increasing pressure on energy 
and other resources, generating higher environmental costs. Action by 
governments to promote greater energy and resource efficiency and to foster 
new, low-carbon sources of energy supply will therefore become ever more 
important. 
1.6 These trends point to the increasingly global scale of markets and to an accelerating 
pace of change in all sectors of the global economy. Responding to and benefiting from this 
process of change will demand greater flexibility from governments, businesses and 
individuals. As the High-Level Group chaired by Wim Kok noted: “Even if every [Lisbon] target 
were to be hit on schedule, Europe would not be on safe ground. Competitor countries and 
regions are moving on as well, threatening Europe’s position in the global economic league 
table. Europe must find its place in a global economy, which will nonetheless enable it to 
uphold its own distinctive choices about the social model that it rightly wants to retain 
…To realise this ambition, Europe needs more growth and people in work.” 
THE CHALLENGE OF AN AGEING POPULATION 

1.7 Along with globalisation, the EU also faces a major demographic challenge. Europe’s 
population is ageing, its birth rates falling and its workforce shrinking, with the result that 
fewer people of working age are having to support growing numbers of people of above 
working age. According to the latest United Nations population projections, the average 
demographic old-age dependency ratio in the EU is set to rise from 24 per cent in 2000, to 36 
per cent by 2025 and 50 per cent by 2050. This is a steeper rise than that projected for many 
non-European developed economies, including the US, where the dependency ratio is 
projected to rise from 19 per cent in 2000 to 32 per cent in 2050. 
1.8 An ageing population has profound implications for long-term growth in Europe. 
According to the European Commission, “if left unchecked, [an ageing population will] drag 
down potential growth rates to a paltry 1 per cent per year”. The report of the High Level Group 
chaired by Wim Kok adds further weight to this conclusion, noting that “the cumulative 
impact of such a decline would be a GDP per head some 20 per cent lower than could otherwise 
be expected.” Urgent action is needed to address this challenge. 
Growth and Opportunity: Prioritising Economic Reform in Europe 


GROWTH AND EMPLOYMENT: A EUROPEAN PRIORITY 

1.9 Demographic trends also have significant implications for age-related public 
spending programmes, such as pensions and healthcare provision. In 2004, the European 
Commission published an assessment9 of the long-term sustainability of public finances in 
EU Member States and concluded that “…due to the growing concerns regarding the impact of 
ageing populations, ensuring the long-term sustainability of public finances is a key objective 
in the EU …. even assuming that all Member States achieve their medium-term budgetary 
targets, there is a risk of unsustainable public finances (measured against the 60 per cent gross 
debt of GDP reference value) emerging in at least one third of the EU15 Member States”. 
According to the Commission’s report, only six Member States have debt levels that put them 
in a relatively safe position: “Ireland, the UK, Finland, Luxembourg, Denmark and Spain have 
a relatively low level of debt/GDP ratio. This gives some room to tackle the problem if future 
imbalances arise.” 

CLOSING THE PERFORMANCE GAP 

1.10 These challenges make the development of policy more challenging; require of 
Europe’s leaders greater imagination and openness to change; and mean that the Union as a 
whole must be ready to challenge and revitalise traditional approaches to policy-making. For 
the European economy, they call for greater flexibility in product markets, labour markets and 
capital markets to ensure that Europe’s businesses and individuals are equipped to adapt to 
economic change and to take advantage of new opportunities when they arise. Structural 
reform, which promotes flexibility and fairness together, is the key to success in the modern 
global economy. There can be no security without change. 
1.11 Important progress has been made in recent years towards realising the strategic goal 
set at Lisbon. As described in Box 1.1, many EU Member States have taken steps to reform 
their economies and to reduce the structural barriers that hold back growth and prosperity. 
1See Public Finances in EMU 2004, European Commission 2004, Part 1, Section 4. 

Growth and Opportunity: Prioritising Economic Reform in Europe 


GROWTH AND EMPLOYMENT: A EUROPEAN PRIORITY 

Box 1.1: Implementing Lisbon: recent reforms in the Member States 

Over the past year or so many Member States have introduced important reforms, so 
helping to advance the Lisbon goals. Though by no means an exhaustive list, this box 
highlights a number of key measures throughout the EU. 

Many Member States have taken steps to boost growth through higher employment: 

• 
Germany has reformed its benefit system and modified job placement services to 
boost labour supply. It has also taken action to boost labour demand, through 
reforms to reduce the cost of employment protection legislation and by enabling 
social partners to increase the use of firm level clauses in collective agreements. 
• 
The Netherlands has taken further steps to make work pay, by limiting the 
maximum duration of unemployment benefits and integrating job search with 
benefit determination. Similarly, Denmark has reduced marginal tax rates and 
introduced an earned income tax credit to increase incentives for people to enter 
the labour market at lower wages. 
• 
A number of countries have introduced reforms to improve skills levels, with new 
measures to develop vocational training in Hungary, reforms to basic education in 
Latvia, modernisation of education and vocational training systems in Portugal, 
and a new social cohesion plan in France, which extends training and 
apprenticeship opportunities for the young and excluded. 
Many Member States have also taken steps to boost growth through greater productivity, 
by promoting innovation, reducing regulatory burdens and strengthening competition: 

• 
The Netherlands implemented new measures to promote industry-university links, 
and Spain acted to raise private R&D, including through the use of tax incentives. 
• 
Within the spirit of the Six Presidencies’ Initiative, Belgium, France, Germany 
Hungary, Poland and Slovakia all acted to simplify regulation for business. The 
Czech Republic and Slovenia established one-stop-shops and business information 
centres. And Italy launched new reforms to improve access to business finance. 
• 
Both Sweden and the Netherlands took steps to strengthen the implementation 
of competition policy. 
Finally, several Member States took action to increase long-term fiscal sustainability: 

• 
Italy’s Parliament approved a pension law raising the minimum retirement age, 
introducing incentives to delay retirement and promoting private pensions. 
• 
Slovakia increased its retirement age and, in early 2005, introduced a sizeable 
funded pension pillar. 
Growth and Opportunity: Prioritising Economic Reform in Europe 


GROWTH AND EMPLOYMENT: A EUROPEAN PRIORITY 

Growth and 1.12 These reforms are a positive and welcome step forward. But the problems they seek 

living standards 
to correct are deep-rooted and the task ahead remains substantial. The long-standing 
challenge identified by Europe’s leaders at Lisbon was to close the gap between the EU’s 
economic performance and that of its major international competitors, such as the US. 
During the first three decades after the war, strong growth in Europe had begun to narrow the 
divergence in living standards between the European and US economies. However, as shown 
in Chart 1.1, this process of catch-up ground to a halt in the 1980s and, since the early 1990s, 
the gap in GDP per capita has begun to widen once more. Since 1996, average annual growth 
in GDP per capita in Europe has been around one third of one per cent lower than that in the 
US. The resulting gap in living standards is now around 30 per cent for the EU15 and 35 per 
cent for the EU25. 

Chart 1.1: Comparison of living standards


105 
100 
95 
90 
85 
80 
75 
70 
65 
60 

GDP per capita in Purchasing Power Standards 

Data for 2004 and 2005 are estimates. 
Source: European Commission. 

EU15 US 
1.13 More recent economic developments offer no scope for complacency. Following a 
marked slowdown in the first half of 2003, the European economy has experienced a 
moderate recovery and the euro area now looks set to grow at around 2 per cent in both 2004 
and 2005. Stronger growth in the non-euro area countries is expected to boost growth for the 
EU as a whole to around 21/2 per cent. But even with these improvements, growth in Europe 
continues to lag that in its major international competitors. In 2004, growth in the euro 
area is forecast to have been just half of that in the US and Japan. Moreover, in the previous 
three years, cumulative growth amounted to just over 3 per cent in the euro area, or around 
33/4 per cent in the then EU15, compared with 51/2 per cent in the US. 
Growth and Opportunity: Prioritising Economic Reform in Europe 


GROWTH AND EMPLOYMENT: A EUROPEAN PRIORITY 

Chart 1.2: Real GDP growth 
*Data for 2004 are estimates. 
Source: Eurostat structural indicators database. 
-2 
0 
2 
4 
6 
2004*200320022001200019991998199719961995199419931992 
EU15 Japan US 
Per cent 
1.14 Improving Europe’s growth performance requires further concerted action to 
strengthen the key drivers of economic growth. As the European Commission notes in its 
communication to the spring European Council: “faced with this challenge Europe needs to 
improve its productivity and employ more people”. 
The employment challenge 

EU 1.15 Growth accounting analysis10 suggests that weaknesses in Europe’s labour market 
employment performance explain around two thirds of the differential in living standards between Europe 

targets 
and the US. The importance of raising employment – to boost growth, promote long-term 
fiscal sustainability and safeguard the welfare of citizens – is therefore reflected in Europe’s 
commitment to a series of stretching targets to deliver: 

• an overall employment rate of 67 per cent by 2005, and 70 per cent by 2010; 
• a female employment rate of 57 per cent by 2005, and 60 per cent by 2010; and 
• an employment rate for older workers, aged 55-64 years, of 50 per cent by 2010. 
1.16 Table 1.1 depicts progress towards these targets. Compared with 1999, the number of 
people in work across the EU has risen by around 6 million. Moreover, in excess of 4 million 
more women have found work in the past four years, lending weight to the conclusion that 
the Union could succeed in meeting its target for female employment by 2010. 
2 See, for example, EU Economy Review 2003 and EU Economy Review 2004 European Commission. 

Growth and Opportunity: Prioritising Economic Reform in Europe 


GROWTH AND EMPLOYMENT: A EUROPEAN PRIORITY 

Table 1.1: Jobs required to meet the Lisbon targets


Employment Employment Jobs created 2010 target Jobs needed 
rate in 1999 rate in 2003 end 1999-(per cent) end 2003-
(per cent) (per cent) end 2003 end 2010 
(million)1 (million) 
Total 61.9 62.9 6 70 21.6 
Female 52.9 55 4.3 60 7.6 
Older workers 36.2 40.2 2.6 50 5.3 
Note: All figures are for EU25 and assume constant population. 
Source: Employment in Europe 2004 and Employment in Europe 2003, Eurostat. 
1 For older workers, this is jobs created between end 2000 and 2003. 

Unemployment
and inactivity


1.17 Nonetheless, when viewed in the aggregate, at just under 63 per cent, the overall 
employment rate in Europe remains far below the 70 per cent target level set at Lisbon, and 
the fact remains that around 22 million more people must succeed in finding work if this 
target is to be met. Strikingly, this requires average annual employment growth of over 11/2 per 
cent in the coming years – twice the rate achieved over the past four years. And as Table 1.1 
shows, the challenge in respect of older workers is greater still. 
1.18 If the increase in employment needed to meet the Lisbon targets is great, Europe’s 
untapped pool of labour is even greater. At around 9 per cent, the unemployment rate in 
Europe is considerably higher than that in the US or Japan, leaving 19 million people 
unemployed across the Union. But even if all of these potential workers were to find 
employment, Europe still would not succeed in meeting its employment target for 2010. To 
close the gap between reality and aspiration, labour market reform in Europe must therefore 
also concentrate on reintroducing the economically inactive to the labour market. As 
illustrated in Chart 1.3, rates of inactivity are substantially greater than those of 
unemployment in all Member States. At 93 million people, the stock of economic inactivity in 
Europe dwarfs the number of unemployed jobseekers across the Union. 
Chart 1.3: Inactivity and unemployment rates in the EU 
Source: European Commission - Employment in Europe 2004. Data is for 2003. 
*Inactivity rates for Cyprus and Malta are for 2002. 
0 
5 
10 
15 
20 
25 
30 
35 
40 
45 
EU15EU25MT*
HUITGRPLBELUSIESIEFRLVLTSKEECZDEPTCY*
AUFIUKNLSEDKInactivity rate Unemployment rate 
Per cent 
Growth and Opportunity: Prioritising Economic Reform in Europe 


GROWTH AND EMPLOYMENT: A EUROPEAN PRIORITY 

Box 1.2: Boosting the contribution of employment to growth 

Since the mid-1990s, the employment rate among the EU15 economies has risen by one 
per cent per year on average. While this has helped to deliver a positive contribution to 
growth, its impact has been lower than might have been expected as average hours 
worked have fallen by around one third of one per cent. 

Much of the decrease in hours worked per capita reflects a decrease in hours per full-time 
worker, rather than an increase in the proportion of part-time workers. Since this trend 
has coincided with an increase in incomes, Blanchard1 suggests that lower hours worked 
might be interpreted as a European preference for leisure time, rather than income. 

However, many policy-makers and academics consider that the EU’s policies have also 
contributed to the EU’s reduction in hours worked. For example: 

• 
Cotis2 acknowledges that falling hours worked might partly represent a conscious 
preference for leisure, but adds that “it could equally be that low labour utilisation 
reflects European labour market and tax policies that have the effect of weakening the 
incentives to work and of reducing the demand to hire employees”; 
• 
Nickell3 concludes that “tax rates are a significant factor in explaining differences in 
the amount of market work undertaken by the working age population in different 
countries. However, the evidence suggests that tax rate differentials only explain a 
minority of the market work differentials, the majority being explained by other 
relevant labour market institutions. Particularly important are probably the 
differences in social security systems, which provide income support to various 
nonworking groups including the unemployed, the sick and disabled, and the early 
retired”; and 
• 
EU survey evidence4 suggests a greater desire among workers to increase their 
hours worked in countries with tighter statutory limits, indicating that institutional 
factors, including legal barriers, also play a role. 
In addition, Cotis also highlights the problem of long-term unemployment in the EU, noting 
that “low labour utilisation in Europe is connected to limited labour market flexibility. 
Restrictive employment protection laws, for instance, tend to dampen both hiring and firing 
and lengthen average unemployment spells. Through time, some long-term unemployed 
become discouraged and permanently exit the labour market.” 

1 The Economic Future of Europe, Olivier Blanchard, February 2004.
2 Growing Pains: Dissecting the causes of Europe’s lagging economic performance, Jean-Philippe Cotis, in Finance 
&
Development (IMF), June 2004.
3 Employment and taxes, Stephen Nickell, July 2003.
4 See the Third European Working Conditions Survey, the European Foundation for the Improvement of Living and
Working Conditions, 2000.


1.19 Tackling the causes of under-performance in European labour markets remains 
central to the Lisbon strategy. Chapter 2 describes the priorities for reform. But the need for 
action is urgent. Demographic changes place a premium on the need for faster growth in 
employment, while globalisation, increased international competition and rapid 
technological change call for greater labour market flexibility. The overarching objectives of 
labour market reform in Europe are therefore: 
• 
to facilitate the efficient reallocation of labour between sectors in response to 
changing patterns of global demand. In particular, those employed in 
declining sectors that are losing market share to new sources of international 
competition need swiftly to be re-employed in new and growing sectors, 
where the EU can compete on quality; 
Growth and Opportunity: Prioritising Economic Reform in Europe 15 


GROWTH AND EMPLOYMENT: A EUROPEAN PRIORITY 

• 
in this context, to ensure that workers have access to the training 
opportunities they need to upgrade their skills, and to find and succeed in 
higher value-added employment; 
• 
to minimise any adverse social consequences flowing from international 
competition to European businesses, providing opportunity for all and 
security for the most vulnerable; and 
• 
to absorb structural change and other shocks, including by facilitating the 
growth of wages in line with productivity and local labour market conditions. 
The productivity challenge 

The 
1.20 To achieve Europe’s strategic goal of stronger economic growth, high and rising 

productivity employment must go hand in hand with greater productivity. As shown in Chart 1.4, despite 
gap a marked variation in the productivity performance of different Member States, when 
measured in terms of output per employee, only Luxembourg enjoys higher productivity than 
the US, while the overall level of US productivity remains substantially above that in the 
enlarged Union. 

GDP per person employed (EU25=100) 

160 
140 
120 
100 
80 
60 
40 
20 

Chart 1.4: GDP per person employed and employment rate


Luxembourg US 
Belgium 
France Ireland 
Italy 
Spain EU15 Finland 
AuUK 
stria DenmarkSweden 
Malta 
Greece EU25 Germany Japan Netherlands 
Hungary 
Slovenia 
PortuCgalyprus 
Poland Slovakia Lithuania 
Estonia 
Czech Republic 
Latvia 

50 556065 70 75 
Total employment rate (per cent) 

2010 employment target 
All data for 2003.
Source: Eurostat structural indicators database.


1.21 Recent trends in Europe’s productivity performance are a particular cause for concern. 
As shown in Chart 1.5, the differential between EU and US productivity levels, on the basis of 
both hours worked and employment, has widened since the mid-1990s, reversing the period 
of catch-up that characterised the three decades following the war. Indeed, the contribution to 
EU growth from productivity has fallen by about 1 per cent since the mid-1990s, at a time when 
productivity growth rates in the US increased. Analysis suggests that:11 “fully one fifth of the 
European catch-up [in productivity] …over the previous half-century has been lost over the 
period since 1995”. Moreover, the European Commission12 estimates that weaker labour 
productivity now accounts for as much as one third of the gap in EU living standards with 
the US. 
3 Why was Europe left at the station when America’s productivity locomotive departed?, Robert Gordon, NBER Working Paper
10661, August 2004.
4 See, for example, Second Implementation Report on the 2003-2005 Broad Economic Policy Guidelines, Commission staff
working paper, January 2005.


Growth and Opportunity: Prioritising Economic Reform in Europe 


GROWTH AND EMPLOYMENT: A EUROPEAN PRIORITY 

Chart 1.5: Labour productivity in the EU and the US 
All data is in Purchasing Power Standards. 
Source: Eurostat structural indicators database. 
90 
100 
110 
120 
130 
140 
US GDP per person employedUS GDP per hour workedEU15 
2003200220012000199919981997199619951994 
1.22 Various arguments have been put forward to explain the recent deterioration in 
Europe’s relative productivity performance. For example, it has been suggested that some of 
the relative deterioration might reflect the temporary impact of the economic cycle and the 
recent increase in employment among marginally less productive individuals. Others have 
questioned the compatibility of trying to raise employment and productivity simultaneously. 
1.23 However, these objectives are mutually reinforcing, rather than inconsistent. The US 
has combined high levels of employment and labour productivity, while some Member 
States, including Finland and Ireland, have also managed to achieve increases in both. 
Moreover, analysis13 also suggests that only a small share of the deceleration in productivity 
growth since the mid-1990s can be attributed to rising employment and that there is limited 
evidence to support the claim that the differential reflects cyclical differences. Rather, the gap 
appears largely structural, reflecting a failure to boost service sector productivity – 
particularly in wholesale, retail and securities – which in turn relates to use of ICT and its 
impact on total factor productivity, as well as the EU’s larger share of low productivity non-
ICT-using or ICT-producing manufacturing industry. Other research14 has concluded that 
regulatory barriers and land-use regulations in Europe inhibit the development of US 
retailing formats, and that persistent cultural factors “inhibit the development of ambition 
and independence by teenagers and young adults, in contrast to their encouragement in 
the US”. 
1.24 In its communication to the spring European Council, the European Commission 
argues that “reversing this trend [in productivity performance] is the major competitiveness 
challenge facing the Union”. Urgent action is therefore needed to strengthen the key drivers of 
productivity, including by: 
5 For a comprehensive study, see EU Productivity and Competitiveness: An Industry Perspective – Can Europe resume the 
catching up process? edited by Mary O’Mahoney and Bart van Ark, published by the European Commission, 2003. 
6 Why was Europe left at the station when America’s productivity locomotive departed?, Robert Gordon, NBER Working Paper 
10661, August 2004. 

Growth and Opportunity: Prioritising Economic Reform in Europe 


GROWTH AND EMPLOYMENT: A EUROPEAN PRIORITY 

• 
enhancing the level of product market competition in Europe, by reducing 
regulatory barriers, extending and deepening the Single Market in services, 
and increasing external openness to trade and investment; 
• 
creating the right environment for enterprise and innovation, by developing 
the Union’s knowledge base and supporting the creation, diffusion and 
utilisation of new technologies; and 
• 
upgrading the skills of new entrants, re-entrants and those currently in the 
labour force, to enable workers to adapt to new production or service delivery 
techniques. 
CONCLUSION 

1.25 Five years after the launch of the original Lisbon strategy, the case for economic 
reform in Europe remains compelling. The challenges that the Lisbon strategy was designed 
to address – of increased global competition and an ageing population – have merely 
intensified in recent years, while the Union’s economic performance has diverged further 
from that of its major international competitors. The challenge now is to strengthen the 
Union’s international competitiveness in the years ahead, through concerted and immediate 
action to promote both employment and productivity growth. As the European Commission 
note in their communication to the spring European Council: “the costs of not doing so are 
large and quantifiable … [and] can be found in the widening gap of Europe’s growth potential 
compared to other economic partners”. Against this backdrop, Chapter 2 describes the policy 
priorities for the mid-term review of the Lisbon strategy. 
Growth and Opportunity: Prioritising Economic Reform in Europe 


2 
SEIZING OPPORTUNITY:


ECONOMIC REFORM IN EUROPE 

The mid-term review of the Lisbon strategy presents a vital opportunity for the nations 
and institutions of the European Union to address the structural economic challenges that 
continue to hold back growth and productivity in Europe and to set in place the 
foundations for economic success in an increasingly integrated world economy. The UK 
Government strongly welcomes the recent work of the High Level Group chaired by 
Wim Kok and the European Commission’s communication to the spring European Council. 
If Europe is truly to master the opportunities and challenges of the global economy, and 
deliver growth, jobs and rising living standards for all its citizens, the mid-term review must 
embrace and agree a programme of change designed to: 

• 
deliver a dynamic and competitive Single Market, with liberalisation in 
services, and a new strategic focus to ensure that the benefits of economic 
integration are realised, through better implementation, a pro-active approach to 
competition policy and further reform of the state aids framework; 
• 
establish the right climate for enterprise and innovation, through further 
action to strengthen and reform the regulatory framework in Europe building on 
the Six Presidencies’ initiative, reform of Community funding for research and 
development, urgent action to improve the intellectual property regime in Europe, 
and the launch of a new European Centres of Enterprise Competition; 
• 
promote flexibility and security in labour markets, by implementing 
the recommendations of Wim Kok’s European Employment Taskforce, and so 
equipping people with the skills they need to master change and to compete 
effectively for jobs in a rapidly changing global economy, promoting higher 
employment and social cohesion; 
• 
establish a more outward-looking Europe, through increased EU flexibility 
in advance of the WTO Ministerial in order to lead the Doha Development Agenda 
towards an ambitious, liberalising and pro-poor agreement; and through further 
concrete steps to enhance bilateral trade and investment relationships, especially 
with the US; and 
• 
deliver environmental protection with competitiveness, in particular by 
promoting eco-efficient innovations and ensuring that economic and social 
progress is matched by progress on the environment. 
To underpin delivery of this ambitious programme of reform, further action is also needed 
to improve the governance of the Lisbon Strategy, strengthening political ownership and 
national incentives for reform, and ensuring that wider Community policies support, rather 
than hinder, the process of structural economic reform across Europe. To this end: 

• 
Member States should prepare National Growth and Employment 
Plans, summarising annually the actions they have taken in labour, product and 
capital markets, and setting out forward-looking commitments to further reform; 
• 
benchmarking of national performance should continue and be developed 
to enhance political and public exposure to the results; and 
• 
the Community budget should be refocused to better support the overall 
goals of the Lisbon Strategy, while ensuring that limited resources are directed to 
where they can add most value at the European level. 
Growth and Opportunity: Prioritising Economic Reform in Europe 


SEIZING OPPORTUNITY: ECONOMIC REFORM IN EUROPE 

INTRODUCTION


2.1 As described in Chapter 1, the backdrop to the mid-term review of the Lisbon strategy 
is one of increased global competition, an ageing population, and a widening performance 
gap between the European economy and that of its major international competitors, 
including the US. This chapter builds on this assessment of the challenges facing policy-
makers in Europe, and identifies the priority reforms needed to revitalise the Lisbon strategy 
and to deliver growth and rising living standards in the years to come. 
2.2 The UK Government strongly endorses the conclusion of the High Level Group and 
the European Commission that growth must be centre stage in the renewed Lisbon strategy. 
It agrees with the Commission that “renewed growth is vital to prosperity, can bring back full 
employment and is the foundation of social justice and opportunity for all. It is also vital to 
Europe’s position in the world and Europe’s ability to mobilise the resources that tackle many 
global different challenges”. A Lisbon strategy focused on raising Europe’s long-term growth 
potential, through higher employment and productivity, provides the foundation upon which 
high standards of social cohesion and environmental protection can be built and maintained. 
As the Commission note in their communication to the spring European Council: “we need a 
dynamic economy to fuel our wider social and environmental ambitions”. 
2.3 The challenge now is to make Lisbon work – to unite around the priority actions 
needed to ensure that Europe can prosper in the new global economy, and to reinforce 
commitment at every level to the implementation of reform. As the Commission note, this 
will require “rigorous prioritisation” within the existing Lisbon agenda and “new 
arrangements for governance of the Lisbon strategy … to encourage real debate and genuine 
political ownership”. The 2005 spring European Council presents Europe’s leaders with a vital 
opportunity to address these fundamental issues and to embrace a comprehensive 
programme of change designed to: 
• deliver a dynamic and competitive Single Market; 
• establish the right climate for enterprise and innovation; 
• promote flexibility and security in labour markets; 
• establish a more outward-looking Europe; 
• deliver environmental protection with competitiveness; and 
• strengthen and improve the governance of the Lisbon strategy. 
A DYNAMIC AND COMPETITIVE SINGLE MARKET 

2.4 The creation of the Single Market has been one of the central economic achievements 
of the European Union. By removing cross-border barriers to market entry, it has helped to 
increase competitive pressure in Europe, promoting productivity and growth, creating 
incentives for innovation, and ensuring that resources are allocated swiftly towards more 
productive uses. The European Commission’s own analysis suggests that, as a result of the 
Single Market over the past ten years, around 2.5 million jobs have been created, and extra EU 
prosperity to the value of around €875 billion has been generated – around €5,700 per 
household.1 This amounts to almost 10 per cent of the EU potential growth rate on an 
annual basis. 
1 The internal market – ten years without frontiers, European Commission, 2003. 

20 Growth and Opportunity: Prioritising Economic Reform in Europe 


SEIZING OPPORTUNITY: ECONOMIC REFORM IN EUROPE 

Liberalisation 
in services 

Financial
services


2.5 The Lisbon strategy has developed further the Single Market, by opening up markets 
that were previously subject to national monopolies or other constraints. Nonetheless, 
against a backdrop of increased global competition and the ever greater need for efficiency 
this entails, additional action is needed to extend and deepen the Single Market and to unlock 
the greater economic potential it provides. As Europe enters the second phase of the Lisbon 
Strategy, it must therefore focus on: 
• 
extending the Single Market to the hugely important services sector; 
• 
ensuring that the economic benefits of liberalisation are realised, including 
through the pro-active enforcement of competition policy; and 
• 
tackling persistent distortions through the proper control of state aid. 
2.6 With globalisation, trade and investment in services has grown significantly in 
importance. Between 1970 and 1990 the share of services in the global stock of foreign direct 
investment (FDI) grew from one quarter to almost a half, and by 2002 it had risen further to 
around 60 per cent. Today, services constitute some 70 per cent of EU GDP and the majority 
of European employment. Yet they make up only 20 per cent of EU trade. Estimates suggest 
that the removal of national regulatory barriers could increase trade in commercial services 
by between 15 and 30 per cent, delivering substantial economic benefits to the European 
economy. As the High Level Group chaired by Wim Kok has noted: “Largely because of a wide 
range of legal and administrative barriers, Europe remains fragmented into separate national 
markets. Many of these markets are effectively closed for business to potential competitors based 
elsewhere in what should be a single market. As a result, prices are too high, productivity growth 
is too low and levels of intra-EU trade in services are lower than a decade ago.” 
2.7 In January 2004, the European Commission produced draft proposals for a directive 
on services in the internal market. The draft directive is a wide-ranging and radical attempt to 
open up services markets, tackling the barriers to business establishment across the EU by 
removing many of the restrictions to licensing and authorisation systems that currently 
prevent such action. The directive also seeks to promote cross-border trade in services 
through rigorous application of the country of origin principle which establishes that 
transactions between countries are to be regulated by the authorities where the service 
provider is located. 
2.8 The UK Government strongly supports the market opening nature of the draft 
directive and shares the objectives of the European Commission to make the Single Market 
a reality for services. It is committed to ensuring that rapid progress is made on the proposal 
and believes strongly that the Commission and the Council should work swiftly to develop 
the Commission’s proposals with a view to agreeing a package of reforms to liberalise 
trade in services across the EU, ensuring that the economic impact of agreed measures 
is maximised. 
2.9 The Government recognises that further work is needed to refine the draft Directive, 
in particular to ensure an exclusion for taxation and publicly funded healthcare, and to 
maintain high standards in areas such as health and safety, working conditions, 
environmental protection, and the care extended to the most vulnerable people in society. 
2.10 A Single Market in financial services would bring considerable benefits to the 
European economy, by reducing the cost of capital, providing firms with increased 
opportunities to access markets in other Member States and giving customers access to a 
wider range of competitively priced products. 
Growth and Opportunity: Prioritising Economic Reform in Europe 


SEIZING OPPORTUNITY: ECONOMIC REFORM IN EUROPE 

2.11 For the past five years the Financial Services Action Plan (FSAP) has been the vehicle 
for developing the Single Market in financial services and 39 of the 42 FSAP measures have 
now been adopted. Looking ahead, the priority is to ensure the effective, proportionate and 
consistent implementation of these measures throughout the EU. This will pose a considerable 
challenge for financial services firms and supervisory authorities in Europe and is why, in May 
2004, the UK authorities published The EU Financial Services Action Plan: Delivering the FSAP 
in the UK 2 , to give advice and guidance to UK industry on implementing the FSAP. 
2.12 With the adoption of the FSAP nearly complete, policy makers, industry practitioners 
and users of financial services have been discussing the future approach to creating a Single 
Market in financial services in the EU. The UK Government, along with many other Member 
States and industry practitioners, firmly believes that a second raft of new legislation – or a 
second FSAP – is neither necessary nor desirable and therefore welcomes the commitment in 
the Commission’s communication to the spring European Council that further legislative 
action will “be taken only if broad consultation with interested parties and impact assessment 
demonstrates a clear value-added”. In line with this commitment, the Commission’s 
forthcoming communication on the further integration of financial services markets in 
Europe should set out an alternative strategic approach to developing the Single Market in 
financial services built on five priorities, all of which have been emphasised and endorsed by 
the four independent expert groups3 set up to advise the Commission on this issue, as well as 
by the Financial Services Committee in their Report on Financial Integration:4 
• 
improving implementation and enforcement of existing measures affecting 
the financial sector. A significant number of FSAP measures that have been 
adopted have still to be implemented nationally. This must be the top priority, 
together with their subsequent enforcement; 
• 
more pro-active use of alternatives to regulation. In general, EU legislation 
should be a last resort, and alternative approaches to policy-making, such as 
the pro-active use of competition policy, market-based solutions and 
initiatives at national level, should be considered first; 
• 
better regulation. In some specific cases, market failure analysis may 
demonstrate that further legislation on financial services could be necessary. 
However, when new EU legislation on financial services is being considered, a 
proper consideration of the costs and benefits should be undertaken, and 
financial market participants should be fully consulted; 
• 
making the Lamfalussy arrangements work well. These new regulatory 
arrangements are now in place to supervise financial services across the EU. 
They have been shown to work for securities markets and have now been 
extended to banking and insurance. The effective and efficient functioning of 
these arrangements now needs to be optimised; and 
• 
recognition of the global nature of financial services markets. A global 
perspective is needed when considering the impact of EU financial services 
regulation on the competitiveness of EU-based firms and financial centres. 
International action will sometimes be needed to tackle global issues. 
2 The EU Financial Services Action Plan: Delivering the FSAP in the UK, HM Treasury, FSA and Bank of England, May 2004.
3 See, for example the May 2004 reports: Expert Group on Banking Final Report; Securities Expert Group Final Report;
Expert Group on Insurance and Pensions Final Report; Asset Management Expert Group Final Report. See also After the EU
Financial Services Action Plan: UK response to the reports of the four independent expert groups, HM Treasury, FSA and
Bank of England, September 2004.
4 FSC Report on Financial Integration, Report of the Financial Services Committee to the Council, FSC4156/04, 17 May 2004.


22 Growth and Opportunity: Prioritising Economic Reform in Europe 


SEIZING OPPORTUNITY: ECONOMIC REFORM IN EUROPE 

Improving 
implementation 

Promoting 
competitive 
markers 

2.13 The UK Government supports the call by the High Level Group chaired by Wim Kok 
for further research into how retail financial markets might be integrated into the Single 
Market. However, it believes it premature that proposals for action should be developed at 
this stage or that target dates should be set for agreement. The barriers to a single retail 
market, given information asymmetries, language, and cultural differences, are not generally 
amenable to legislative solutions in the same way that wholesale markets are. Rather, what is 
needed are non-legislative measures including, but not limited to, more effective use of 
competition policy, Commission support for voluntary arrangements between market 
participants, consumer education and an examination of closed distribution networks. 
Developing the Single Market: a strategic focus 

2.14 While legislative agreements have delivered genuine progress towards the 
establishment of a truly open and dynamic Single Market, wider action is needed to ensure 
the full realisation of its potential economic benefits. As Europe moves into the second stage 
of the Lisbon Strategy, this calls for the development of a strategic approach to the Single 
Market, focused on ensuring that the benefits of open markets are translated into improved 
economic performance on the ground. Such an approach must encompass a wide range of 
non-legislative actions, with a focus on: 
• 
improving the implementation of existing market-opening legislation; 
• 
the pro-active enforcement of competition policy, including through the use 
of sectoral enquiries; and 
• 
developing further the state aid regime to minimise competitive distortions 
while ensuring Member States have the flexibility to tackle market failures. 
2.15 The implementation of existing market opening measures is crucial to the success of 
the Single Market. As the High Level Group chaired by Wim Kok noted: “every Directive that is 
late in being implemented by a Member State reduces the competitiveness of the entire Union”. 
Efforts to ensure more effective implementation of existing Single Market legislation should 
therefore be a central strand of further action to strengthen the Single Market and be 
prioritised in the second stage of the Lisbon strategy. The Commission and the Member 
States should work together to promote the timely and effective implementation of internal 
market legislation, through more systematic comparison of transposition practices and 
sharing of best practice, building on the Commission’s existing scorecard of 
implementation. 

2.16 Despite various agreements to liberalise European markets, many studies have 
shown that competitive pressures remain weak in a number of key sectors across the EU. 
Indeed, the OECD estimate that restricted competition could be reducing productivity by 
double-digit percentages in some EU markets. The pro-active enforcement of competition 
policy is key to unlocking these benefits. Such enforcement activity must focus on making the 
Single Market work by removing existing impediments to competition and preventing 
incumbents from raising new barriers to entry or pursuing restrictive strategies to insulate 
themselves from more innovative competitors. Enforcement actions should be prioritised 
on the basis of economic significance. 
Growth and Opportunity: Prioritising Economic Reform in Europe 


SEIZING OPPORTUNITY: ECONOMIC REFORM IN EUROPE 

2.17 The High Level Group chaired by Wim Kok underlined the importance of pro-active 
competition policy to the future development of the Single Market and identified the 
importance of sectoral enquiries: “In order to foster further liberalisation and open more 
sectors to EU-wide competition, the European Commission should carry out sector-wide 
enquiries to identify barriers to competition, including the effect of State aid. This should 
ensure that effective competition exists not only on paper but also in practice, especially 
where local rules have the effect of preventing competitors from entering into the national 
market.” 
2.18 The European Commission’s communication to the spring European Council 
reinforced this conclusion, noting that: “competition rules must be applied pro-actively” and 
that “sectoral screenings of the barriers to competition will be launched in sectors such as 
energy, telecoms and financial services”. The UK Government strongly supports these 
conclusions and believes that the European Commission should now set out the practical 
steps it will take to pro-actively enforce competition policy, building on its 2004 
communication on competition policy 5, and based on economic significance, in support of 
the Lisbon strategy. 
2.19 The Government also believes that further action is needed to strengthen the 
competition regime in Europe and to increase the positive contribution it can make to 
achieving the Lisbon goals. Building on the Commission’s 2004 communication, it believes 
that the Commission and the Council should work together to identify future priorities for 
reform of competition policy, including to: 
• 
strengthen the role of private actors in enforcing competition policy, while 
ensuring that this does not lead to excessive rent-seeking behaviour; 
• 
improve the interface between competition and consumer policies to ensure 
that consumers are empowered to provide an effective stimulus to 
competition in Europe; and 
• 
deepen the extent of transatlantic cooperation between competition 
authorities, building on existing arrangements. 
5 A pro-active competition policy for a competitive Europe, COM(2004) 293 final. 

24 Growth and Opportunity: Prioritising Economic Reform in Europe 


SEIZING OPPORTUNITY: ECONOMIC REFORM IN EUROPE 

Box 2.1: Promoting competition in European public procurement 

Public procurement currently accounts for around 16 per cent of EU GDP. Given its 
importance to the EU economy, the UK Government commissioned a report into the 
experiences of UK businesses in gaining access to public contracts in other EU Member States. 
The Wood Report, published in November 2004, identified significant obstacles to 
competition in EU public procurement markets, to the detriment of both UK and EU 
businesses. Despite the existence of Single Market rules in awarding public contracts, the 
review found evidence of complex public procurement procedures, unfair national preference, 
and a wavering commitment to competition and market liberalisation. The report proposed 
steps to improve the functioning of EU public procurement markets, including: 

• 
action to identify and spread best practice among Member States, including the 
use of scorecards of performance where appropriate; and 
• 
action by Member States to open up more markets to public procurement, so as 
to remove barriers to effective competition, raise the skills of procurement 
practitioners and eliminate bad practice. 
The Commission and Member States should commit to further action to improve 
competition in public procurement by promoting best practice in the field of 
procurement policy and developing improved tools for monitoring and comparing 
national performance, including the use of scorecards. 

Reforming 2.20 Globalisation and the challenges created by new sources of international competition 
state aid place a premium on the need for effective control of national state aids. Businesses that are 
sheltered from competition in their domestic markets are unlikely to be able to cope 
effectively with the rigours of international competition, and misplaced concerns over the 
impact of de-industrialisation must not be managed through the inefficient misuse of public 
subsidy to create national champions. The EU state aid regime has a vital role to play in 
preventing payments of distortive aids and preserving the integrity of the Single Market. It 
must also ensure that Member States are able to intervene swiftly to tackle market failures 
that hold back economic progress. 

2.21 The European Council has made repeated commitments to reduce state aid and 
redirect it towards horizontal objectives in support of the Lisbon goals. In line with this, the 
annual level of state aid in the EU15 decreased by 27 per cent between 1997 and 2002 to 
€49 billion, or 0.56 per cent of EU GDP. In the new Member States, state aid over the period 
2000 to 2003 averaged €5.7 billion per year, or 1.42 per cent of GDP. This figure falls to 0.67 per 
cent once measures currently being phased out are excluded. 
2.22 The UK Government welcomes the European Commission’s recent commitment to 
set out a new strategy for delivering less and better-targeted state aid to help advance the 
Lisbon goals. In defining this new strategy, the Commission should propose a further 
tightening of the controls over distortive state aids to reduce obstacles to competition, and 
further modernisation of the wider state aid framework to facilitate national reforms to 
address market failures. This requires action to: 
• 
ensure that the guidelines for regional aid allow Member States to target 
regional assistance effectively in the most under-performing areas, while 
strengthening controls over the largest investment aids which have the 
greatest potential to lead to inefficient investment decisions and undermine 
competition; 
• 
introduce a significant impact test to allow small non-distortive aids to be 
introduced quickly; and 
Growth and Opportunity: Prioritising Economic Reform in Europe 


SEIZING OPPORTUNITY: ECONOMIC REFORM IN EUROPE 

• 
modernise further the horizontal state aid guidelines to improve the ability of 
Member States to tackle market failures in the areas of regeneration, 
innovation and environmental technologies. 
2.23 Member States also need to take further steps to ensure that payments of state aid are 
effective and deliver value for money, helping to achieve a better use of public finances while 
safeguarding against distortions to competition. Performance in this respect could be 
improved through the exchange of national experiences and new opportunities for learning 
from one another. The Commission and the Member States should explore options for 
sharing best practice and for strengthening existing mechanisms for ensuring value for 
money in the design and delivery of state aid. 
PROMOTING ENTERPRISE AND INNOVATION 

2.24 While the Single Market is a good example of the benefits of economic integration, 
globalisation means that the pace of economic change is greater than ever before. The 
increased integration of emerging markets into global trade and investment flows offers an 
important source of wealth and opportunity but brings new competitive challenges for 
European businesses. Increased competition and rapid technological change has led to a 
reduction in the typical life-cycle of products and services and is challenging traditional 
relationships between customer and supplier, forcing businesses to innovate and become 
ever more responsive to change. 
2.25 To compete effectively in the global economy, Europe must improve its capacity to 
innovate and increase levels of entrepreneurial activity, promoting investment in research 
and development and encouraging new and high-growth innovative companies. This 
requires action at all levels – regional, national and European – and with a particular focus on: 
• 
improving the regulatory framework in Europe to reduce administrative and 
competitiveness burdens on business; 
• 
stimulating entrepreneurial activity, through actions to develop an enterprise 
culture in Europe and to increase access to affordable finance for new and 
innovative companies; 
• 
promoting research and development activity, including through a more 
efficient use of EU expenditure; 
• 
reforming the intellectual property regime to enable better exploitation of 
research and diffusion of knowledge; and 
• 
encouraging greater take-up and effective use of ICTs across the EU. 
Regulatory 2.26 Regulation can play a key role in helping to tackle market failures, and well-designed 
reform and proportionate regulatory intervention is essential to underpin the operation of markets. 
However, poorly designed or excessive regulation can impose significant economic costs. In 
addition to the potential compliance and administrative burdens it may impose, inflexible, 
over-complex or out-of-date regulations can have the unintended consequence of raising 
barriers to entry in markets, reducing competition, or discouraging firms from employing 
new workers, thereby hindering employment growth. Research by both the OECD6 and the 
IMF7 has concluded that the regulatory framework in Europe inhibits the performance of EU 
economies. According to the OECD8, improvements in the regulatory regime could increase 
productivity levels by up to 6 per cent in many EU economies. As shown in Chart 2.1, levels of 
product market regulation vary, but the EU on average remains more heavily regulated than 
either the US or Japan. 

6 The sources of growth in OECD countries, OECD, 2003.
7 When leaner isn’t meaner: measuring benefits and spillovers of greater competition in Europe, IMF, 2003.
8 Product market competition and economic performance, OECD, 2002.


26 Growth and Opportunity: Prioritising Economic Reform in Europe 


SEIZING OPPORTUNITY: ECONOMIC REFORM IN EUROPE 

Chart 2.1: Overall levels of product market regulation 
Note: a lower value implies a less restrictive level of regulation (on a scale of 0-6). 
Source: Product market regulation in OECD countries: 1998 to 2003, forthcoming OECD working paper. Data is for 2003. 
0.0 
0.5 
1.0 
1.5 
2.0 
Euro areaEU15JapanUSAUK 
2.27 In January 2004, the Finance Ministers of Ireland, the Netherlands, Luxembourg and 
the UK launched a new initiative to promote regulatory reform in Europe. Building on the 
European Commission’s 2002 Better Regulation Action Plan, the Four Presidencies’ initiative 
set out a programme of actions designed to strengthen the assessment of new regulatory 
proposals and to tackle regulatory burdens inherent in the existing acquis. The March 2004 
spring European Council welcomed the initiative and called for a programme of work to take 
forward its principal recommendations. Significant progress has already been made: 
• 
fifteen priority areas of regulation have been identified by the Council for 
simplification, marking an important step towards reducing burdens in the 
stock of existing EU legislation; 
• 
agreement has been reached on the principal elements of competitiveness 
testing, to ensure that all new regulatory proposals are properly scrutinised 
for their impact on jobs and competitiveness; and 
• 
work is now underway to develop a methodology for measuring the size of 
administrative burdens imposed by new and existing regulations, so that 
such assessments may be included all future impact assessments. 
2.28 The UK Government strongly welcomes these developments, made possible by the 
constructive engagement of all Member States and the European Commission. To build 
further on this success, in December 2004 the Finance and Economics Ministers of Ireland, 
the Netherlands, Luxembourg, the UK, Austria and Finland launched an updated and 
extended initiative, Advancing Regulatory Reform in Europe, highlighting the important steps 
taken during the course of 2004 and establishing regulatory reform as a key priority of the six 
EU Presidencies through to the end of 2006. The initiative presented a series of concrete 
proposals and strategic objectives for ongoing reform of the regulatory regime in Europe, 
including action to: 
Growth and Opportunity: Prioritising Economic Reform in Europe 27 


SEIZING OPPORTUNITY: ECONOMIC REFORM IN EUROPE 

• 
further develop the competitiveness dimension of impact assessments, 
through rapid implementation of the European Commission’s revised 
guidelines for impact assessments and an enhanced and cross-cutting role 
for the Competitiveness Council; 
• 
exercise stronger and more effective control over the administrative burdens 
associated with EU regulation, including a target to ensure that measurement 
of administrative burdens becomes a standard feature of all Commission 
impact assessments by the end of 2005; 
• 
implement swiftly the simplification priorities identified during the course of 
2004, including through reform of the working methods of the Council and the 
European Parliament, and to identify further priority areas for simplification 
during the course of 2005; 
• 
establish, at the European level, clear and measurable objectives for 
monitoring and controlling the economic impacts and administrative 
burdens imposed by EU legislation; 
• 
strengthen business input into the process of regulatory development and 
reform in Europe, for example by establishing a new, standing, business 
taskforce to assess progress, identify where further reform is needed, and 
report annually to the EU institutions; 
• 
develop and implement new arrangements for external ex-post audit and 
quality control of EU regulatory impact assessments, highlighting examples of 
good and bad practice; 
• 
enhance pre-legislative consultation in the policy-making process, by 
ensuring that substantive consultation methods, including the use of Green 
and White Papers, are used more widely and systematically; and 
• 
ensure that non-legislative approaches are afforded proper consideration at 
the EU level. 
2.29 The UK Government strongly endorses the European Commission’s conclusion in its 
report to the Spring European Council that “better regulation should be a cornerstone for 
decision making at all levels of the Union” and its commitment to “ambitiously pursue this 
objective and launch a major new initiative before the Spring Council”. It looks forward to 
continuing to work with the European Commission and other Member States to develop the 
proposals set out in the Six Presidencies’ initiative and in the Commission’s forthcoming 
regulatory reform initiative, with a view to delivering a more effective regulatory framework 
in Europe. The spring European Council should welcome and endorse the initiatives of the 
Six Presidencies and the European Commission on regulatory reform and call for decisive 
action to drive forward implementation of this programme in the coming years. 
Promoting 
2.30 Improvements in the regulatory regime in Europe could play an important role in 

enterprise 
stimulating and encouraging new entrepreneurial activity, promoting employment and 
productivity growth. As shown in Chart 2.2, evidence suggests that much of Europe’s 
entrepreneurial activity remains untapped, with levels of business start-ups far below those 
in the US and Canada. The Lisbon strategy must address this weakness, with additional steps 
to improve access to finance and to encourage and promote pro-enterprise policies. 

28 Growth and Opportunity: Prioritising Economic Reform in Europe 


SEIZING OPPORTUNITY: ECONOMIC REFORM IN EUROPE 

Chart 2.2: Entrepreneurial activity1 
1 Proportion of 18-64 year olds involved in starting a new business, or who own or manage a business that is less than 42 months old. 
All data is for 2004, except China which is for 2003. 
Source: Global Entrepreneurship Monitor, 2004 Executive Report. 
0 
2 
4 
6 
8 
10 
12 
14 
France SpainGermanyUKItalyJapanCanadaUSChina 
Access to 2.31 Access to finance remains a key issue for European enterprises, particularly new and 
finance innovative SMEs. However, levels of venture capital investment in the EU remain around half 
those in the US. The Government welcomes the progress made in dismantling the regulatory 
and administrative barriers to the development of a single risk capital market in Europe 
through the Risk Capital Action Plan, but believes that further action is needed to improve 
access to finance for small firms and to raise overall levels of risk capital investment in the EU 
to match those of the US. To this end, the Commission should ensure that the financial 
instruments proposed in its forthcoming Competitiveness and Innovation Programme 
provide an effective stimulus to risk capital investment in Europe. The Commission should 
also work with the Member States to develop a new strategy for risk capital by the end of 
2005, with a focus on improving the availability of capital for new and innovative firms with 
high growth potential. 

Box 2.2: European Centres of Enterprise 

Promoting a more enterprising culture throughout Europe is key to improving the 
entrepreneurial performance of the EU. In February 2004, the UK Government therefore 
proposed the establishment of a European Centres of Enterprise competition with the aim 
of raising the profile of successful enterprise policies and entrepreneurial activity. 

A European Centres of Enterprise competition would identify local centres of excellence in 
enterprise policy and performance across the EU, spotlighting and championing best 
practice in policy-making and implementation, and highlighting the contribution that 
enterprise can make to business development, employment, regeneration, social inclusion 
and education. A UK competition, Enterprising Britain1, was launched in June 2004. 

The UK welcomes the European Commission’s pledge at the November 2004 
Competitiveness Council to develop a European Centres of Enterprise scheme and looks 
forward to working closely with the Commission and other Member States to develop 
the substance of the scheme. The Commission and the Member States should 
work together to ensure the launch of a European Centres of Enterprise 
competition by the end of 2005. 

1 See http://www.hm-treasury.gov.uk/media/158/D5/enterprising_britain.pdf 

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Financing 
research and 
development 

Intellectual 
property 

2.32 Investment in the knowledge economy, and in particular in research and 
development, is critical to Europe’s long-term economic success. As the High Level Group 
chaired by Wim Kok has pointed out “studies demonstrate that up to 40 per cent of labour 
productivity growth is generated by R&D spending and there are powerful spillover effects into 
other areas of the economy, depending on the way in which the money is spent”. Despite this 
powerful conclusion however, average EU expenditure on R&D amounts to just under 2 per 
cent of GDP, compared with 2.64 per cent in the US and more than 3 per cent in Japan. Urgent 
action is needed to close this funding gap. 
2.33 The European Commission will shortly present a proposal for its 7th Research 
Framework Programme (FP7), effective from 2007. To have maximum impact on Europe’s 
global competitiveness, the fund should be focused on raising the EU’s capacity to conduct 
the very best research, underpinned by a dedicated funding stream for basic research. 
Decisions on allocation should be driven by the research needs of business, with a particular 
focus on engaging SMEs, and resources should also be used to ensure that EU policies are 
properly supported by research. FP7 should also provide funding for horizontal activities, in 
particular to support knowledge transfer and the development of key research 
infrastructures. 
2.34 In line with the strategic objective of raising the quality of basic research in Europe, 
the UK welcomes the Commission’s plans to create a European Research Council (ERC) as 
part of FP7. The ERC should enable systematic competition between the best research teams 
in Europe, and allocate funding on the basis of scientific excellence as determined by peer 
review. To ensure the transparency and credibility of the ERC, it should be independent from 
the Commission. 
2.35 The Commission and the Member States should agree the key principles of 
reformed Framework Programme funding by December 2005, to raise the EU’s capacity to 
conduct the very best basic research, improve industrial competitiveness and ensure that 
EU policies are properly supported by research. The FP7 proposal should also call for the 
establishment of an independent European Research Council, founded on the principles of 
excellence in research programmes as determined by peer review. 
2.36 The UK Government published its ten-year Science and Innovation Framework in 
July 2004, setting out a comprehensive strategy to raise public and private investment in R&D 
towards 2.5 per cent of GDP by 2014. As part of that strategy, the UK seeks to encourage 
business investment in R&D through the use of a tax credits scheme. The UK Government 
believes that Member States should share best practice in the use of tax incentives for 
promoting R&D while recognising that the operating environment for businesses varies 
between countries and that the design of such tax incentive schemes should remain a 
matter for Member States. 
2.37 While public funding can play an important role in promoting R&D across an 
economy, ultimately it is investment by business that is the key to success. The overwhelming 
majority of Europe’s shortfall in R&D expenditure relative to its major international 
competitors can be explained by a lack of private sector investment. In 2002, EU business 
expenditure on R&D amounted to just 1.18 per cent of GDP, compared with 1.87 per cent in 
the US and 2.32 per cent in Japan9. Wider action is therefore needed to increase the incentives 
for private businesses to invest in R&D and, in particular, to address the distortions and 
disincentives created by the existing system of intellectual property protection in Europe. 
9 Source: OECD. Data is for 2002. 

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2.38 An effective and efficient system of intellectual property rights is increasingly critical 
to the success of European businesses. Patents provide incentives to innovate, create market 
opportunities for science-based firms and facilitate technology diffusion through licensing. 
However, patenting across the EU through the European Patent Office is currently up to five 
times more expensive than under the US system, and twice as slow, contributing to a shortfall 
in innovative activity, as illustrated in Chart 2.3. 
0 50 100 150 200 250 300 350 
Chart 2.3: Patent activity 
EU patents applied for, 2002 US patents granted, 2002 
Source: Eurostat structural indicators database. 
Per million population 
EU25 
EU15 
Japan 
US 
2.39 In order to develop the competitiveness of innovative industries across Europe, 
further reform is needed to ensure that the intellectual property regime is made more cost 
effective, accessible to business, and adequately enforced when business rights are infringed. 
Intellectual property rights have been made more accessible to business through measures 
such as IP Europe and the IPR Helpdesk, although more effort is needed to increase 
accessibility to SMEs. Action has also been taken to strengthen the enforcement of the 
existing regime. Such initiatives, however, remain insufficient to address the concerns of 
European businesses. In this context, the lack of agreement on a Community Patent, the 
implementation of which is often cited by EU businesses as fundamental to improving 
innovation performance in Europe, is highly regrettable. 
2.40 In view of the significant importance attached to patenting regimes by European 
businesses, it is now imperative that urgent and constructive action is taken by the 
Commission and the Member States to resolve the differences that have hitherto prevented 
agreement from being reached on a Community Patent regime, or that urgent work is 
undertaken to identify, evaluate and agree alternative mechanisms. The spring European 
Council should resolve existing problems in the intellectual property regime, or set out a 
timetable and clear steps for delivering an alternative solution. 
Growth and Opportunity: Prioritising Economic Reform in Europe 


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Information and 
communication 
technologies 

2.41 The rate of innovation in information and communication technologies (ICT) 
remains a critical driver of economic activity. In Europe, approximately 43 per cent of 
productivity growth from 1995 to 2000 can be attributed to the use of ICTs. 
2.42 The report of the High Level Group, chaired by Wim Kok recognised the importance 
of the ICT sector, noting that “in order to ensure future economic growth, the EU needs a 
comprehensive and holistic strategy to spur on the growth of the ICT sector and the diffusion of 
ICTs in all parts of the economy”. The e-Europe initiative forms an important part of the EU's 
ICT policy objectives and the Commission should bring forward an innovative and forward-
looking e-Europe Action Plan for 2006-2010 during the first half of 2005. The diffusion and 
application of new technologies will be particularly important in determining the pace of 
Europe’s economic growth. 
ADVANCING EMPLOYMENT 

2.43 Globalisation and advances in communication and technology have brought new 
opportunities for businesses to modulise production, transferring business processes outside 
the EU in search of lower costs and intensifying the competition for jobs within Europe. At the 
same time, increased global competition and the rapid development of innovations and new 
technologies have increased the demand for higher-skilled workers who can move swiftly 
between firms and sectors and compete for higher value-added jobs. These challenges, 
combined with that of an ageing population, place a premium on efforts to reform Europe’s 
labour markets. 
2.44 In the modern global economy, flexibility and skills are central to ensuring high rates 
of employment in the face of changing patterns of global demand. Adaptability is the key to 
participation in the modern labour market, with ‘employability for life’ replacing the old 
notion of a ‘job for life’. And because globalisation brings not just new opportunities but new 
insecurities too, national welfare systems must be modernised to support individuals through 
periods of change while providing protection for the most vulnerable. As the High-Level 
Group chaired by Wim Kok noted, European labour market reform must be based on the 
foundations of “agility, adaptability and employability for which the key is the ability of 
workers constantly to acquire and renew skills, and for a combination of active labour market 
policies, training and social support to make moving from job to job as easy as possible”. 
The need for 2.45 As described in Box 2.3, many Member States have taken important steps in recent 
reform years to reform their labour markets. But further action is required. As noted in Chapter 1, if 
Europe is to meet its targets for employment by 2010, it must succeed in helping 22 million 
people into work and in recording average annual employment growth rates of double 
the average in recent years. On any measure, this is a substantial task. Against a backdrop of 
rising global competition and an ageing population, it is all the more challenging. Europe 
must work hard to stand still. 

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Priority areas 
for reform 

Box 2.3: Important reforms underway in Member States 

Many Member States have begun to undertake potentially far reaching reforms: 

• 
the Dutch Government has agreed a new ‘Work and Social Assistance Act’ with 
social partners to deliver moderate wage increases in the future, consistent with 
productivity growth; 
• 
France has introduced a ‘Social Cohesion Plan’ to raise youth employment 
through tax incentives for both employers and apprentices. To raise employment 
and reduce unemployment, France has also increased cooperation between job 
centres and the administration of unemployment benefits, and introduced 
measures to reduce non-wage labour costs; 
• 
in Germany, the Hartz V reforms to benefit systems and the role of employment 
agencies will be fully implemented in 2005, providing greater incentives to those 
out of work to re-enter the labour market, and giving jobseekers the support to 
help them to find work; 
• 
the UK has a National Minimum Wage supplemented by a system of tax credits to 
ensure that work pays. Tax credits provide in-work financial support to ensure that 
taking up employment, even at low starting wages, is also financially more 
rewarding than remaining on benefits; 
• 
the Finnish Government has launched a 4-year reform programme targeted at 
30-59 year olds who lack vocational qualifications. Employees can attend 
vocational schools or adult education centres, or take computer courses, in order 
to meet the demands of new technology; and 
• 
in Denmark, the Youth Effort has been addressing youth unemployment and low 
skills, giving young people under 25 who have received unemployment benefit for 
more than 6 months and who have little or no basic education the right and 
obligation to start training or education. 
2.46 The EU cannot ignore change and the resulting need for reform, nor that the creation 
of jobs in high value-added sectors may be accompanied by a reduction in employment in 
declining sectors. Provided change reflects genuine economic forces – the fact that some 
businesses and activities are today more productive than others – then change will drive 
wealth and the creation of jobs. Not to reform would mean that productivity would lag behind 
and opportunities for greater prosperity and growth would be missed, harming the most 
vulnerable in society. There can be no security without change. 
2.47 In November 2003, the European Employment Taskforce10 set out a clear strategy for 
labour market reform in Europe, the principle recommendations of which have now been 
integrated into the Union’s own guidelines for employment policy. Rapid and effective 
implementation, by Member States and on the basis of shared experience and learning, 
remains the key to success. The goal must be to increase: 
• 
opportunities and incentives for the unemployed and economically inactive 
to find and succeed in employment; 

• 
skills and adaptability in the workforce, so that individulas have access to 
retraining and new avenues for learning; and 
10 Jobs, Jobs, Jobs: Creating More Employment in Europe, European Employment Taskforce, November 2003. 

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Increasing 
opportunities 
and incentives 

Promoting 
skills 

• 
flexibility and security together, with employment and social policies working in 
tandem to open up opportunities for employment while supporting those who 
need it most, and the regulatory environment geared towards job creation. 
2.48 Opportunity and incentives are central to any well-functioning labour market. 
Member States must implement the necessary policies to ensure that people have the 
financial incentives they need to take up and remain in employment, and offer the 
practical assistance and tools people need to find and take up work. While there is no single 
solution that will work for all, Member States must each use a combination of policies to 
promote opportunity and incentives, including: 

• 
policies to make work pay, for example through reform of tax and benefit 
systems and by ensuring that where minimum wages are in place they are set 
at a level which provides security without discouraging job creation; 
• 
active labour market policies which target the obstacles that prevent people 
from gaining employment, for example through training and improved work-
search. Member States must also extend the use of active labour market 
policies to open up opportunities for the economically inactive; and 
• 
reform of employment services to provide assistance with job search 
activities, through tailored guidance and advice that responds to the specific 
requirements of individual job seekers. Member States need to complete the 
modernisation of employment services to provide the right incentives and 
support to move people into jobs. 
2.49 Patterns of work, and in some cases the nature of work, are also changing radically. 
More people want to work flexible hours in order to combine work with family 
responsibilities or to avoid a cliff-edge into retirement. Businesses that seek to support more 
flexible patterns of working will help to ensure an inclusive labour market, by helping those 
with caring responsibilities or who wish to pursue further education, or combine this with 
work. Such flexibility can also help the inactive or unemployed return to work, particularly 
those with low skill levels or with no recent experience of work. 
2.50 Alongside action to promote opportunity and incentives to work, Member States must 
also invest more, and more effectively, in the skills of their workforces, focusing on the demands 
of the knowledge economy and on their specific skills gaps. Changing patterns of global 
demand place a premium on efforts to ensure that workers are equipped with the skills they need 
to adapt to change and to compete for higher value-added jobs. Skills that were once regarded 
as high level, such as ICT literacy, are now increasingly viewed as basic skills. 
The challenge for Member States is to improve the skills of people entering the workforce from 
the education system, and to improve and update the skills of those already in the workforce. 
2.51 Member States need to respond to this challenge with an approach that is tailored to 
their own particular circumstances, as the nature of the skills gap varies across Europe. For 
example, while the UK and Germany both compare favourably by international standards in 
terms of higher-level skills, less than a third of UK workers have intermediate skills, compared 
with over half in both France and Germany11. Similarly, the precentage of early school leavers 
varies dramatically across the Union. According to Eurostat, the proportion of 18 to 24 yearolds leaving school with at most a lower secondary education and not in further education or 
training ranges from over 40 per cent to under 5 per cent depending on the Member State 
examined12. 
11 Skills in the global economy, HM Treasury, Department for Education and Skills, Department for Work and Pensions,
Department of Trade and Industry, December 2004. 
12 Eurostat, Structural Indicators. Data is for 2003.


34 Growth and Opportunity: Prioritising Economic Reform in Europe 


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Combining 
flexibility with 
fairness 

2.52 Individuals also need to update and extend their skills regularly during their working 
life, so that they can move quickly between firms and sectors in response to changing 
economic circumstances. The UK Government therefore welcomes and strongly supports the 
recommendation of the High Level Group, that Member States should adopt national 
strategies for lifelong learning to address national skills shortages and demands in the face 
of rapid technological change, facilitating increased labour market participation, through 
reductions in unemployment and with people working longer. 
2.53 As economies respond to globalisation and move into different areas of economic 
activity, adjustment can have significant impacts. Capital and labour may need to move from 
traditional to expanding industries and at any point in time the impact can fall 
disproportionately on particular individuals and activities. For the individuals concerned this 
may entail considerable challenges in adapting to change, acquiring new skills and finding 
new employment. It is therefore vital that flexibility in the new global economy is 
accompanied by measures that ensure fairness and enable individuals to make the transition 
from traditional activities into expanding areas. 
2.54 As the High Level Group chaired by Wim Kok noted, flexibility and security can and 
should be achieved together. Inflexibility can be a key cause of opportunity missed. 
Unemployed and inactive people without the skills they need to gain employment and 
without access to retraining and avenues for learning, risk becoming marginalised at the 
edges of the labour market, facing uncertainty over their long-term employment prospects or 
long spells out of work. Policies constructed on the notion of a trade-off between economic 
flexibility and social cohesion must be reassessed. 
2.55 Europe’s defining commitment to social justice must remain a core value. The 
question is how best to deliver this in a world of ever intensifying global competition. The role 
of the modern social model cannot be to protect people against change and to freeze frame. 
Rather, employment and social protection systems must have at their heart the need to 
manage uncertainty by equipping people to cope with change, while providing a foundation 
of security and support for those most vulnerable. 
2.56 Minimum standards in the workplace are essential to protect the health and safety of 
workers and ensure equal pay. They can also boost commitment and productivity and avoid 
unfair treatment and discrimination. Today, Europe rightly has in place a solid foundation of 
minimum standards to protect the rights of workers and support the integrity of the Single 
Market. Such minimum standards have served the Union well, and have helped to make a 
reality of Europe’s shared commitment to social cohesion. 
2.57 But globalisation and the growth in competition and markets beyond the EU’s 
borders calls for a reappraisal of Europe’s traditional approach: 
• 
research shows that poorly designed employment protection legislation can 
increase the risk and duration of long-term unemployment by making 
employers reluctant to fill job vacancies. It also shows that long-term 
unemployment tends to be higher and forms a larger share of total 
unemployment in countries with higher employment protection levels than 
in those with more flexible labour markets13. By the same token, and as 
identified by the European Employment Taskforce, regulation that places 
excessive burdens on business can act to discourage employment growth, 
harming the very people it was designed to protect; and 
13 OECD Employment Outlook 2003 and 2004. 

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• 
legislation designed and implemented at the EU level can often be a blunt and 
overly prescriptive instrument. In a Union of 25 different labour markets, 
where the nature of social challenges varies considerably from Member State 
to Member State, single solutions based on common regulation may not 
always be appropriate. 
2.58 In practice, Member States have long pursued national social protection programmes 
aimed at providing security and opportunity for those in and out of the workforce. As the 
examples in Box 2.4 show, such programmes have made use of a wide range of policy 
instruments and have been tailored to tackle priority challenges at the national level. As 
Europe moves into the second phase of the Lisbon strategy, policies which reflect national 
social and institutional conditions and promote flexibility and security together are 
increasingly the most appropriate means of promoting employment and social cohesion. The 
open method of coordination, and the development of existing mechanisms for peer review 
and the sharing of best practice should support Member States’ efforts in this area. 
Box 2.4: Flexibility and Fairness: a variety of approaches 
The UK’s approach to increasing female employment is based on a combination of supply 
side policies, including tailored support under the New Deal, improvements to the 
provision of affordable and accessible childcare, alongside improving maternity leave and 

flexible working arrangements for parents and measures to make work pay. UK lone 
parent employment is now over 54 per cent – the highest rate on record. 
In Denmark and Sweden, the Governments’ approach to encouraging female 

employment includes providing state subsidised childcare places. In Denmark, for low-
income earners a free place in a childcare facility is provided, while Sweden has a system 
of highly subsidised state-provided childcare for working parents. Sweden and Denmark 
have the highest female activity rates in the EU. 

In Spain, the Government is seeking to improve incentives for female employment – for 
example, by offering a tax credit for employed and self-employed women with children 
under 3 years of age. Female activity rates have increased from 45.5 per cent in 1997 to 
nearly 55 per cent in 2003. 

AN OUTWARD-LOOKING EUROPE


External 2.59 The 2004 spring European Council called for the mid-term review of the Lisbon 

openness 
strategy to include an assessment of the external drivers of growth and productivity. External 
openness to trade and investment has the potential to make a vital contribution towards 
advancing the Lisbon goals14, reinforcing the drivers of productivity growth by: 

• 
encouraging a more efficient allocation of resources across countries; 
• 
providing greater opportunity for economies of scale; 
• 
improving incentives for, and rewards from, innovation; 
• 
fostering more competitive markets; 
14 The 2004 spring European Council noted that “increasing external openness globally and improving the dynamic economic 
relationships between trading partners will enhance growth prospects”. 

36 Growth and Opportunity: Prioritising Economic Reform in Europe 


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• 
providing access to new technologies; and 
• 
reinforcing incentives for investment and encouraging Foreign Direct 
Investment. 
2.60 The dynamic benefits for countries from trade and investment stem as much from 
openness to imports as from greater market access for exports15. The evidence from the Single 
Market shows that greater intra-EU openness has significantly boosted productivity and 
growth in the Union. But, estimates suggest that existing barriers to external trade and 
investment, such as tariffs, quotas and restrictive standards could cost consumers up to 7 per 
cent of EU GDP, or around €600-700 billion a year16. The EU therefore needs to develop more 
outward-looking policies17, and in particular to: 
• 
lead the way in achieving an ambitious, liberalising, and pro-development 
outcome to the Doha Development Agenda (DDA) Round of WTO 
negotiations; and 
• 
enhance its bilateral economic relationships with near neighbours, emerging 
markets and its largest trading partner, the US. 
2.61 Growth in world trade has been outstripped in recent years by a rapid acceleration in 
foreign direct investment (FDI) flows. The EU has played a significant role in this, accounting 
for 35 percent of global inflows and nearly half of all FDI outflows between 1985 and 1999. 
Nonetheless, the EU could do more to attract inward investment. Between 1992 and 2002, the 
EU15 received a cumulative $780 billion of inward FDI from non-EU15 countries – an annual 
average inflow of around 0.9 per cent of GDP – compared with the US, where annual average 
inflows amounted to 1.4 per cent of GDP, or $1.4 trillion. The EU has potentially forgone the 
potential benefits of greater FDI, including higher productivity, higher wages, the transfer of 
know-how and integration into worldwide production networks. 
The cost of 2.62 Although many barriers to trade have fallen over the years, protection in certain 
continuing sectors of the economy remains high, imposing substantial costs on both consumers and 
protection taxpayers. It has been estimated that the cost of safeguarding employment in the EU’s 22 most 

protected sectors is eleven times the average wage – 244,000 jobs were saved (only 3 per cent 
of employment in these sectors), at an average consumer cost of €211,000 per job each year18. 
Barriers to trade are often put in place with the aim of encouraging investment, or 
safeguarding employment in specific sectors. But providing shelter from international 
competitors is typically an inefficient, costly and ultimately ineffective way of achieving these 
goals, and provides weak incentives to improve productivity. 

15 Trade and the global economy: the role of international trade in productivity, economic reform and growth, HM Treasury and
DTI, May 2004.
16 The real cost of European protectionism, Patrick A. Messerlin, Institut d’Etudes Politiques de Paris and Group d’Economie
Mondiale de Science Po, 2001.
17 Trade and the global economy: the role of international trade in productivity, economic reform and growth, HM Treasury and
DTI, May 2004.
18 Measuring the costs of protection in Europe: European commercial policy in the 2000s, P.A. Messerlin, Institute of
International Economics, Washington DC, 2001.


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Protectionism 
in agriculture


Multilateral 
trade 
liberisation 

2.63 The EU’s Common Agricultural Policy (CAP) is a clear example of an area of heavy 
protection. The EU provides around €100 billion support to farmers annually. The CAP is the 
EU’s most expensive single policy with an annual budget approaching €50 billion. On top of 
this, consumers pay another €50 billion a year through higher food prices19. Production 
is significantly distorted: the CAP is estimated to have led to levels of production of crops 
and dairy products which are over 50 per cent higher than would have been the case without 
protection20. 
2.64 As for domestic support, the EU has recently taken measures to reduce the trade-
distorting impact of the fiscal transfers it provides by beginning to break the link between 
production and receipt of payments for many important products, a process known as 
‘decoupling’. Further reform is still necessary to address domestic support which affects 
production but it is the other two pillars – export subsidies and border protection – which are 
now in most urgent need of reform. 
2.65 Export subsidies allow excess produce to be sold on world markets at prices well 
below EU internal prices and often below the cost of production. Border protection – using 
high tariffs and other barriers to keep international produce out – is also very significant. 
Together, these three pillars of agricultural protection give rise to a number of harmful effects, 
both to non-farmers in the EU and to efficient farmers elsewhere, including many in 
developing countries. 
2.66 The gains from liberalisation will be greatest if trade barriers are reduced in a 
multilateral context. The framework for continuing the DDA negotiations agreed in July 2004 
offers a vital opportunity to make real progress in global trade liberalisation and significant 
progress towards an ambitious agreement is needed at the Ministerial meeting to be held in 
Hong Kong in December 2005. An agreement must offer real improvements in market access, 
while recognising and addressing the specific constraints on developing countries. A study for 
the European Commission estimated that the Doha Round could benefit the EU by 
$92 billion21. 
2.67 The UK Government welcomes the commitment made by the European Commission 
in its communication to the spring European Council to “press hard for completion and 
implementation of the Doha Development Round.” The EU played a key role in reinvigorating 
negotiations with an early offer in May 2004 to eliminate all export subsidiaries. Looking 
ahead, the EU must now show increased flexibility in advance of the WTO Ministerial in Hong 
Kong in December in order to lead the Doha Development Agenda negotiations towards an 
ambitious, liberalising and pro-poor agreement, that builds in particular on existing reforms 
to the Common Agricultural Policy to reduce the distortions in agricultural markets. 
2.68 An ambitious agreement in the DDA that reduced distortions and increased market 
access to developed country markets, as well as South-South trade, would also provide a 
significant boost to long-term economic growth and development in developing countries, 
lifting millions of people out of poverty and making an important contribution towards the 
achievement of the Millennium Development Goals. However, developing countries must 
have the flexibility to appropriately sequence trade reforms into their development and 
poverty reduction strategies and need assistance to build trade capacity so that they can 
benefit from greater market access – the UK has proposed that this be financed through the 
International Finance Facility. Action is also needed to address seriously the short-term 
transition costs that some countries will face to ensure that the most vulnerable people are 
protected as they adjust to more open markets. 
19 OECD (2003): Agricultural Policies in OECD Countries: Monitoring and Evaluation 2003, Paris.
20 Borrell, B. and Hubbard, L. (2000): ‘Global economic effects of the EU Common Agricultural Policy’, Institute of
Economic Affairs, Oxford.
21 The millennium round: an economic appraisal, N. Nagarajan, European Commission Economic Papers, Number 139, 1999.
Based on a 50 per cent cut in agricultural protection, manufacturing tariffs, and services, plus liberalisation of trade facilitation.


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Near 
neighbours 

Emerging 
markets 

EU-US economic 
cooperation 

2.69 As set out by the European Commission in its communication to the spring European 
Council, the EU must also seek to make “progress on other bilateral and regional economic 
relationships”. The historic process of enlargement of the European Union has liberalised 
further trade within Europe and increased the economic benefits of the Single Market. 
However, while the overall effect of enlargement has been liberalising, in some cases it has 
generated new barriers between the new Member States and third countries – notably, 
the EU’s new Eastern and Southern neighbours. A combination of tariff and non-tariff 
barriers means that the potential for trade and economic integration with these countries 
is unfulfilled22. 
2.70 The EU must continue to strengthen economic links with its neighbours. Economic 
reform is an important part of the European Neighbourhood Policy (ENP); economic reform 
benchmarks should be included in Action Plans developed with partner countries under the 
ENP, and support for reform should be a key element of EC assistance programmes in the 
region. Barriers to trade and investment links should also be eliminated further, advancing 
EU cohesion objectives by providing a boost to many border regions of the new Member 
States that rank among the poorest in the enlarged EU. 
2.71 The conclusion in May 2004 by the EU and Russia of bilateral market access 
negotiations for the accession of the Russian Federation to the WTO is a welcome 
development and the Government looks forward to the implementation of the bilateral 
aspects of this, possibly in the context of further progress towards the creation of a Common 
Economic Space with Russia. 
2.72 The increasing integration of Asian markets into the world economy has been one of 
the most important manifestations of globalisation. Their share of world trade has risen from 13 
per cent in 1990 to 20 per cent in 2002. As noted in Chapter 1, China, in particular, has grown in 
importance, among the EU’s external trading partners, the share of extra-EU trade with China 
more than doubling since 1990. Nonetheless, the evidence suggests that EU companies could 
take greater advantage of opportunities to invest in fast-growing Asian markets. For example, 
12.3 per cent of US foreign investment between 1999 and 2002 was directed at Asian emerging 
markets compared with only 5.2 per cent in the EU. 
2.73 Increasingly, the most significant impediments to doing business with major economic 
partners such as the US are behind-the-border barriers arising from differences in regulatory 
approaches and standards. Overcoming these obstacles, and ensuring new barriers are not 
created, requires cooperation among policy-makers and regulatory bodies. International 
regulatory cooperation in areas such as financial services is an important challenge if Europe 
is to realise the benefits of globalisation. 
2.74 The transatlantic economic relationship far outstrips any other in terms of size and 
depth of integration. Dominated by FDI, often in high-tech sectors, the relationship is an 
important source of prosperity for the EU and supports 12 million jobs on both sides of the 
Atlantic. It has been estimated that closer cooperation to remove barriers could boost EU 
GDP by as much as 2 per cent per year23. The OECD is currently undertaking a detailed 
analysis of the potential gains from closer economic integration between the EU and the US, 
the results of which will be available in March 2005 and will help to identify priority sectors 
for closer cooperation. 
22 For example, the expiry of the free trade agreement between Slovenia and certain countries of the former Yugoslavia is
estimated to have had a 0.1 percentage point negative impact on growth in Slovenia.
23 Enhancing economic cooperation between the EU and the Americas, CEPR, 2003.


Growth and Opportunity: Prioritising Economic Reform in Europe 


SEIZING OPPORTUNITY: ECONOMIC REFORM IN EUROPE 

Exploiting 
win-win 
opportunities 

2.75 The importance of strengthening the EU-US economic relationship was recognised 
at the June 2004 EU-US Summit which called for the development of a new forward-looking 
strategy for closer cooperation. The Government welcomes this opportunity to inject new 
momentum into EU-US cooperation, by setting clear priorities for regulatory cooperation 
and developing new dialogues on growth and economic reform issues, engaging key policy 
makers and regulators on both sides of the Atlantic. It believes that the spring European 
Council should highlight the contribution that stronger economic ties with the US would 
make to achieving the Lisbon goals and look forward to an ambitious new forward looking 
strategy to strengthen cooperation, due to be launched at the 2005 EU-US summit, and 
building on contributions to the recent stakeholder consultation. 
Flexible tax systems in a global Europe 

2.76 The challenge and opportunity that globalisation presents for Member States require 
flexible and competitive tax systems. With competitiveness key to the success of EU 
businesses in the global economy, EU governments must structure their tax systems to 
enhance that competitiveness. 
2.77 Given the diverse economic challenges that Member States face, and different 
preferences for the size and nature of the public sector and the role of the tax system in 
funding it, the UK Government believes that fair tax competition is the right approach for a 
global Europe. Where Member States unanimously agree that coordination of some aspects 
of tax policy is necessary for the effective operation of the Single Market – for example in 
relation to aspects of the VAT regime – or where there may be an overriding environmental or 
health reason for a common EU approach, it is right that Member States should work 
together. But in other areas of tax policy – for example, the rate and base for corporation tax 
– continued national control is needed to ensure that Member States have the tools they need 
to support specific economic reforms and ensure competitiveness in the global economy. 
This is the most effective way of carrying forward the Government’s agenda of fair tax 
competition. 
ENVIRONMENTAL PROTECTION 

2.78 Europe’s responsibilities in the global economy extend beyond its role in promoting 
open markets and free trade. It has a role in promoting sustainable consumption and 
production both within the EU and internationally, and the UK Presidency will address these 
issues when it takes forward revision of the EU Sustainable Development Strategy. But, at the 
EU level there is also scope for synergies between the Community’s environmental protection 
aims and its competitiveness and growth agenda. The report of the High Level Group chaired 
by Wim Kok rightly recognised the potential for innovation to create new markets and 
increase competitiveness through greater resource efficiency and new investment 
opportunities and called on Europe to pursue “policies which lead to long-term and sustained 
improvements in productivity through eco-efficiency” noting that “in this sense environment 
policies can help achieve the core Lisbon strategy objectives of more growth and jobs”. 
2.79 There are many ways in which Europe can successfully combine environmental 
policy with action to advance the Lisbon goals. For example, effective regulation which 
stipulates required environmental outcomes can give the market some certainty that 
particular technologies or skills are likely to be in demand due to the environmental criteria 
that they fulfil. Similarly, Europe could gain a first-mover advantage by focussing investment 
on resource efficient technologies that other countries will eventually need to adopt. This 
40 Growth and Opportunity: Prioritising Economic Reform in Europe 


Climate change


SEIZING OPPORTUNITY: ECONOMIC REFORM IN EUROPE 

would not only advance Europe’s climate change objectives but would contribute also to the 
achievement of wider environmental objectives such as reducing levels of waste, improving 
air quality, reducing the environmental and human health impact of chemicals and meeting 
the Water Framework Directive. The UK Government believes that it is important that 
effective policy levers are in place and that barriers are removed to encourage the 
development and commercialisation of new eco-efficient technologies and products, and to 
that end welcomes the Environmental Technologies Action Plan. 

2.80 Member States also have a responsibility to tackle trans-boundary environmental 
problems, such as climate change and air quality. Recent Commission projections suggest 
that once additional measures yet to be put in place are taken into account, the EU could 
reach its Kyoto target. Nonetheless, the performance among Member States remains variable 
and the Government believes that further action will be needed by all Member States to 
ensure that the EU, as a large emitter of greenhouse gases, pulls its weight in tackling climate 
change and remains in a position to present credible international leadership on this issue. 
2.81 Member States have a range of levers that can help them to reduce their emissions. 
The key instrument from January 2005 is Phase One of the EU emissions trading scheme 
(ETS) which will enable emissions reductions to be made at the lowest cost and should help 
Member States meet their Kyoto targets. The UK Government welcomes the EU ETS which 
provides an effective market-based instrument for reducing emissions and rewards those that 
find innovative ways of doing so. Looking forward, with the introduction of the EU ETS and 
the entry into force of the Kyoto Protocol, the EU should consider establishing longer-term 
greenhouse gas emission reduction targets. Moreover, in view of the significant contribution 
that aviation emissions make to total greenhouse gas emissions, the UK Government strongly 
supports the inclusion of intra-EU aviation into EU ETS and will also continue to press for the 
development and implementation of an international emissions trading regime. 
SUPPORTING LISBON: TOWARDS BETTER GOVERNANCE 

2.82 Many of the reforms needed to advance the Lisbon goals of growth and employment 
are the responsibility of Member States. The size, diversity and cultural richness of the 
European Union means that the context for reform varies considerably between countries, 
reflecting local histories, institutions and traditions. The Lisbon Strategy must continue to 
permit a pluralist approach to reform, in which Member States have the flexibility they need 
to adapt policy responses to suit local conditions. 
2.83 At the same time, the Member States and institutions of Europe share the 
responsibility to take action within their realms of responsibility and to contribute on an 
equal basis to the process of economic reform. Member States that fail to deliver in their own 
economies, fail not just their own citizens but the citizens of Europe too. The mid-term review 
of the Lisbon Strategy must therefore embrace a new partnership for reform, in which all 
those responsible for the development and implementation of reform are made accountable 
for the contribution they make to the achievement of the Lisbon goals. 
2.84 The High Level Group correctly identified the implementation of reform as key to 
Europe’s future economic prosperity and described the extent of action to date as 
“inadequate”. The European Commission’s communication to the spring European Council 
reiterated this message, noting that “delivery will be critical and improvements of the existing 
delivery mechanisms are urgently required”. The UK Government supports this conclusion 
and believes that such reform must: 
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National Plans 
and Growth 
and Employment 

• 
strengthen national incentives to reform, through stronger transparency and 
accountability for the implementation and success of national economic 
reform programmes; and 
• 
ensure that wider Community policies support rather than hinder the overall 
goals of the Lisbon Strategy. 
Promoting incentives to reform 

2.85 In the context of the Lisbon Strategy, the open method of coordination continues to 
provide the right approach to policy-making and delivery in many areas of structural reform, 
promoting the sharing of best practice and ensuring that policy solutions can be tailored to 
suit local conditions within a framework of shared objectives, targets and political 
commitment. However, in the second phase of the Lisbon Strategy, reform is needed to 
strengthen accountability and reform incentives within the context of the open method, 
including through: 
• 
National Plans for Growth and Employment, presented annually by Member 
States at the highest political level; and 
• 
strengthened benchmarking of national performance to identify successes 
and delivery gaps in the Member States. 
2.86 The High Level Group chaired by Wim Kok and the European Commission’s 
communication to the spring European Council both recommended the introduction of 
national Lisbon Action Programmes, focussed on growth and employment, to improve the 
governance of the Lisbon strategy. The UK Government fully supports the objectives behind 
this proposal and believes that the mid-term review of the Lisbon Strategy should agree that 
Member States should present annually National Plans for Growth and Employment 
summarising the actions they have taken and intend to take to improve flexibility in labour, 
product and capital markets. The aim of such Plans should be to: 
• 
streamline existing reporting processes, thereby reducing bureaucracy and 
overlap, and better recognising policy inter-linkages; 
• 
strengthen political ownership and accountability for national reform 
programmes at the highest level; 
• 
preserve the integrity of existing peer review mechanisms pursued in the areas 
of labour market and wider structural reform; and 
• 
improve transparency and allow the Commission and the European Council 
to monitor and draw conclusions on national reforms. 
42 Growth and Opportunity: Prioritising Economic Reform in Europe 


SEIZING OPPORTUNITY: ECONOMIC REFORM IN EUROPE 

2.87 In order to meet these objectives: 
• 
ECOFIN and the Employment Council should, in line with the Commission’s 
report, continue to adopt the Broad Economic Policy Guidelines (BEPGs) and 
Employment Guidelines, thereby providing strategic direction for the National 
Plans for Growth and Employment. The BEPGs, as the overarching economic 
policy co-ordination instrument covering the whole spectrum of 
macroeconomic, microeconomic and employment policies, ensure the 
consistency between the different aspects of structural reform; 
• 
Member States should present, annually, a single consolidated document 
summarising the reforms undertaken in labour, product and capital markets, 
consistent with Broad Economic Policy Guidelines and Employment 
Guidelines, and setting out forward-looking commitments to further reform. 
In practice, this would involve merging existing national reports on labour, 
product and capital market reforms; 
• 
in preparing their reports, Member States should engage with and consider 
the views of social partners and other key stakeholders, to gain wider political 
buy-in, in accordance with national traditions; 
• 
reports should be personally owned and presented by Heads of State and 
Government. They should be pre-faced with a short statement setting out a 
limited number of specific and forward-looking policy commitments, 
consistent with the main body of the report; 
• 
existing peer review discussions, in the ECOFIN and Employment Councils 
should continue, and be based on the consolidated report, with ECOFIN 
continuing to ensure consistency between macroeconomic, microeconomic 
and employment policies. Such mechanisms, which enjoy the active 
participation of national policy experts, provide an effective means of sharing 
best practice and learning from one another; and 
• 
though multi-annual in their context, reports should be presented each year 
to maintain the momentum for reform and to meet the Treaty requirement for 
annual peer review of the employment policies of the Member States. 
2.88 The UK Government believes that a system of National Plans for Growth and 
Employment configured along these lines would allow the European Council and the 
European Commission, as well as the media and domestic stakeholders, to monitor the 
implementation of key reforms through a light touch approach, which would serve to 
streamline existing processes; preserve the effectiveness of peer review; help the Commission 
to play a supportive role in advancing the Lisbon goals; increase political visibility and 
commitment; and more effectively align appraisal of past performance with future actions. 
Box 2.5 sets out a possible timetable for the production, dissemination and discussion of 
such reports. 
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Box 2.5: National Plans for Growth and Employment: a possible timetable 

The timetable below sets out possible milestones in the production of National Plans for 
Growth and Employment: 

• 
following the 2005 spring European Council, the Commission and the Council 
agree updated Broad Economic Policy Guidelines and Employment Guidelines, 
prioritising growth and employment as key aims of the Lisbon Strategy; 
• 
the Commission produce guidance to Member States on the format and drafting 
of National Plans for Growth and Employment by summer 2005; 
• 
Member States present initial National Plans for Growth and Employment in 
autumn 2005, ahead of the 2006 spring European Council; 
• 
country examinations in the ECOFIN and Employment Councils take place before 
the end of 2005 on the basis of National Plans for Growth and Employment; 
• 
the Commission takes into account the content of National Plans and the outcome 
of country examinations in its reports for the spring European Council; 
• 
the 2006 spring European Council discusses progress on economic reform and 
priorities for coming year; and 
• 
National Plans for Growth and Employment are updated in autumn 2006. 
Benchmarking 
success 

2.89 In its November 2004 report, the High Level Group chaired by Wim Kok proposed that 
the European Commission present “an annual league table of Member State progress towards 
achieving … key indicators and targets”. This recommendation mirrored that of many other 
external observers, including the IMF. While the results of such benchmarking should not be 
treated mechanistically, the UK Government believes that a more transparent and publicly 
accessible system of ranking and benchmarking could usefully seem to highlight examples of 
good practice in the Member States and help facilitate the process of reform. 
2.90 Existing work by the European Commission to monitor national performance against 
core structural indicators already provides an effective snapshot of the reform challenges 
faced by Member States and provides a useful signal of where countries can learn from one 
another. The spring European Council should endorse a continuation of benchmarking and 
invite the Commission to develop its current approach so as to increase the degree of 
political and public exposure to the results. As now, such assessments should form but one 
part of a wider, qualitative assessment of reform, and reflect initial starting points as well as 
absolute achievements. 
Supporting the Lisbon strategy 

2.91 While most of the instruments of structural reform belong to the Member States, 
Community policies also have an important role to play in advancing the Lisbon goals. 
As described above, action at the Community level to regulate, investigate and address 
competitive distortions in the Single Market can make a vital contribution to improving 
productivity, employment and growth in the EU. Likewise, Community spending on R&D can 
help to ensure that Europe is able to compete internationally in the development of high-tech 
products and services. This section considers the role of the Community budget and the 
Stability and Growth Pact in advancing the Lisbon goals. 
44 Growth and Opportunity: Prioritising Economic Reform in Europe 


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A modern and 
flexible 
Community 
budget 
2.92 Negotiations on the next Financial Perspective represent an important opportunity to 
realign the Community budget in support of the Union’s political priorities, including the 
Lisbon strategy. The UK Government believes that the budget should be reformed to reflect 
the Lisbon priorities while ensuring that it is subject to the same levels of budget discipline 
and efficiency that Member States are expected to deliver at home. Community spending 
must therefore be limited to those areas in which action at the EU level adds clear value over 
and above that which would be delivered by Member States acting alone. 
2.93 The view of the UK Government – which is shared by a number of other Member 
States – is that these goals can be achieved with a commitments budget of no more than 
1 per cent of EU GNI. This amounts to a budget of €815 billion in 2004 prices and would 
represent a 6.5 per cent real terms increase in spending compared with the current Financial 
Perspective. It is both realistic and affordable. 
2.94 In line with the principle of subsidiarity, responsibility for meeting the vast majority 
of the Lisbon targets remains primarily with Member States and should be funded at the 
national level. This includes expenditure in areas such as education and social policy. 
Nonetheless, in a limited number of areas, spending at the European level can deliver more 
than at the national level. There is a particularly strong case, for example, for increasing 
Community spending on basic research and development given its significant spill-over 
effects and the large economies of scale associated with such projects. In order to maximise 
the benefits of such expenditure however, funds must be allocated on the basis of excellence 
and the level of spending must be consistent with the ability of stakeholders to manage and 
absorb funds. In this context, the Commission’s proposals to triple expenditure on all aspects 
of competitiveness spending in support of the Lisbon Strategy in the next Financial 
Perspective are unrealistic. 
2.95 Spending on the Common Agricultural Policy and the Structural and Cohesion Funds 
together accounts for over two thirds of the existing EC budget. The UK Government supports 
further reform in these policy areas to complement and better support delivery of the 
objectives of the Lisbon Strategy. 

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Box 2.6: Reform of the Structural and Cohesion Funds 

Reform of the Structural and Cohesion Funds in the next Financial Perspective is essential 
if they are to become more effective, sustainable and affordable, and are to make a more 
positive contribution to achievement of the Lisbon goals. The UK Government believes 
that all Member States should sign up to common objectives for regional policy in support 
of the Lisbon and Gothenburg agendas, but that delivery of these objectives should be 
devolved to Member States. Community funding should be focused on those countries that 
are eligible for the Cohesion Fund – those with a GNI per capita of less than 90 per cent 
of the EU average – and hence which are in most need of assistance. This would ensure 
that Community resources are targeted where they have greatest effect. Richer Member 
States should take primary responsibility for funding their own regional policies from 
national resources. This model retains the benefits of the current system while increasing 
the quality of EC expenditure. It also gives Member States the flexibility they need to 
design and implement their own regional development policies. 

While the UK Government welcomes some elements of the Commission’s proposals for the 
future of the Structural and Cohesion Funds, including the need for a greater strategic 
focus, decentralisation and simplification, it believes that the Commission’s overall 
proposals are unrealistic and unacceptable. For example: 

• 
despite a significant increase in disparities between the richest and poorest 
Member States, less than 50 per cent of the funds would go to the new Member 
States. The EU15 would continue to receive the majority of SCF receipts through 
to 2011, a full seven years after enlargement; 
• 
the proposals fail to add value at the EU level. Some €56 billion would be targeted 
exclusively at the richest parts of the Union; and 
• 
the budget would rise by 30 per cent in the next Financial Perspective to €370 
billion, or one third of the EC budget. This is incompatible with a financially-
disciplined approach to the budget and is unsustainable. 
2.96 The report of the High Level Group called for an analysis of the possibilities for 
introducing budget incentives to encourage Member States to achieve the Lisbon targets. The 
UK Government believes such a system is unlikely to be workable in practice for several 
reasons: 
• 
rewards for achieving the Lisbon goals would discriminate against those 
Member States who had already taken action to meet the goals, creating 
perverse incentives; 
• 
it could encourage Member States to focus on the wrong priorities; 
• 
given the complex relationship between reform and results, it would be 
difficult to agree on objective criteria for determining such rewards; and 
• 
the size of any such rewards would be unlikely to overcome the wider 
obstacles to reform in many Member States. 
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The Stability and 
Growth Pact 

2.97 The High Level Group noted that the framework for macro-economic policy in 
Europe should be as supportive of growth as possible, and that in this context, reform of the 
Stability and Growth Pact was desirable. The UK Government agrees that the Stability and 
Growth Pact must contribute to growth and not impede it. It therefore supports a prudent 
interpretation of the Pact, grounded in a sound economic rationale, which is applied 
symmetrically throughout the cycle; distinguishes between high and low debt countries; and 
permits borrowing for public investment within prudent limits. A prudent interpretation 
would lock in long-term fiscal discipline and sustainability; enhance credibility across the 
economic cycle, by allowing the automatic stabilisers to operate fully and symmetrically to 
smooth fluctuations in output; and allow appropriate increases in investment in public 
services to deliver strong and sustainable growth. The European Council should agree on the 
reforms needed to realise a prudent interpretation of the Stability and Growth Pact. 
Growth and Opportunity: Prioritising Economic Reform in Europe 


48 Growth and Opportunity: Prioritising Economic Reform in Europe 


LIST OF CHARTS AND TABLES


Charts 

1.1 Comparison of living standards 
1.2 Real GDP growth 
1.3 Inactivity and unemployment rates in the EU 
1.4 GDP per person employed and employment rate 
1.5 Labour productivity in the EU and the US 
2.1 Overall levels of product market regulation 
2.2 Entrepreneurial activity 
2.3 Patent activity 
Tables 

1.1 Jobs required to meet the Lisbon targets 
Growth and Opportunity: Prioritising Economic Reform in Europe 49 


LIST OF BOXES


1.1 Implementing Lisbon: recent reforms in the Member States 
1.2 Boosting the contribution of employment to growth 
2.1 Promoting competition in European public procurement 
2.2 European Centres of Enterprise 
2.3 Important reforms underway in Member States 
2.4 Flexibility and fairness: a variety of approaches 
2.5 National Plans for Growth and Employment: a possible timetable 
2.6 Reform of the Structural and Cohesion Funds 
50 Growth and Opportunity: Prioritising Economic Reform in Europe