FOSTERING INNOVATION IN CENTRAL EUROPE

It's Time to Talk About Industrial Policy 

A recent decision by the European Commission to block the merger of European train manufacturers Alstom (France) and Siemens (Germany) unleashed a flurry of reactions. Political leaders of both countries support the consolidation, arguing that Chinese companies already dominate the global rolling stock production. Most economists, on the other hand, see a monopoly that would impose higher costs on taxpayers, as detailed in an open letter. How should the rest of Europe, and specifically Central Europe, react to this mostly Franco-German wrangle? In the age of a rising China and the growing importance of manufacturing for military applications, a conversation about industrial policy is needed.

First, consider the facts. Immediately following the Commission’s verdict to reject the merger proposal on grounds similar to those espoused by economists, the German Minister for Economic Affairs and Energy issued the
National Industrial Strategy 2030. Only a fortnight later, the same minister and his French counterpart penned the Franco-German Manifesto for a European Industrial Policy Fit for the 21st Century. The two papers read like panicked wake-up calls to action written over a rushed weekend. There are better ways to foster innovation and support manufacturing than sheltering national champions from competition. Governments should not pick winners, as the two papers advocate. Governments are also poor corporate managers and struggle to innovate.

Germany’s Industrial Strategy focuses on defending the industrial sector’s share in the domestic economy. It argues for supporting existing champions (established companies synonymous with its economic history like Siemens, Thyssen-Krupp, or Deutsche Bank) because they represent an “outstanding image of German economy and industry the world over.” For smaller companies that fail to become champions, the policy recommends the state become a co-owner. For strategic sectors “with preeminent issues of platform economics, artificial intelligence (AI) and autonomous vehicles… as with Airbus at the time – the state should take direct stakes in companies (AI-Airbus).” Such technology holds promise for widespread military applications but also profitable spillover into consumer goods.

The more compact Franco-German Manifesto argues for more lenient merger rules, easier access to state aid under IPCEI guidelines (Important Projects of Common European Interest), setting up sector-specific consortia, and state shareholding of private companies. The proposal centers on picking winners in a range of fields including AI, microelectronics, and batteries, and funding their growth with public money. Most importantly, the document calls for changing competition rules that would allow the European Council (controlled by member states) to override Commission verdicts on competition cases.

The papers are right in waking up to the China challenge. For years, China’s industrial sector benefited from soft lending by state-owned banks, laws that put foreign affiliates at a competitive disadvantage, and state-sanctioned theft of intellectual property. Domestic manufacturing also has a military dimension which is missing in the papers. Defense capabilities are best served when governments source armaments through friendly supply chains. Safeguarding technological expertise with military applications is a national security issue.

Germany is right to call for reciprocity on a level playing field: “…Germany and Europe must intervene more actively than in the past against distortions to competition by other countries.” European institutions should set up a screening mechanism to safeguard sensitive technologies from adversaries. Just as with anti-trust regulations and trade compliance, such screening should be EU-wide.

And there is more that the Europeans can do to foster innovation. Rather than trying to nurture national champions, policymakers should support competition. The single European market remains incomplete. Services, which account for an overwhelming share of value added, often trade with difficulty across borders because they are protected by domestic regulations. Manufacturing directly benefits from a competitive and efficient market in services. The EU should redouble efforts to dismantle remaining barriers to trade in services.

If the Europeans insist on spending public money to support manufacturing, some additional ideas merit attention. The private sector underfunds innovation research because some outcomes ultimately end in the public domain. Governments might consider co-financing such research at hubs centered in universities while also enticing the private sector to participate. Such “innovation hubs” would alleviate the problem of duplicative research. In fast-moving technologies, as boundaries between basic and applied research blur, consortia, hubs, and centers of excellence could help internalize the results.

Finally, Central Europe shows yet another way to shore up manufacturing, where vocational training has had a long tradition of excellence. Technically-skilled labor attracts capital, which in turn funds innovation. Not coincidentally, the economies of the Visegrád Four managed to retain a manufacturing share of about 20 percent of GDP (in the Czech Republic closer to 24 percent) compared to 11 percent in the United States, 10 percent in France, and 9 percent in the UK. This comparative advantage is worth underwriting with increased public spending.

In sum, Europe disregarded most of the Franco-German proposals. Few of them will be implemented because they are impractical or costly. Instead, the EU is better off spending its intellectual and financial capital on proven steps that support competition, fund research, and maintain technical skills.


 

Europe's Edge is an online journal covering crucial topics in the transatlantic policy debate. Krzysztof Bledowski, Ph.D., is council director for MAPI's Treasury, Quality, and Logistics Councils. All opinions are those of the author and do not necessarily represent the position or views of the institutions they represent or the Center for European Policy Analysis. 

Photo: By Terje Sollie via Pexels.

Krzysztof Bledowski
28 June 2019

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