Commissioner Erkki Liikanen: "Innovation, Productivity and eEurope a recipe for long-term growth", eEurope Seminar, Brussels, 16 March 2004

March 18, 2004

Brussels, 16 March 2004

Ladies and Gentlemen,

1. Introduction

At the heart of today's discussions are the concerns in Europe about productivity and innovation. Europe needs to increase productivity growth. We also need to step up and get more results from innovation. This is essential to realise the Lisbon agenda.

Productivity growth is needed to keep Europe's companies globally competitive, to deliver increased wealth to citizens, and to be able to afford essential public services such as health and education.

Innovation is the basis for long-term sustainable productivity growth. This is one of the main findings of neoclassical growth theory and borne out by empirical studies. In the long run economic growth comes to a halt if it were not for innovation.

2. Productivity

On both productivity and innovation Europe's average is lagging behind the USA and other industrialised nations.

Since 1995 productivity growth in Europe has dropped to levels below those of the USA. Until 1995 Europe managed to grow GDP per capita faster than the USA, mostly thanks to growth in manufacturing. Although Europe has improved labour participation since 1995, it did not manage to sustain productivity growth.

Economists have been studying the relationship between ICT and productivity, at macro-level, as well as at the firm-level. Sector-level studies have been performed as well.

Both at macro- and micro-level clear relationships between ICT and economic performance are found. The essence of this is well-known today.

For the economy as a whole, high levels of investment in ICT and a strong ICT producing industry lead to faster GDP growth. This happened in the USA and a few European countries, but not across the EU.

One reason is lower levels of ICT investment in the EU. This has historically been one factor across Europe. Today we see a rebound of ICT investment, with the economy picking up. Still, projections of growth in ICT expenditures are still fairly moderate for Europe. Growth rates for 2004 and 2005 are some 3 4 %, below the 7 12% of the 1995-2000 period.

At the firm-level the finding is that long-run sustained use of ICT in companies is likely to lead to higher profits and increased market share, but only if it is combined with organisational change and upgrading of skills of employees. It can take five years or more for this combination of ICT and organisational capital deepening to pay off, but then returns are above average.

The striking phenomenon that the USA has continued productivity growth even during the ICT-slump of the last years is taken as an indication that organisational renewal has steadily continued to generate benefits from past ICT investments.

Economic research at sector-level shows a more diverse and sometimes less conclusive picture. The ICT-producing sector in particular in the USA has realised a large productivity growth, which in itself is a significant contribution to overall GDP growth.

Some but not all ICT-using sectors in specific countries have also realised impressive productivity growth thanks to ICT. Examples are wholesale and retail and securities in the USA, and mobile communications in Europe and retail banking in Nordic European countries. But other sectors seem to be incapable of generating such benefits, such as retail or transport and storage in Europe.

Next to lower levels of ICT investment, there are probably also other barriers at work, such as lack of economies of scale or regulations that impede structural organisational change across a sector so that the spill-over and network effects do not come about.

All of these findings concern the private sector. As of today there is less economic research into the public sector but it is likely that mutatis mutandis similar conclusions hold for public administrations or for services such as health that are provided through a combination of public and private actors.

Indeed, there is now some evidence that the sustained combination of ICT and organisational renewal and improvement of skills of civil servants leads to productivity growth in the public sector as well. In public services productivity improvement goes along with realising other objectives such as higher quality services, less red tape, increased transparency and services for all, the totality of these being 'public value added'.

ICT enables services aggregation for a citizen-centred one-stop approach, provided that the backoffice re-organises as well. This leads more often than not to resistance of civil servants and runs into incompatibility problems of local rules and regulations, working procedures, ICT systems, and data definitions.

Overcoming these hurdles is a hard task that requires political leadership and a long-term vision. Case studies demonstrate that it is definitely worthwhile to go down that road.

In short, ICT is key for productivity growth in the private and in the public sector. But it needs to go along with organisational and skills renewal. And structural barriers need to be tackled as well.

3. Innovation

The second element that is at the heart of today's discussion on the Lisbon strategy is innovation.

Europe has an innovation gap relative to major other economies. R&D investment relative to GDP is about one percentage point lower than in the USA or Japan. Patent filings are lagging behind. Fewer innovative products come to the market. Europe's innovative strength is on average, as measured by the Commission's Innovation Scoreboard, significantly below the USA, although some European economies such as Finland and Sweden are at least as innovative as the USA.

Innovative strength and national competitiveness are strongly correlated. The diagram uses 2003 data for innovative strength from the Commission's Innovation Scoreboard and data on country competitiveness from the World Economic Forum. The competitiveness index is itself combining macro-economic strength, the quality of public institutions and technology-orientation.

Quality of public institutions includes perceived quality of legal and judicial systems, enforcement of rules, transparency, responsiveness, etc. When we plot this against national innovation we again find a relatively strong correlation.

The diagram suggests that high quality public institutions, which is by the way - not the same as big government, go together with innovative strength and thus with overall competitiveness. This would underpin the modernization of public institutions through ICT. Not only for a better public sector as a sector on its own, but for a stronger economy overall.

Of course correlation does not imply causality, let alone a direct dependency. Innovation mechanisms are complex, non-linear, and contingent.

Michael Porter and Scott Stern argue that there is interplay between cluster-specific conditions that enable strong industry and service clusters and the national innovation infrastructure. This infrastructure consists of human and financial resources and economy-wide public policies dedicated to innovation and the country's level of technological sophistication.

Sector-specific studies show a strong link between innovation and ICT. In some sectors such as retail in the USA, ICT-based supply chain innovation forces suppliers to large retailers to also innovate.

In other sectors the customers are the source of innovation, thriving on the ever-increasing performance of computers and networks.

Europe still has a relative strength in non-ICT manufacturing. This is where often craftsmanship is important, such as in non-ICT producing engineering industries. Here innovation often comes from in-house R&D and is process-oriented but not so much ICT-driven.

However, these industries, that traditionally are an important powerhouse of Europe's economy, are declining in share of GDP and in productivity growth rate.

4. eEurope

There is no doubt then that both productivity and innovation go along with ICT investment, provided there is an enabling legal framework and organisational renewal and skills upgrading.

With the achievements of the eEurope Action Plan and the upswing of the economies the signs are improving in Europe. One of the main trends of 2004 is that broadband is on the rise, growing by 90% per year, and well on its way to meet the eEurope 2005 objectives.

Broadband enables many innovative applications. Collaborative design, online health, entertainment, etc. Advanced applications and services on their turn create demand for better infrastructure. Europe's strength is our technology-neutral regulatory framework for electronic communications that encourages facilities-based competition. Where there are competing broadband platforms the market is growing fastest.

Another main opportunity for Europe to increase productivity and innovation is in advanced mobile services. This is another trend: mobile data services and 3G will become a reality in 2004-2005 and will break into the mass market.

We also see that convergence is becoming a reality, such as voice over IP-broadband, and video over ADSL. As a consequence interoperability is in the spotlight. Interoperability is also needed for multiplatform access, which is important for public service delivery to all.

Although inclusive multi-platform access, another objective of eEurope 2005, needs to make more progress there is major progress in public services, especially in terms of governments committing to eGovernment. What matters now is to move from technology to solutions and to innovate in back-office organisation.

We should avoid bringing old bureaucracy online. eGovernment is the chance to renew the administrative organisation by breaking down barriers between departments for the benefit of citizens as taxpayers and participants to democracy: citizens are to be at the centre.

While ICT infrastructure and services are improving we need to continue reinforcing trust and confidence, by better hard and soft security. And winning the war against spam, by legal measures and ultimately by making it too expensive for the senders.

5. Future investment

Finally the outlook for the future.

In ICT-producing industries the investment horizon of CEOs is again measured in months rather than weeks.

There is political commitment to modern public services, in health, administrations, education. eCommerce and eBusiness are growing rapidly. These are encouraging signs.

But this will not be enough to realise the Lisbon Agenda. Europe has to significantly increase spending in R&D, to 3% of GDP. A large part of that should come from the private sector.

Modernization and innovation in the public sector from administrations to health and education needs to be stepped up to improve these services and to boost the economy overall.

There are plenty of opportunities, for example in health care and administrations, to find large-scale application of ICT such as context-aware mobile devices or digital television and broadband infrastructure and thereby strengthen Europe's ICT manufacturing and the ICT services industry and indeed the economy overall.

We need to raise efficiency and provide new services to deal with the demographic shifts in Europe: aging and immigration. We need to make the fullest out of the imminent enlargement.

All of these challenges require long-term political commitment and a long-term vision. It is precisely this that underpins the Commission's recent proposal for EU financial expenditures from 2007-2013.

These Financial Perspectives propose a major increase in spending in innovation at European level. They also propose significant investment in economic development across Europe for strengthening cohesion and convergence especially for the new countries.

6. Conclusions

In conclusion: a strong Europe requires strong markets and public institutions for economic development and solidarity.

But Europe needs to look in the mirror. The Lisbon strategy will fail if we do not take productivity and innovation serious.

ICT is a major driver and opportunity but no magic formula. There are also structural changes needed in markets, organisations, and attitudes. There needs to be a shift of priorities for public investment, putting the money where our mouth is. Here the EU Financial Perspectives as proposed by the Commission lead the way.

DN: SPEECH/04/135 Date: 16/03/2004

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