Article by Jean-Claude Trichet, President of the European Central Bank in the The Wall Street Journal, 24 Februar 2005

Euro Vision

As president of the European Central Bank, I am struck sometimes by the European inclination to present facts and figures in a pessimistic way. As a matter of fact, real economic situations are most of the time complex and exhibit both positive as well as negative features.

The example of structural reforms is a good one. There is a strong need and, certainly in my view, an even stronger need today than before, to pursue actively and to reinforce structural reforms in the European Union and the euro area. But this is not to say that nothing has been done in the past, nor that there have not been significant successes.

Europeans launched a major process of economic structural reform at the end of the 1950s with the start of the European Economic Community. This progressively triggered major reforms in the markets of goods and services and in capital markets. After more than a quarter of a century, in 1986, it appeared necessary to give a new impetus to what was called at the time the "Common Market" strategy. The "Single Market" concept was introduced to set up a real unified single economy with effective free movement of persons on our continent and an effective and efficient functioning of the single market of goods, services and capital. A number of aspects of the Single Market still need to be completed, but the progress so far is already truly impressive. In 1992, a new treaty was signed setting the goal of a single currency for Europe, at the latest in 1999. This further quantum leap in the forces fostering economic integration has also been successfully achieved.

What did these structural reforms at the continental level bring about in the last century, say from 1970 up to 2000? If we consider labor productivity as one of the possible measures of the efficiency of an economy, the results are impressive: output per hour worked in the euro area, which was only around 70% of the level of the U.S. in 1970, was equal to the U.S. level in 2000. The results are much less flattering as regards output per capita, which remained just over two-thirds that of the U.S. level over this period. The lack of convergence in output per capita to U.S. levels reflects the decreasing trend in labor utilization in Europe which resulted, in the 1970s and '80s, from strong increases in the unemployment rate and, over the entire period, from significant reductions in working hours per person employed in Europe - contrasting with increasing participation rates in the U.S.

This reduction in working time, which one can regret in terms of output per capita, does not overall diminish the success of Europe in the second half of the 20th century in terms of productivity. And there is little doubt that a large part of this success is attributable to the bold economic reforms triggered in particular by the treaties signed in 1957, in 1986 and in 1992. The Europeans can be proud of what they have done and can draw, from their past boldness, the courage and determination necessary to pursue and reinforce their strategy of structural reforms.

Nevertheless, since approximately the mid-'90s, the situation vis-a-vis the U.S. is totally different in terms of labor productivity. The catching up process has not only been interrupted but reversed: from 1996 to 2003, U.S. productivity per hour has been augmented yearly by over 2% while it has increased by only around 1.25% in Europe. Part of the European evolution can be attributed to policies aimed at augmenting labor participation in the unskilled segment of the market. But at the level of the economy as a whole, a large part of the productivity gap seems to be attributed to capital deepening - in fact Information and Communication Technology (ICT) capital deepening - and total factor productivity associated with a better utilization of ICT. When analyzed by sector, it is impressive to see that, on top of the ICT-manufacturing productivity sector, it is the very rapid improvement in the ICT-using services sector (wholesale trade, retail trade, financial intermediation) that explains much of the difference. This productivity phenomenon explains, together with the unsatisfactory demographics of Europe, why European growth has been disappointing in comparison with the U.S. during the past decade.

Drawing lessons from these longstanding and recent observations, I see five main reasons for actively pursuing the structural reforms that were set up in the "Lisbon Agenda" - adopted by the European Council unanimously, courageously fostered by Wim Kok in his recent report to the European Council on the Lisbon strategy, and considered by the new Commission as fundamental in its work program.

Those four reasons are mutually reinforcing. It remains to be fully understood why it is precisely in the mid-'90s that we observed, quasi-simultaneously, a surge of productivity in the U.S. and some degree of "productivity fatigue" in Europe over and above what can be explained by actions in favor of employment by low-skilled workers. My own, prudent, conjecture would be that it is also approximately at this period that the world economy experienced an acceleration of globalization and a much stronger impact of the technological surge. This new global environment would discriminate between economies, with the most flexible ones taking a new advantage in this more mobile economic universe and the less flexible economies being hampered in terms of productivity by their difficulty to reallocate resources. Economic research will progressively enlighten us in this field.

In any case we Europeans know that we can deliver structural reforms: we have done that efficiently in the past. The new state of the world is only adding new reasons to proceed in a direction which has been the European strategy since the late '50s, and has contributed, over almost half a century, to productivity progress, prosperity and jobs.

Last but not least, there is a fifth reason to reinforce the implementation of structural reforms. A substantial number of such reforms entail better management of public spending, therefore facilitating sound fiscal policies. It is impressive to see the difference in terms of public spending, as a proportion of GDP, between the economies that have implemented comprehensive structural reforms - and they are posting low public spending - and those economies that have been less effective in the realm of reform, with high public spending.

Structural reforms that help contain public spending and accelerate growth also facilitate compliance with the Stability and Growth Pact. The Pact is fundamental within the Economic and Monetary Union, because it guarantees the cohesion of the single currency area in the absence of a fully-fledged political federation and, therefore, of a significant federal budget. Measures that permit the effective implementation of the Stability and Growth Pact are more important than ever, and will contribute to improving confidence, to growth and to job creation.