29.11.2021 – 09:03
Vienna Institute for International Economic Studies (wiiw)
EU members in the region need to innovate to tackle green and digital change; Opportunities and challenges for Germany and Austria
Despite solid growth rates, Eastern Central Europe is also facing economic problems. Because of the acute shortage of chips, the Czech VW subsidiary Skoda alone will probably produce 250,000 fewer cars than planned this year. Overall, the 1,000 companies in the automotive and supplier industry in the Czech Republic generate around 10% of the gross domestic product, 20% of exports and employ 180,000 people. “This is just one example of the great dependence of East Central Europe on labor-intensive export industries that will undergo massive structural change in the next few years – keyword electromobility, climate protection and digitization”says Richard Grieveson, deputy director of the Vienna Institute for International Economic Studies (wiiw) and co-author of a new study on the subject.
“Workbench” of western corporations
Many of the East Central European EU members have made an impressive economic catch-up process since the mid-1990s. The previous successful model of taking over labor-intensive production steps as the “extended workbench” of Western corporations has reached its limits. Combined with major structural changes such as decarbonization and digitization, this makes a new, innovation-based economic model for East Central Europe necessary, according to the conclusion of the study. “Only then will these states be able to catch up with Western Europe in terms of productivity and living standards”says Grieveson.
The problem: The central technological competencies and those parts of production with the highest added value can be found in the “headquarter economies” of Western Europe. The EU members of Eastern Central Europe, i.e. Poland, the Czech Republic, Slovakia, Hungary, Slovenia, Croatia, Romania, Bulgaria and the Baltic states, on the other hand, are still extremely specialized in labor-intensive productions. These stand and fall with low labor costs. That limits the prospects of catching up economically with Western Europe. “Just take the auto industry, which is so important for the region: The exit from the internal combustion engine will cost many jobs. The cost of transition, both socially and economically, could be quite high in East Central Europe “, warns Grieveson.
In addition, there is a high level of dependency on foreign direct investment and exports. On average, the inflow of foreign direct investments into the EU member states of Eastern Central Europe amounted to 2.6% per year of GDP from 2010 to 2019. In the Czech Republic, Hungary, Poland, Romania and Slovakia, around 30% of this was attributable to the manufacturing industry. Tradable goods and services create between 20% and 30% of economic output and jobs, depending on the country. In the Czech Republic, Latvia, Romania and Slovakia, more than half of the total value added in the manufacturing sector comes from foreign companies. “Even if some of them are likely to benefit from nearshoring activities of western corporations after Corona, foreign direct investments will no longer be the major growth driver”, says Grieveson.
Greener, more digital, more local added value
The economic model of East Central Europe must therefore be made fit for the future. Decarbonization, digitization and a shrinking workforce required massive efforts. For countries like Poland, the green transition is a major challenge. “This transition can only be achieved through enormous public investments in green technologies and digitization. That means more money for education, research and development as well as active labor market measures to cope with the transition “, said Grieveson, explaining: “The transformation in the 1990s had disastrous social consequences. We shouldn’t make this mistake again. ” The Corona reconstruction fund “NextGenerationEU” is a turning point in terms of both scope and focus. However, it will not be possible without more flexibility within the EU’s Stability and Growth Pact in order to enable more loan-financed investments by the public sector.
Since the region can no longer rely as much on foreign direct investment as it has in the past, a strategically oriented domestic industrial policy is needed in order to produce more globally competitive companies. The aim should be to create a national innovation system that brings together the private sector, universities, key ministries and social partners. This was intended to push East Central Europe into more lucrative areas of the value chain. Digital technologies need to be introduced across the board – keyword Industry 4.0. The study sees potential here in the Czech Republic, Hungary, Poland, Romania and Slovakia. In addition, many young people in the region had digital qualifications that were above the EU average.
Germany and Austria would benefit, despite intensified competition between locations
According to the authors, the successful transition of Eastern Central Europe to an innovation-driven growth model is of great importance for Germany and Austria. Taken together, the four Visegrád countries Poland, the Czech Republic, Slovakia and Hungary are roughly Germany’s most important trading partners, ahead of China, the USA and France. “A new economic model in these countries would of course also change the type of economic interdependence: For Germany and Austria it would inevitably mean more competition for company headquarters, research and development facilities or IT specialists”said Grieveson. The bottom line is that they should benefit from it.
German and Austrian companies will continue to locate a large part of their production in the EU members of Eastern Central Europe and thus generate good profits. “But the richer the region gets, the more it becomes an increasingly important source of demand for companies from Germany and Austria.”says Grieveson. After all, more than 100 million people live in East Central Europe, with incomes growing faster than in Western Europe. The wiiw study predicts that more EU stimulus funds for the region as part of “NextGenerationEU” would inevitably also have positive spillover effects for Germany and Austria. If the green and digital transformation succeeds, its importance for both countries is likely to increase further.
The study “Avoiding a Trap and Embracing the Megatrends: Proposals for a New Growth Model in EU-CEE” was commissioned and financed by the Friedrich Ebert Foundation.
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Original content by: Vienna Institute for International Economic Studies (wiiw), transmitted by news aktuell