The political economy of structural reforms:

Lessons from Europe

André Sapir

University Professor, Université Libre de Bruxelles, and Senior Fellow, Bruegel

Presentation prepared for the Seminar on Small Middle-Income Countries—Raising the Bar
Organized by the National Bank of Botswana and the International Monetary Fund
Gaborone, 29 January 2016
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The EU as a laboratory

 With 28 members, lots of diversity in performance

» Growth trajectories, GDP per capita

 From accession members share important product market policies

which have fostered crucial structural reforms and convergence
» Single market: free trade inside the EU
» Trade policy: liberal trade with countries outside the EU
» Competition policy: antitrust and state aid control

 But members have significant diversity in other relevant structural

policy areas which explains their diversity in performance
» Regulatory and governance quality
» Labour market and social policies
 3

From 6 to 28 members, with increasing heterogeneity

 4

Convergence in the 11 Central and Eastern European

Countries who joined the EU in/after 2004
(GDP per capita at PPP, EU15 =100)
90
Start of
80 negotiations

70

60

50

40

30

20
1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

Bulgaria Czech Republic Estonia Croatia

Latvia Lithuania Hungary Poland
Romania Slovenia Slovakia

Simple average for the 11 countries

40 41 49 64
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But the EU15/US gap is not closing – Large countries

(GDP per capita at PPP, US =100)

100

90

80

70

60

50

78 ITALY 71 63
40
1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

Germany Spain France Italy United Kingdom

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Escaping the middle income trap

GDP per capita growth trajectories, 1950-2010
(selected EU countries)
Escaped
by 2015
70

60

50

40

30

20

10

0
k s y y l ry
ar m en nd ce an m l ria nd ce ai
n
an
d
ga nd ia
do ed an iu Ita st nl
a ee Sp l rtu la ng
a an
nm ng rla r
er
m el
g u Fi Gr Ire Po m
De Ki Sw he
F
G B A Po Hu
Ro
d et
nit e N
U

Data source: Felipe (2012) L LM UM H EU accession

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Despite convergence, GDP per capita still varies a lot

(EU28, excl. Lux, PPP$, 2010)

50,000.00

40,000.00

30,000.00

20,000.00

10,000.00

0.00
nd
s d ria den ar
k m y d e
om l y us in ce ta ia lic al l ic ry ia nd ia a ia ia ia
l an st iu man nlan ranc Ita pr pa ree Mal en pub rtug pub ga on ola an roati Latv an l g a r
rla Ire u w
e nm l g r i F gd Cy S ov n
Es
t P u m
he A S De B e e F i n G Sl Re Po e Hu Lit
h C
Ro Bu
et G d
K
ch a kR
N i te e ov
Un Cz Sl

EU-28
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GDP per capita strongly correlates with regulatory quality

EU28 (excl. Lux)

GDP per capita, 2010

50,000.00

40,000.00
IT
f(x) = 17490.2582550407 x + 9460.84669543289
R² = 0.591438519201446

Correlation
30,000.00 coefficient
EL = 0.77

20,000.00
EE

10,000.00

0.00 Regulatory quality, 2010

0.4 0.6 0.8 1 1.2 1.4 1.6 1.8 2
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Same result with WB governance indicator

EU27 plus neighbours

Governance and income convergence

140
=100, 2013

120

100
-1 5EU
G D P p er cap ita, P P S,

80

60

40

20

0
-1.5 -1.0 -0.5 0.0 0.5 1.0 1.5 2.0
Governance score, 2013
Enlargement countries NMS EU-15 East South
Source: Eurostat, WB

Source: ECFIN presentation on convergence

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Reform process: EU and national levels

 EU level reform process worked very well before EU entry and

delivered strong results in terms of convergence after EU entry

untry specific EU recommendations (similarOVERVIEW TABLE OF 2015 CSR

Ultimately the EU level reform process can only act as a facilitator

olitically painful reforms must be undertaken by national policymakers

accountable to their national public opinio
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Reform and convergence in Europe’s transition countries

Pre- and post-entry effects

Source: IMF presentation on 25 years of transition

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Reform process: EU and national levels

U level reform process worked very well before EU entry

 EU level reform process has been more difficult otherwise

» League tables and peer pressure are helpful, but…
» EU Country specific recommendations (similar to OECD’s Going for
Growth and IMF’s Article IV recommendations) also helpful, but…
» Typically more effective in small than in large countries, and in more
than less open economies
» SEE OVERVIEW TABLE OF 2015 CSR
Ultimately the EU level reform process can only act as a facilitator

olitically painful reforms must be undertaken by national policymakers

accountable to their national public opinions
 13

Overview of 2015 country specific recommendations

21 18 14 10 11 6 21 8 11 13 5 13 6 19
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Reform process: EU and national levels

EU level reform process worked very well before EU entry

EU level reform process has not worked very well otherwise

League tables and peer pressure are helpful, but…
Country specific EU recommendations (similar to OECD’s Going for
Growth and IMF’s Article IV recommendations) also helpful, but…
Typically more effective in small than large EU countries, and in more
than less open economies

 Ultimately the EU level reform process can only act as a facilitator

 Responsibility for politically painful reforms rests with national

policymakers accountable to their national public opinions
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How to make reform happen - OECD’s Going for Growth

 Government leadership and cohesion, based on a strong

democratic mandate

 Policy design backed by solid research and analysis, and effective

communication by government

 Successful structural reforms take time and require persistence

Source: OECD (2015b)

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Bold reforms also require a sense of national urgency

that the status quo is not viable
 EU accession acted as a successful anchor for needed reforms
» Southern accession: Greece, Portugal, Spain in the 1980s
» Eastern accession: 11 CEECs since 2004

 In other situations, reform followed crises, e.g.

» NL’s 1980s “Polder Model” reforms to deal with “Dutch disease”
» IE’s late 1980s “Tallaght Strategy” to deal with deep crisis
» SE’s mid-1990s reforms during a severe financial and fiscal crisis
» DE’s 2003-5 Hartz reforms to deal with high unemployment
» FR: no bold reform so far…

 Sovereign debt crises have led to important reforms, e.g.

» Greece, Ireland, Italy, Portugal, Spain
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Labour market reforms are politically the most difficult

But they are key in EU15: Going for Growth priorities
(In percent of the total number of policy priorities of the geographic area, 2015)

Source: OECD (2015a)

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Big diversity of labour market & social models, 2004

EU15

• Persons at risk of poverty is after social transfers

• EU is the simple average of EU15 countries
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Big diversity of labour market & social models, 2004

EU15

EQUITABLE EQUITABLE
NOT EFFICIENT EFFICIENT

NOT EQUITABLE NOT EQUITABLE

NOT EFFICIENT EFFICIENT

• Persons at risk of poverty is after social transfers

• EU is the simple average of EU15 countries
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EU countries need to modernize their LM&S models

 To deal with the “Great Transformation”

» Globalization of activity – shift from advanced to emerging economies

» Technological change – digitization
» Ageing of the population

 Flexibility is key, but security is also very important

 Social models should be seen as comprising two components:

» Employment and social policy

» Education/training policy
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Lots of labour reforms, especially in crisis countries

2000-07 and 2008-13

Source: European Commission, LABREF database

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Some changes in LM&S, 2014 vs. 2004

EU15

95

NED

90 FIN
DEN
FRA
85 AUS
BEL SWE

LUX UK GER
80
ITA
POR
75
SPA

GRE
70
45 50 55 60 65 70 75 80

• The Nordics are still Nordics

• The Meds are still Meds BUT…
• Changes of category: 2/4 Continentals; 3/3 Anglo-Saxons (IRE n.a.)
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Some final remarks

 The EU can only act as a facilitator, but in some dimensions (Single

Market) and some instances (accession) it can be crucial

 “Reform is ultimately a domestic political business where trade offs

are being made between economic efficiency, social goals and the
way power and income are distributed in a society” (Fatas, 2015)

 Timing and design of reforms are key

» Reform fatigue sets in fast, esp. if communication/leadership weak
» Although macroeconomic crises may/often trigger reform (see
Agnello et al., 2015) the right macroeconomic policies are important
to ensure that reforms succeed
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Readings

 Agnello, Luca, Vitor Castro, João Tovar Jalles and Ricardo M. Sousa (2015). “What
determines the likelihood of structural reforms?”, European Journal of Political
Economy, Vol. 37, 129–145.

 Fatas, Antonio (2015). “The agenda for structural reform in Europe”, CEPR Discussion
Paper No. 10723. London: CEPR.

 Felipe, Jesus (2012). “Tracking the Middle-Income Trap: What is It, Who is in It, and
Why?” ADB Economics Working Paper No. 306, Asian Development Bank

 OECD (2015a). “Structural reforms in Europe: achievements and homework”, Better

Policies Series. Paris: OECD.

 OECD (2015b). Economic policy reforms 2015: going for growth. Paris: OECD.