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The Competitiveness of European Countries

December 3, 2010

While much has been written about the mechanics of the financial crisis in Europe and the importance of exchange rates (and the ability to devalue a currency), the New York Times had an article today that examines the underlying causes of the bailout.  The basic argument is that since all of the countries now use the same currency and thus have the same monetary policy, that tool can no longer be used to compensate for a country’s lack of competitiveness, compared both to the other Eurozone members and the broader global economy.  During the happy times of the 2000s, the large range of competiveness was hidden by the booming economies, but exasperated by the global slowdown.

To demonstrate the broad range of competitiveness in the European Union, the New York Times created the above graph which compares some of the EU’s more competitive economies with the notorious PIGS (Portugal, Ireland, Greece, and Spain; Italy is absent despite often being lumped into this group).  This chart shows a nice correlation between a country’s rank on the World Economic Forum’s Global Competitiveness Index 2010-2011.   However, the picture is a little more complicated than that.  As the below graph shows, when looking at a country’s overall competitiveness ranking, Ireland is actually eighth out of the 17 members of the EU (I have opted to include Estonia since it will be adopting the euro in January and has had its currency pegged to the euro since the euro’s inception).

It is true that Greece’s economy is very uncompetitive.  In fact at 83rd place, it was the lowest scoring of the 27 EU members, and if we broadened Europe to include the three members of the European Free Trade Area and the three candidate countries, Greece would still be last out of the 33 countries.  However, Ireland remains the most competitive of the PIIGS, ranking 29th while the second highest PIIG, Portugal ranked 46th.

In order to get a broader sense of an economy’s competitiveness, I also included the rankings from the World Bank’s Doing Business 2011 report.  Doing Business has a different methodology, since it focuses more on the ease of creating businesses, paying taxes, getting credit, trading across borders, etc.  Using this matrix, the Irish outlier becomes even clearer.  Ireland was ranked 9th in the world, placing it first in the Eurozone and third in the EU behind Denmark and the UK.  Greece on the other hand finds itself being ranked 109 out of 183 (the penultimate ranking goes to Italy at 80).  As a result, while it is definitely true that competitiveness is an underlying problem for the euro, Ireland’s bailout is a special case based on its banking system (see “A Tale of Two Bailouts”).

Finally, since all EU members but Denmark, Sweden, and the UK will eventually have to join the euro, above is the data for their competitiveness (on the same scale as the Eurozone).  The bad news is that many of these post-Communist countries are less competitive than many of their western neighbors.  However, a “silver lining” might be that the Eurozone has already been forced to deal with the EU’s least competitive economy—Greece.

****As an update to this post, The Economist ran a story on March 17, 2011 that provides some examples of the difficulty of opening a business, using the Doing Business rankings.

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