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22nd Feb 2024

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Is EU industrial policy hurting the internal market?

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For decades, the EU implemented a horizontal approach to industrial policy, relying on competition and state aid rules and in principle, not bringing any privilege or advantage to specific sectors or companies and promoting overall economic efficiency and consumer welfare.

Yet, the increasing geopolitical fragmentation, lack of respect to World Trade Organization rules and economic weaponisation of state aid by other major jurisdictions, such as the US and China, has significantly altered EU's approach to industrial policies, which are of a growing vertical nature.

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  • The EU's efforts in industrial policies all have something in common: a lack of substantial and mutualised budget to take forward their ambitious targets

Vertical industrial policies consist of direct support to key industries and tailored state aid and subsidies to specific sectors, with the aim of strengthening their position in global markets.

The debate about the need to switch the orientation of industrial policies has also been spurred by the European Commission's decision in 2019 to block the merger of Alstom and Siemens, leading some member states to advocate for the subordination of competition policies to industrial objectives.

Moreover, in academia, there is a growing number of voices, such as Mariana Mazzucato or Dani Rodrik, advocating for an active role of the state in industrial policy.

But is this new EU approach to industrial policy hurting the EU internal market? As I will argue, it indeed is.

Let's take the US as an example. While the Inflation Reduction Act (IRA) was historical good news in terms of commitment by the US to the green transition ($369bn [€344bn] in incentives for energy and climate-related programmes), its highly-protectionist bias was a clear threat to free trade.

Indeed, the IRA, together with the Chips and Science Act, introduce an un-level playing field in favour of companies based in the US, creating incentives for foreign companies to relocate to the US. This is particularly the case in the EU: while Mexican and Canadian companies qualify for exemptions to benefit from US incentives, European companies generally do not, as there is no free trade agreement between the US and the EU.

What has been the reaction of the EU vis-à-vis the protectionist measures of other jurisdictions?

A relaxation of state aid rules. A case in point is the latest version of the Temporary Crisis and Transition Framework (TCTF), adopted in March 2023, that allows EU member states to support investments in the manufacturing of relevant equipment for the transition towards a net-zero economy to avoid that an investment would be located outside the European Economic Area.

Moreover, member states may even grant aid matching foreign subsidies to support those investments.

These anti-relocation provisions of the TCTF have already been put in practice: in January 2024, the European Commission approved the granting of €902m of state aid by Germany to support Northvolt in the construction of a plant for the production of batteries for electric vehicles to foster the transition towards a net-zero economy.

When notifying the state aid, Germany made it clear that without the aid, Northvolt would establish the plant in the US, where support was offered in particular under the IRA.

German coincidence?

Is it a mere coincidence that Germany, one of the EU's member states with higher fiscal capacity, has benefitted from this relaxation of state aid rules? Of course, this was intended as a retorical question, but just let me provide a few supporting evidence: under the previous Temporary Framework, Germany and France accounted for almost 80 percent of total state aid granted in the EU.

EU's efforts in industrial policies do not end up here: the EU Chips Act, the Critical Raw Materials Act and the Net Zero Industry Act are also worth mentioning.

And they all have something in common: a lack of substantial and mutualised budget to take forward their ambitious targets.

For instance, while the EU Chips Act appears to be the European response to the US Chips Act, the truth is that their budgets are way different: up to €42bn billion of public and private investments against $54bn of only public investments, respectively.

Moreover, the design of semiconductor policies lies with individual member states, creating overlaps, coordination problems and the risk for the EU as a block not to be able to double its production share of chips from 10 percent to 20 percent by 2030.

Replacing horizontal by vertical industrial policies is probably the way forward for the EU given the current geopolitical stance.

Nevertheless, it is important that the public sector is aware of its information limitations when implementing any vertical policy and that sufficient safeguards are in place to avoid that the private sector captures public authorities.

There are clear cases of successful vertical policies, such us in South Korea, but also blatant failures, as in some Latin American countries.

Moreover, vertical industrial policies should not be conducted to the detriment of EU's internal market, one of the elements that has brought more prosperity to EU citizens. Vertical industrial policies are not always at odds with competition policy. Airbus is a clear example of this, having been the result of a vertical industrial policy that fostered greater competition in the sector of high capacity aircrafts.

In the current circumstances, any relaxation of aid rules should be done back-to-back with a mutualised budget, especially in the context of the deactivation of the general escape clause of EU's fiscal rules.

Some may argue that vast amounts of Next Generation EU (NGEU) funds are enough for member states with a lower fiscal capacity to take forward any needed investments. But it must be recalled that NGEU was conceived as a recovery plan for the member states most affected by the pandemic and that the use of funds is tied to the fulfilment of milestones and targets that do not necessarily reflect the current geopolitical circumstances.

A possible way forward could be to re-channel unused NGEU funds (which will probably amount to several dozen billions), on top of other joint investment programmes such as a possible European defence investment programme.

Coordination among member states under the auspices of the European Commission is also a must. If the EU wants to become a geopolitical actor, it needs to behave like one and for this, coordination is needed.

And finally, transparency and ex-post evaluation of enacted policies are also needed to further fine-tune coming policies and create a sense of accountability to European citizens.

Author bio

Judith Arnal is a Spanish economist with the Real Instituto Elcano think-tank and the Centre for European Policy Studies.

Disclaimer

The views expressed in this opinion piece are the author's, not those of EUobserver.

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