Moreover, the attempt to examine and illustrate these relationships on the basis of the performance and the available empirical evidence for the European economy – in comparison with that of the US but also with the benefit of the different practices and experiences in European countries – did require some time for exposition; but, I believe, it has provided us with some useful conclusions of policy relevance. Let me end on an optimistic note. The European economy is currently experiencing robust economic growth which is expected to continue, benefiting from the ongoing strength of global economic activity, despite the slowdown of the US economy, but primarily relying on internal sources of growth, with domestic demand projected to expand at a solid pace. There are, of course, uncertainties and several risks surrounding this central and likely scenario. But, at the same time, there are encouraging signs that the supply-side of the European economy is responding positively to the reforms in markets and institutions implemented over the past few years. Productivity growth is picking up, employment is rising and the unemployment rate is projected to further decline. If future developments and further analysis confirm the indications of supply-side improvements, we can look forward to a gradual increase in the European economy’s potential for higher sustainable growth.
In fact, it has been estimated that one half of the dramatic increase in European unemployment from the golden days of full employment in the 1960s to the high and persistent unemployment levels of the mid-1990s can be explained by institutional factors (Nickell et al., 2002). Which “institutions” are particularly relevant? Let me mention three of them: first and foremost, employment protection legislation. Second, tax-benefit-systems, which determine the so-called tax wedge between workers’ gross and net incomes, the transfers to the unemployed, and the tax burden on the employed. Third, wage bargaining structures and procedures and the role of trade unions. Let us consider employment protection legislation. Workers can be protected against unemployment in various ways: either by strict regulations against layoffs, or through unemployment benefits, or a combination of both. The two are interrelated: in theory, employment protection legislation need not be very restrictive if an unemployed worker can rely on generous benefits, and vice versa. What does the empirical evidence tell us? Generous protection of “insiders”, i.e. those who have a job, seems to have a negative impact on overall employment, since it affects the probability of employment of the “outsiders”, especially women, the young and the long-term unemployed.3 The validity of this proposition is illustrated in Chart 6 on the basis of the evidence from European countries. The lower job turnover and hiring also increases both the duration of unemployment and the proportion of long-term unemployed.