The European Union is one of the largest, but also one of the strangest economic entities to
have ever existed. It has become a policymaker and authority acting in a way not too dissimilar
to the federal government of the USA. Economically the similarities are so close that the idea of a
European Federation or the United States of Europe has seriously been proposed before it's realized
that it kind of already exists. A collection of states that share the same currency, agree on
policy together, make trade deals collectively, have joint departments, and yet still fall back
on the independence and rights of those individual states does sound familiar. But of course there are
obvious differences which gives the European Union all of the drawbacks of a federation
with not too many of the bonuses, something that is a problem for more than just the member
countries. Those 27 member states have a collective output of almost 20 trillion US dollars, which is
surpassed only by the USA itself in raw nominal GDP. For a non-sovereign entity it's not afraid
to throw that economic weight around either. Whether intentionally or not it uses its size
as a large global producer and consumer to wield significant control over countries within and
beyond its borders, and that power presents a risk as it faces major external and internal challenges.
The largest of its member economies have seen mostly stagnant economic growth and the story
may not be much better for its smaller developing economies either. We made an entire video about a
year ago highlighting a lot of the threats and the influence they are having on the European Union as
an entity, but it's probably even more important to explore the influence that the EU has on its
constituent economies and economies around the world. So to keep things as simple as possible
for such a complex topic, what positive influences has the EU had? What are the problems it's causing
for its member states? And finally, what are the problems it's causing for the global economy?
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Unifying a collection of sovereign states with such diverse political,
cultural, and yes, economic backgrounds was always going to be a difficult challenge.
The USA, arguably the most similar economy to the collective European Union,
was formed over almost two centuries and its independent states, for the most part,
didn't have their own long-established economies to merge into the collective system.
Now of course, that was partially because any societies that did exist in these regions before
they were claimed and turned into states weren't really market economies in the western sense.
For lack of a less delicate way of putting it, the states that became the USA really were starting
from scratch. The countries that have formed the EU and have joined its ranks over the past three
decades had, and still have, extremely different economies that all realistically call for equally
diverse economic management styles. The proper economic policy to implement
when managing a large, wealthy, established, and more stagnant economy like Germany,
France, or Italy should be very different from the policies used to manage a small,
rapidly developing economy like Romania or Slovenia.
Yes, the countries still maintain a lot of domestic independence,
but collectively decisions like monetary policy and trade restrictions are done by the EU,
and striking a compromise between countries that have highly competitive exports and those
that need protections is always going to be exactly that, a compromise.
A country like Germany has highly advanced industries and extremely valuating products
that it could use to negotiate favourable trade deals for itself, whereas a smaller country like
Romania, which is still developing and producing commodity outputs, would probably really struggle
if it had to genuinely compete in the global market for its exports. Extremely basic manufactured
items like insulated wire and commodity crops like wheat and corn are basically completely
fungible, which is just a fancy economics word for interchangeable.
It might be possible to tell apart a German-made car or aircraft from one made in another country
based off quality, but copper wires and corn from Romania are effectively going to be identical to
the same products from any other country, and without proper trade agreements global consumers
are going to buy it from the cheapest source available to them.
Given these different objectives it's very hard to create a trade deal that's going to work for
all of the countries in the EU as well as it could for the most dominant economies individually.
The same problem happens with monetary policy. Interest rates across the EU are different for
different countries, but the overnight rate or the cash rate set by the European central bank
is the same for all of Europe. So why is that?
Well, each of the individual governments have their own risk profile. A country like Germany
is far less likely to default on their loans than a country like Greece, so Greece has to offer
investors higher returns on their bonds if they want to raise money to compensate them for the
risk that that country will default on its debts. Again.
A central bank is supposed to account for this while also managing inflation,
which in the EU varies wildly from country to country thanks to different market conditions,
different tax systems, and even different cultures.
What this all means is that, again, any policy is going to be a compromise between what this
rather diverse group of nations really needs. This has already been a problem with the Greek
financial crisis being amplified by the high value of the euro. Normally when a country faces
significant financial strain like this, the value of its currency drops, which means it becomes
cheaper to buy the country's exports, which helps it to receive more income to service their debt.
When a whole group of countries are using the same currency, that doesn't happen,
or at least it doesn't happen as significantly.
Now, the really interesting lesson here, and something that's important to recognise,
is that the same thing happens to all economies. The EU probably isn't even the most extreme example
of things like monetary policy and trade deals needing to compromise for regional differences.
The difference between the most and least productive states in the USA, for example,
is now around the same as the difference between the most and least productive countries in the EU
on a per capita basis, especially when outliers like Luxembourg and Washington DC are removed.
And yes, of course DC isn't a state, but it's still an economic entity not too
dissimilar from a lot of micro-economies within Europe.
Minutiae aside, the poorest countries in the EU are actually on average catching up to the richest
by GDP per capita metrics, where the opposite is happening in a place like the USA. The richest US
states are pulling even further ahead of the poorest states by worker output, and that's in
part at least because these regions have even less flexibility around their economic policy,
and more restrictions on how industry moves around the economy.
But they are still subject to decisions made at the federal level.
Even within unitary countries that don't have individual states,
policies that are good for advanced industries and city centres,
might not be good for manufacturers in regional settings, or farmers in rural areas.
The difference is though, that single national economies, even large federations like the USA
which gives a lot of independence to its member states, can still take federal tax money and
redistribute it to poorer regions, either directly through transfers, or indirectly through subsidies
and contracts.
While we were researching this video, another economics-focused channel,
Poser, Hooser, whatever, Stick Animal Enthusiast Man,
released a great video about why regional subsidies to farmers are so common.
Of course we don't want to repeat too much here,
but one of the big points was that these payments are not necessarily economically efficient,
but they are made anyway because it stops regional inequality between
cities and rural areas getting too out of whack.
Similarly to regional output, inflation is different in different areas of all economies
as well. The inflation rate in a major city centre like New York, Tokyo, or Sydney would
be different at any given time to the inflation rate in the rural areas of the countries those
respective cities are in. The only reason this looks like a problem with the EU specifically is
that normally a currency is specific to one country, and that country will measure its
inflation rate once collectively for the whole economy.
But since the EU has the euro, which is used by dozens of different countries with regional
differences, they all report different inflation numbers, which is really more indicative of
reality, whereas other national economies kind of naively assume that prices are going up
everywhere across the country at exactly the same rate.
So while this sounds like a positive for the EU, collecting precise economic figures
won't do it much good if it can't take precise action to control them.
Compared to the federal government of the USA, the EU has a very modest budget that's
mostly just used to keep administrative functions operating, so even if it had the authority
to use its own spending to balance for things like compromised trade deals and monetary
policy, it couldn't.
The strange divide between what economic policies get handled by the individual national economies
and what policies get handled by the EU centrally has created a system where economic management
is very difficult, especially in extreme situations like debt crises, energy restrictions
with Russia, and Brexit.
This difficulty also applies to businesses within this economic region.
Theoretically, the EU with its almost completely free movement of goods, services, and personnel
within and between member countries should have made things easier for businesses to
operate and grow without the restrictions of tightly-packed national borders.
Unfortunately, there have been some major challenges to this assumption.
The EU has added an extra layer of regulations that businesses have to adhere to on top of
their own national regulations.
This is one area where they do not take a light hand.
Regulations around technology especially has meant that even international companies have
had to make big changes so they can continue to operate in one of the most lucrative consumer
markets in the world.
Now the regulations themselves, at least the ones that make headlines, are mostly pretty
pro-consumer and pro-worker.
Things like demanding that smartphones all use the same charging port reduce the barriers
to competition in that space.
The reason that Apple begrudgingly got rid of their objectively inferior proprietary
connector is because the EU said they had to or else they wouldn't be allowed to sell
their phones there, a law that the rest of the world has also benefited from.
But while these laws may be a net positive for the world, it makes it very hard for businesses
founded within the EU to compete globally against ones that don't have as many restrictions.
The European Union has fallen significantly behind the USA in developing Asian economies
and technical innovation, which means it's missing out on competing in one of the most
lucrative economic drivers in the world.
US and even Chinese tech companies have been able to spread their influence around and
generate revenues from a product that has almost zero marginal cost.
If a German manufacturing company wants to increase revenue, it needs to sell more manufactured
goods, which means it needs to employ more staff, buy more materials, and potentially
even build more factories.
If a tech company signs up a new customer, the additional resources required could be
as simple as some data entry into an electronic record, which makes these businesses far more
scalable.
The EU itself recognises its shortcoming in this industry and has used some of its limited
budget to try and make it easier to develop another Spotify.
But outside of that one example, at least for now, it's hard to think of another European
technology company that is dominant beyond the borders of the EU.
Now in the interest of fairness, it's important to recognise that there are other factors
apart from EU regulations stifling technological development in Europe.
Its diversity of languages means that it's harder to reach a critical mass of users like
it is in China or the USA, but companies have hundreds of millions of domestic customers
before they need to expand out internationally.
It also suffers from brain drain and lower investment because skilled developers and
risk-taking investors within Europe can use their talent or cash remotely in the US market,
which generally pays better.
And of course, the EU itself has in many ways made that more popular by introducing a major
world currency that makes this kind of cross-border work and investment easier.
So with all of these issues, it's easy to think that perhaps the EU was a bad idea,
but it's also important to assess it was just in the wrong place at the wrong time.
By the standards of an economy this large, the European Union is incredibly young,
only formally being created just over three decades ago, and in that time it's endured
a lot of headwinds, which have probably stopped it from living up to its full potential.
Of course, nobody can predict alternative paths, least of all economists,
but even assuming that Europe maintains systems like the European Economic Community,
a precursor to the EU, or maintained complete independence between its nations,
there are no guarantees that it would have fared better through things like the GFC,
the eurozone crisis, covid, and now the conflict on its border with Eastern Europe.
In return, the EU has given a lot of opportunities for people to live and
work more freely across the union, it's made tourism easier as visitors don't have to juggle
dozens of currencies and mountains of visa paperwork to travel around,
and it's also given the countries the euro.
The currency is a double-edged sword certainly, but having the world's second most held reserve
medium of exchange has made operations within the EU and beyond easier for most businesses,
even if they do have to account for extra regulations.
And look, the collective economy of the EU has been mostly stagnant for well over a decade now,
but so too have most other major advanced economies like Canada,
Australia, Japan, and even places like the UAE.
The USA, the logical comparison to the collective EU,
is more of an outlier in the growth it's been able to achieve over this time.
And while technology, the industry that has been primarily responsible for that
outstanding growth has a long list of advantages over more traditional industries,
it's also far more fickle.
There isn't much physically holding tech companies down, and without being overly glib,
the value that these companies truly create is much harder to qualify.
The EU has its problems, sure, but it's also been a great stabilising force within
Europe and around the world, and sometimes that's more important than headline economic
figures that only really benefit a small handful of highly skilled workers and
already wealthy capital investors.
Now, we have made an entire video recently about the UK and the challenges it is facing
as an ex-EU member, which is an important consideration in this equation.
If the economic cost to leave the EU is too high,
it doesn't really matter if it's a net positive or not,
because it's going to have its members trapped anyway.
As always, we don't want to repeat too much here,
but you should be able to click that video on your screen now.
Thanks for watching mate, bye.