SINGLE EUROPEAN MARKET 2

REF: SEM 2 nov08

Introduction

• This lecture will build on the introduction to the SEM ( or the internal market), and consider– The European airline industry – Further evaluation of the SEM programme– The growth effects of the SEM

Example: The Airline industry and the single market

• Europe’s airline industry liberalised

• Aims included: – increase competition – benefit consumers– make EU airlines more cost competitive in

global terms

• See article and questions

Pre-liberalisation• High fares• High barriers to entry• Limited number of

airlines on a route

Post-liberalisation• Lower fares available• Greater consumer choice• Easier for new airlines to

compete on a route• Airlines (Ryanair, Ireland)

can now fly from one foreign country (UK) to another foreign country (France)

• Development of low cost carriers

European LCC routes 2000

European LCC routes 2006

Source: CAA Airport Statistics

Further evaluation of the SEM programme

• Employment & inflexible EU labour markets

• Market concentration & price convergence

• Is the EU more innovative?

• Is the EU more efficient?

– See data for EU Commission 1996, which supports Cecchini Report estimates in medium term

Mergers & takeovers (or acquisitions) Part of the restructuring process following integration

• M&A activity is high in EU.

• Most M&A is mergers within member state.– about 55% ‘domestic.’– Remaining 45% split between:

• one is non-EU firm (24%),

• one firm was located in another EU nation (15%),

• counterparty’s nationality was not identified (6%).

• Distribution of M&A quite varied:– Large States: share M&As

much lower than share of the EU GDP.

– Italy,rance,Germany 36% of the M&As, 59% GDP.

• Except UK.

– Small Staes have disproportionate high share of M&A

• Integration (relatively) largest changes in smallest states

M&A activity by nation, 1991-2002

B, 2.8%

DK, 2.6%

EL, 1.1%

E, 5.0%F, 13.5%

IRL, 1.7%

I, 6.2%

L, 0.5%NL, 6.5%

A, 2.1%

P, 1.2%

FIN, 3.9%

S, 5.3%

UK, 31.4%

D, 16.3%

Source Baldwin & Wyplosz

• UK’s share relatively large– Non harmonised takeovers rules.

• some members have very restrictive takeover practices, makes M&As very difficult.

• others, UK, very liberal rules.

– Lack of harmonisation means restructuring effects vary between member states.

• 1987-1992: M&A activity in maufacturing

• More recently most activity in service sector• See Allen (1998) & European Economy 2001

– On SEM reading list

More specific areas

• Look at the service sector• Example, see Pelkmans, ch7, Services market integration. & other

text books

• Also, Pelkmans for– ch5, Product market integration (section5.4)

– ch6, Product market integration (sec.6.6 &6.7)

– ch8, Network industries

Growth (dynamic) effects of the SEM

• We’ve seen common market theory can show us the possible effects of moving from a customs union to a common market– The SEM programme aimed to make a common

market a reality

• We’ve seen the SEM increases competition in Europe

• We now consider the growth effects of the SEM

Growth effects of the SEM• So far static allocation effects have been

considered• Baldwin (1989) argued dynamic gains may be 5

times greater than those in the Cecchini Report– Change rate at which new F of P (mainly K)

accumulated, leading to growth of output/worker

– Cecchini: liberalisation can’t permanently raise growth rates

– Baldwin: permanently raise growth rates

Basic diagram

Medium term

• Medium term growth bonus results in gains of up to 9% of GDP, compared to Cecchini’s 6.5%– Eg.Spain………………………………………

………………………………….......................

• European integration allocation effect

Notes:

raised efficiency

improved investment climate

raised investment in K

raised output per person

Long term

• Long term growth bonus can be added to this, leading to the growth rate being 0.25-0.75 percentage points higher.– Due to Technological progress (following

investment in the medium term)

Long term growth

• More difficult to determine empirically in EU• We can concentrate on medium term investment

booms associated with European integration, like after Spain joined the EU

• Some States, such as Greece, have not benefited (compared to Spain, Portugal, and Ireland) due to poor macroeconomic management, a poor investment climate, and lack of supply side reform.

Question

What opportunities and threats does the internal market pose for

(a) British firms

(b) Non-European firms?

Also, see video & questions

Conclusions

• Cecchini underestimated SEM benefits according to Baldwin

• Overall, the SEM is one of the EU’s most far reaching policies that has influenced many sectors of the economy

• The SEM had wide ranging political implications

Appendix: Theory

Medium & long term effects

• Capital (K) comprised of– Physical K– Human K– Knowledge K (technology)

• Medium term– Increased output / person stops at a new higher

level (as K / worker diminishes)

• Long term– Rate of growth (accumulation) permanently

higher– Mainly accumulation of knowledge K

(technological progress) as physical K suffers from diminishing returns

Medium term growth

• Analysis based on Solow’s growth model• Assume

– People save & invest a fixed % of income (s in diag.)– Constant % depreciation of K stock (d in diag.)– EU is a single, closed economy, with integrated K & L

markets

• Equilibrium K/L* where inflow of K = depreciation of K

• This allows us to find output/worker (Y/L*) at point B

Inflow of K (investment)s(GDP/L)

Depreciation / workerd (K/L)

K/L* K/L

Euro/L

A

Inflow of K (investment)s(GDP/L)

Depreciation / workerd (K/L)

K/L* K/L

Euro/L

A

BOutput/workerGDP/L

Y/L*

• Integration has 2 stages

• Stage 1:Integration raises efficiency, thus raises output/worker– GDP/L shifts up to GDP/L1– Y/L rises to Y/Lc at constant K/L*

Inflow of K (investment)s(GDP/L)

Depreciation / workerd (K/L)

K/L* K/L

Euro/L

A

BOutput/workerGDP/L

Y/L*

Inflow of K (investment)s(GDP/L)

Depreciation / workerd (K/L)

K/L* K/L

Euro/L

A

BOutput/workerGDP/L

Y/L*

GDP/L 1

Y/LcC

• Stage 2:– As GDP/L shifts up to GDP/L1, this leads to the inflow

of K (investment) curve shifting up, s(GDP/L) to s(GDP/L)1

– New equilibrium at point D, giving K/L1– Output/ worker rises ( Y/Lc to Y/L1) as we move from

point C to E (could take 10 years)• C to E shows up as faster than normal growth, before growth

returns to normal• Medium term growth bonus –reflects improved efficiency

stimulates I

Inflow of K (investment)s(GDP/L)

Depreciation / workerd (K/L)

K/L* K/L

Euro/L

A

BOutput/workerGDP/L

Y/L*

GDP/L 1

Y/Lc C

s(GDP/L)1D

EY/L1

K/L1

Depreciation / workerd (K/L)

K/L* K/L

Euro/L

A

BY/L*

GDP/L 1

Y/Lc C

s(GDP/L)1D

EY/L1

K/L1

Allocation effect

Medium term growth bonus

Induced K formation, resulting from integration

Long term growth

• More difficult to determine empirically in EU• We concentrate on medium term investment

booms associated with European integration, like after Spain joined the EU