Policy Brief - What Investment Gap? Quality Instead of Quantity

Executive Summary

A popular thesis in policy circles is that there is an “investment gap” that Europe needs to fill to face the great challenges of our times, such as the digital and green transitions. However, the notion of the “investment gap” used by policymakers is often vague and therefore it risks legitimate a wasteful allocation of public resources.

This policy brief examines investment data from different sources at varying levels of aggregation and reaches three main conclusions. First, as a portion of GDP, investment is higher in the EU than in the US. This is true for aggregate investment, as well as for three of its four components: dwellings, buildings & structures, and industrial machinery. The only category where the EU lags behind the US is in intangibles, mostly R&D and software development.

Second, this holds as well when focusing on investment levels in the business sector. Firms headquartered in the EU and in the US spend about the same on tangible capital. However, EU firms spend only 1/3 as much on R&D relative to firms in the US.

Third, the “R&D gap” is due to the high-tech industry in the EU being small compared to the US. The EU corporate sector specializes in mid-tech industries, such as automotive, with a lower propensity to invest in R&D.

Public guarantee programs like the 2014 Juncker Plan, or more recently InvestEU, finance mostly large tangible investments of the sort Europe already does abundantly. Instead, more support for intangible investment is what Europe needs to compete strategically with other geopolitical blocks.

If the objective of EU policymakers is technological leadership in digital and clean technology, then it should find ways to boost private R&D spending, which is much lower in the EU than in the US. This cannot simply be done by spending more on publicly-funded R&D, which is similar on both sides of the Atlantic.

What the EU needs is structural change, i.e. the development of high-tech industries. To do so, policymakers should create incentives for companies to invest in high-risk, high-reward projects outside of their current areas of specialization. There are a number of concrete, well-known areas for improvement in fiscal, corporate, labor law, and the education system. The creation of a capital markets union and structural reform would be much more effective in boosting innovation and long-run growth in the EU than spending on infrastructure.

IEP@BU does not express opinions of its own. The opinions expressed in this publication are those of the authors. Any errors or omissions are the responsibility of the authors.

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