Business innovation helped us out of the Pandemic and will be key to addressing the new challenges we face

James Watson, Economics Director, BusinessEurope

Just as Europe was returning to a new post-covid normality, Russia's illegal invasion of Ukraine, as well as bringing tragedy and hardship to millions of families, brings new challenges to the EU economy. If we are to increase our energy security, protect businesses, workers and consumers most impacted by Russian sanctions, and at the same move forward on existing challenges, we will need to build on the lessons learned from the pandemic.

When the covid crisis struck two years ago, EU governments acted swiftly to avoid long-term scarring to our economy by protecting against unnecessary bankruptcies and job losses, most notably?through generous short-term working schemes. With EU unemployment already back below its pre-crisis level, and company bankruptcies remaining around a third lower than long-term levels through the pandemic, it is clear that such bold policy making has paid dividends.?

But as?BusinessEurope's 2022 Reform Barometer, released this week shows, the pandemic has coincided with a surge in global innovation and entrepreneurship that few would have dared to anticipate. The last two years have seen the emergence of more new??“unicorns” (young companies with a valuation of more than $1 billion),?than in the five years between 2015 and 2019, funded by a more than doubling of global venture capital funding.?

The ability of long-standing companies to adapt their business models in light of the pandemic, including to deliver life-saving drugs and equipment, and to adopt on-line operations, has been similarly impressive. According to the EU's Industrial R&D Investment Scoreboard, the 2500 highest R&D (research and development) investing companies globally, rather than cutting R&D as the pandemic hit, actually increased investment by 6%, with registration of both patents and trade-marks also rising.

In each of these areas our report shows the EU has moved forward, but needs to do more to avoid losing ground to other regions. For example,??just over 500 unicorns emerged in the EU during the pandemic compared to over 1500 in Asia and over 2000 in the USA.

The pandemic had a greater impact on economic output in the EU than in the USA and China, and this will clearly also be the case for the Russia-Ukraine war. So we need to step up our policy response to challenges which have been exacerbated by recent tragic events.

Successive shocks show the?importance of building a more resilient European economy, particularly with regard to energy supply, with 40% of EU gas imports currently coming from Russia.??The European Union must urgently develop and implement a coordinated plan to decrease Europe’s energy dependency, diversify supply sources and better exploit its own energy resources, including through a strengthened internal energy market and?accelerated deployment of renewable energy and energy efficiency projects.?

Public finances, already weakened following covid, will face further pressures.?We will see?increased defence expenditure, and not only in?Germany, which has already committed to increasing defence expenditure from 1.4% of GDP to 2.0% of GDP.?There will also be?substantial costs to absorbing?and integrating refugees,?both a moral imperative, and a positive response to the EU’s tight labour market. The think-tank Bruegel?suggests that total discretionary spending, including addressing rising energy price and security issues, could represent €175 billion or about 1.25% of GDP in 2022 with long-term pressures of around 0.5%.?

Macroeconomic policy makers will be walking a tightrope in the coming months. The European Central Bank, having already raised its 2022 inflation forecast from 3.2% to 5.1% following the Russian invasion, will need to be vigilant to rising inflation expectations whilst at the same time seeking to avoid a sharp reduction in stimulus. Similarly, fiscal policy will need to properly support impacted workers and businesses, whilst at the same time help ensure Member States take action to strengthen public finances in the medium term.???

As our Reform Barometer outlines, with the EU continuing to lag other regions on key indicators such as R&D investment, fast broadband and educational performance, addressing existing challenges of the twin transitions and an ageing population requires a greater focus on competitiveness. This includes more efficient public spending, including making maximum use of the Recovery and Resilience instrument to deliver effective investment and reform, as well as developing tax systems that support investment and growth.??

The pandemic has shown that our entrepreneurial and innovate capacity is as strong as ever. But these forces will only be fully unleashed to deliver the transformational response in terms of investment and consumer behaviour the green deal, in particular, will require,?if we ensure that markets provide clear and stable price signals to investors and households alike.?Both Member States and the Commission would do well to keep prospects for investment at the very front of their thinking in the current debate around windfall taxes.?