Term Paper on "Macroeconomic Performance Since 1997 United States vs. The European Union the Transatlantic Economy"

Term Paper 20 pages (5411 words) Sources: 10 Style: MLA

[EXCERPT] . . . .

Macroeconomic Performance since 1997: United States vs. The European Union

The Transatlantic Economy)

Unemployment

Retirement Age and Associated Pension Costs

Labor Freedom of Movement

Resisting New Labor Entrants

Counter to the Trend: Healthcare Expenditure Differences

In Health Care, Europe also Has a Problem

Education: Europe better in Lower Grades, U.S. better in Colleges and Universities

Forecasting the Future: Europe and the United States

Productivity

Education

Pensions and Government Burden

Taxation

Health Care

This paper discusses the changing nature of macroeconomic performance between Europe and the United States since 1997. Although the U.S. has long exceeded Western Europe in economic and employment growth, recent trends have suggested that, at least in some European countries, unemployment is approaching low U.S. levels. Economic growth is closely related to population growth and productivity. This paper will discuss how productivity advances in both economic areas has affected growth, and how population discrepancies will exacerbate the already significant differences in economic growth between the U.S. And Europe.

Europe's changes in the past 10 years will be discussed as they pertain to the overall growth picture. There has been a great deal of discussion about a "two-speed" Europe, in which some older members of the EU may be experiencing slower growth, while some of the newer members are growing faster. Are these differences in growth due to differences in fiscal, monetary and employment policies, or to other factors, such as relative size of the economy or advantageous terms of trade?

Record of Economic Growth

The United States' real GDP growth from 1995 to 2006 has been 3.4%. This has outpaced the major European nations, in which the following growth has been seen over the past 10 years:

Country

Growth Rate (real GDP % per year)

Germany

France

Italy

United Kingdom

Euro Area

The relatively anemic growth in Germany and Italy lags the European growth rate, which has been dominated by smaller countries with better performance, including Denmark, the Netherlands and Spain.

This lower growth rate than the United States has continued since 1980. At that time, the relative difference in income between major European countries and the U.S. was relatively minor. Since then, the U.S. has pulled ahead of all European countries save several small ones, such as Norway ($64,000 per capita) and Ireland ($48,000). The U.S.' current GDP per capita compares favorably to major European countries:

Country

GDP/Head ($) 2006 (Economist)

Germany

France

Italy

United Kingdom

United States

The figures for Germany are somewhat skewed due to their assumption of Eastern Germany in 1990, which lowered overall per capita income; with the exclusion of this region, total German per capita income is roughly equal to that of France or the United Kingdom.

The comparison of income per head is even more dramatic if one takes into account how much each citizen can purchase for his/her income. This index, called PPP (purchasing power parity) estimates what is the relative purchasing power of the same equivalent currency in each country. PPP is a useful measure for living standards, as it takes into account the relative prices in different countries, including sales or VAT (value-added tax), living costs and other costs, such as gasoline and transportation.

As compared to the United States, the major countries of Europe are significantly more expensive. By adjusting the GDP per head, one arrives at a calculation of the PPP equivalent of the average GDP/person in each of the countries, as illustrated below:

Country

GDP/Head ($) 2006

PPP %*

PPP equivalent GDP/Head

Germany

France

Italy

United Kingdom

United States

Thus, in PPP terms, the U.S. income per capita is 30% higher than the next-highest European country, the UK, and 43% higher than its largest European trading partner, Germany. Put a different way, an employee in a German company needs to work 43% harder, or longer, or a combination of both in order to enjoy the same lifestyle and purchasing power as his or her U.S. counterpart.

Over time, this relative difference has increased. The following graph shows per capita GDP in four major European countries vs. The United States since 1970 (note that the previous figures are lower, due to the low incomes of Italy and Spain in the period):

Differences in income vs. U.S. (U.S.=100) (Alesina)

Causes of Income Differences between Europe and the U.S.

Unemployment

Why is there such a difference in income between the two economic areas? Some of the difference is due to unemployment differences between the two areas. Most major western European nations have dealt with high levels of chronic unemployment for the past 25 years. Although current rates are declining, only the UK has demonstrated a consistent unemployment level below seven percent (Economist). Since 1996, the average unemployment rate in Germany has averaged 9.1%, while France has averaged 10.7% and Italy 10.3%. These figures tend to underestimate the actual level of unemployment, as those who are in job-creation and -training schemes, such as Germany's ABM (Arbeitsbeschaffungsmassnahme) are not counted in official unemployment statistics. Counting those programs, the actual unemployment rate may be closer to 15% for these countries (BLS).

Added to this is the relatively low number of people of working age in the workforce. Unemployment is a measure of how many people are actively looking for a position. Western European countries have a generally low employment level, which may partially be due to the lack of employment opportunity. Schooling is generally longer in Europe, but relatively fewer European students attend or graduate from college as compared to the United States. In Germany, for example, the average college (undergraduate) student leaves the university at age 27. Only 46% of German students attend any portion of tertiary education, as compared to the U.S., where 72% attend tertiary schools; the average U.S. graduate leaves college at age 22, which means that he/she has five additional productive years in the workforce than his/her German colleague.

Many books have been written about the causes for Europe's employment issues, but some elements can be singled out in any discussion of labour disequilibria. These include:

High barriers to dismissing employees, which results in a hesitancy to hire new workers

High social costs, which range from 35 to 42% amongst major Western European countries generous social welfare system which ensures that those without employment have a relatively comfortable standard of living

Lack of mobility on the part of workers, who are unwilling to move from a region of high unemployment to a region (even within the same country) where employment may be more plentiful (Nickell)

Those who are employed in these countries find themselves in an advantageous position: with relatively low chances of losing their position, generous social welfare coverage and pension benefits, those in employment form a powerful lobby for the status quo, even at the expense of supporting a large cohort of non-working fellow citizens.

Rates of Taxation are Higher in Europe second reason for the difference in income are the high rates of taxation in Europe as compared to the U.S. These tax differences can be seen on three levels: value-added tax (VAT) in Europe vs. sales taxes in the U.S., high benefits charges in Europe (between 35 and 42% of average salaries in Europe vs. The United States' 22%, including healthcare costs), and higher income taxes. The result, in economic terms, is that the average European worker receives less of his Euro than the U.S. worker his dollar for every incremental addition of hours and/or productivity.

Microeconomic theory indicates that as income per unit of production increases, individuals will work harder, but each incremental unit of income is worth less than the previous increment. Put another way, the value of leisure time increases. Taxes have the effect of depressing incremental income relative to those who have a lower incremental tax rate. That is, if one takes away a greater increment, one will work fewer additional hours. The relative hours worked between Europe and America has diverged since 1970. Per capita hours worked dropped in most OECD countries, and by over 20% in France. U.S. hours worked, however, increased by 20% from 1970 to 2002. The average hours worked per week has remained steady in the U.S. since 1980, while it has fallen in Europe during that period.

Edward Prescott attributes part of this difference in hours worked to higher tax rates:

In the early 1970s, Americans allocated less time to the market than did the French. In comparisons between Americans and Germans, the story is the same. Why are there such large differences in labor supply across these countries? Why did the relative labor supplies change so much over time? (King)

Prescott fails to mention that the top incremental tax rate in 1970 in the United States was still a high 70%. This fell to 35% in 1982 under Ronald Reagan, and has remained under 40% since then. This compares to French and German rates of greater than 50%. Also, unlike the United States, the highest tax bracket starts at a relatively low rate in most European countries.

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