Economic might is the fuel of geopolitical influence – but the European Union’s tank is running low. Productivity growth and demographics are two determinants of long-term growth, but the bloc is performing poorly on both counts. Since 2015, the EU’s annual productivity growth has idled at just 0.7% – less than half the US rate and nine times lower than China’s. At the same time, Europe’s workforce looks set to shrink by 2 million people annually by 2040.39 Meanwhile, the EU’s long-term economic outlook is bleak: its share of global GDP , now at 17% (at current prices), could nearly halve by 2050.40 This economic backsliding not only threatens Europe’s ability to fund its social model, it also risks weighing on the bloc’s global influence, leaving it even more dependent on the US and China. As António Vitorino stressed earlier in this report, the EU faces significant hurdles to improve its demographic prospects. Short of overcoming these, the bloc’s long-term economic outlook will depend on its ability to boost productivity, of which financing for innovation is a key determinant.41 Policies aimed at boosting R&D and the growth of start-ups working on frontier technologies are critical not just to boosting the prospects of the EU’s technology sector, as Eva Maydell has outlined, but also to firing-up the bloc’s economic growth. By reducing Europe’s economic dependencies on the US and China and fuelling its global geopolitical relevance, innovation financing can help lift the EU out of its economic doldrums and enable the bloc to make progress towards achieving greater strategic interdependence. However, focusing on innovation financing alone will not be enough. Europe must also invest in building strong trade alliances, in particular with developing economies that hold vast reserves of resources critical for the global energy transition. Money, money, money Mario Draghi’s report into EU competitiveness argues that the bloc needs to invest massively if it wants to avoid falling behind the US and Chinese economies.42 This conclusion may be true overall, but the causes of Europe’s financing woes vary depending on whether one looks at public or private innovation spending. Take public innovation spending first. At 0.74% of GDP in 2022, EU public spending on R&D is already higher than in the US (0.62% of GDP).43,44 This suggests that instead of spending more, European countries need to spend differently – in a less fragmented fashion. Member states account for 93% of European public innovation spending, but there is no EU-wide coordination mechanism to pick priority sectors for innovation financing.45 As a result, member states shower many different projects with small amounts of money instead of going big at the EU level on a few frontier sectors. The problem with this non-strategy is obvious: it hinders the emergence of EU champions in sectors that will be critical to tomorrow’s economic success, such as AI or quantum computing. The picture for private innovation spending is even bleaker. Data shows that European firms invest far less than their American counterparts: private R&D expenses represent about 1.2% of EU GDP , around half the US share.46 Such anaemic spending affects nascent and well-established companies alike. European start-ups often struggle to attract capital – since 2013, they have received only $130 billion in venture capital financing, around nine times less than their American competitors.47 The underdevelopment of Europe’s venture capital market is a serious issue for start-ups, as it means they have few options except turning to banks. Even then, Europe’s financial institutions are reluctant to extend loans to initially risky and unprofitable businesses. In turn, start-ups in the EU often feel they need to move to the US to scale-up their projects. Nearly a third of the 147 unicorns (start-ups whose value exceeds $1 billion) to emerge in the EU since 2008 have relocated to American soil.48 This fuels a virtuous cycle in the US: the concentration of flourishing entrepreneurs supports the emergence of tech clusters that further cement America’s domination of the global technology landscape. Meanwhile, well-established EU firms struggle with a different issue: they have missed the boat for the transition towards a high-tech economy. In the US, high-tech sectors such as software, computer services and biotech capture 85% of R&D expenses. Meanwhile, the bulk of European R&D spending is focused on mid-tech industries (mostly the automotive sector), missing out on sectors that will prove critical to tomorrow’s economy.49 Europe will not likely manage to reverse its economic backsliding, but it can slow down its relative economic decline vis à vis the US and China and foster the emergence of start-ups in a bid to control access to some technologies. To achieve these goals, two priorities stand out: boosting the finance for European entrepreneurs and going all-in at the EU level in a few frontier sectors. Increasing the finance available for EU start-ups should be the first step. This is not a money problem: each year, the EU posts a current account surplus of roughly 2.5% GDP .50 This means the bloc has an excess of savings that it invests abroad – often, ironically, in the US. The problem is that the EU does not have the financial frameworks to utilize these excess savings. To tackle this issue, the EU should consider boosting the amount of financing available to European venture capital funds. Two untapped pools of money stand out: insurance assets and pension funds. Insurance assets are the lowest- hanging fruit. The EU’s current review of the Since 2015, the EU’s annual productivity growth has idled at 0.7% – nine times lower than China’s. Europe’s workforce looks set to shrink by 2 million people annually by 2040 and its share of global GDP , currently 17%, could nearly halve by 2050. Start-ups in the EU often feel they need to move to the US to scale- up their projects. Nearly a third of the 147 unicorns to emerge in the EU since 2008 have relocated to American soil. Open but Secure: Europe’s Path to Strategic Interdependence 21

Open but Secure Europe%E2%80%99s Path to Strategic Interdependence 2025