TABLE OF CONTENTS

Executive Summary................................................................................................. i

Chapter 1: Smart Growth..................................................................................... 1

1..... Introduction...................................................................................................... 1

2..... The crisis suspended the reduction in regional disparities 1

Box on regional economic disparities in the world.......................................... 10

Box on Turkey................................................................................................. 11

Box on Western Balkan................................................................................... 11

3..... Central and eastern Member States maintain a strong industrial sector, but their agriculture needs to continue to modernise 12

4..... Construction and industry most hit by the crisis................... 14

5..... The crisis led to employment losses, but also some productivity gains................................................................................................................................... 17

6..... Growth in metropolitan regions more prone to booms and Busts than in rural regions.................................................................................................. 20

6.1. Capital metropolitan regions performed well until the crisis led to above average employment losses................................................................................................................ 20

6.2. GDP growth in rural regions was lower prior to the crisis, but proved more resilient during the crisis years........................................................................................................ 24

Box on Commuting and functional geographies............................................. 25

Box on new degree of urbanisation and urban-rural typology........................ 29

Box on EU-OECD city and commuting zone definition and metropolitan regions 29

7..... Start-ups rates and Entrepreneurship rely on individual initiative and the right institutional environment............................................... 31

8..... Innovation remains spatially concentrated............................ 37

8.1. R&D and the 2020 target................................................................................ 38

Box on Competitiveness and Innovation Framework Programme.................. 42

Box on Research Framework Programmes...................................................... 43

8.2. Patenting in the EU and the USA................................................................... 44

9..... Tertiary educational attainment is increasing, but large disparities persist................................................................................................................... 48

10... Gaps in the digital and transport networks are being filled, but more remains to be done........................................................................................ 52

10.1. Digital networks are spreading, but unevenly................................................. 52

Box on the digital agenda................................................................................ 53

10.2. Road network in central and eastern member states still considerably less developed 54

Box: Common transport policy contributes to cohesion and regional development, by improving accessibility........................................................................................ 58

10.3. Low speeds and low frequencies of trains in central and eastern member states limit their appeal compared to the car......................................................................................... 58

11... Trade and foreign direct investment stimulate growth in the EU-12 63

12... Regional competitiveness produces limited regional spill-overs in EU‑13................................................................................................................................... 66

13... Conclusion........................................................................................................ 69

Chapter 2: Inclusive growth........................................................................... 72

1..... Introduction.................................................................................................... 72

2..... Crisis wipes out most employment gains since 2000................... 72

2.1. Employment rates declined rapidly in the regions most affected the crisis.... 73

2.2. Unemployment highest in the EU in over a decade........................................ 76

2.3. Women have far higher unemployment rates in southern EU regions............. 79

2.4. Reduction in early-school leavers is on track................................................... 82

2.5. Lifelong learning is stagnating......................................................................... 84

2.6. Adult proficiency in literacy and numeracy needs to be increased in several EU Member States according to OECD PIAAC........................................................................... 86

3..... Poverty and exclusion increase due to the crisis.................. 87

Box: What does it mean to be ‘at-risk of poverty or social exclusion’ (AROPE)? 88

3.1. Severe material deprivation is highest in the towns, suburbs and rural areas of less developed Member States................................................................................................. 88

3.2. Very low work intensity in more developed MS is concentrated in cities...... 90

3.3. Higher urban risk of poverty in more developed MS and a higher risk in towns, suburbs and rural areas in less developed MS.............................................................................. 91

3.4. Cities in less developed Member States are close to the 2020 targets, while cities in more developed Member States lag behind.............................................................. 95

Box on Social inclusion and social protection policies.................................... 97

3.5. Quality of life in European cities varies........................................................... 97

3.6. Crime rates are higher in urban regions, border regions and tourism destinations 101

4..... movement of people within and between Member States is spurred by disparities in employment, wages and health.......................... 103

4.1. The EU is highly urbanised and is still urbanising but only slowly............... 103

4.2. Net migration is the main source of population growth in the 2000s............ 106

4.3. More foreign-born workers have joined the labour market with varying success........... 113

4.4. Life expectancy is high, but regional disparities persist................................ 116

4.5. Human development is improving in Central and Eastern Member States, but the crisis reduced it in Spain, Greece and Ireland......................................................................... 119

5..... Conclusion...................................................................................................... 121

Chapter 3: Sustainable growth................................................................... 123

1..... Introduction.................................................................................................. 123

2..... The EU needs to mitigate and adapt to Climate change...... 124

2.1. The EU needs to reduce its greenhouse gas emissions to reach the 2020 targets 126

2.2. The EU needs to increase the use of renewable energy to reach the 2020 targets 129

2.3. EU needs to adapt to more frequent and disastrous natural hazards............ 133

3..... Shifting to more sustainable transport can increase energy efficiency and improve air quality......................................................................... 135

3.1. Improving accessibility and energy efficiency.............................................. 136

3.2. Large cities provide better access to public transport.................................... 140

3.3. Congestion is high in several of the large EU cities...................................... 143

3.4. Air quality can still be improved in many places in the EU........................... 144

4..... Making cities more attractive can boost EU Resource Efficiency 147

4.1. Cities use land more efficiently..................................................................... 147

4.2. National and local policies can shape the location and land use intensity of new developments by promoting more compact cities...................................................................... 156

5..... Improving Eco-systems and reducing environmental impacts can make the EU more efficient and a better place to live.................... 157

5.1. Preserving water quality and protecting species and habitats....................... 157

5.2. The treatment of urban wastewater is necessary for ensuring high quality of water 160

5.3. Solid waste management improving but there is still a long way to go in many EU regions 163

5.4. Sound ecosystems offer many vital services................................................. 164

5.4.1. Air quality is still too low in many EU cities................................... 168

5.4.2. Floodplains can regulate water flows and improve quality efficiently 170

6..... Conclusion...................................................................................................... 173

Chapter 4: Public investment, growth and the crisis.................... 174

1..... Introduction.................................................................................................. 174

2..... the share of growth enhancing spending in public expenditure has decreased......................................................................................................... 174

2.1. The crisis pushed up government deficits...................................................... 174

2.2. Public investment supports economic growth............................................... 178

Box: The economic literature on the effect of government expenditure on growth 179

2.3. Public expenditure increased, but now come down...................................... 181

2.4. Public investment increased and then dropped............................................. 182

3..... Regional and local authorities play a key role in public expenditure and investment............................................................................................. 183

3.1. Regional and local authorities are responsible for a large share of public expenditure 183

3.2. Regional and local authorities manage the majority of public investments... 188

3.3. The crisis ended a period of sustained growth of public expenditure by regional and local authorities...................................................................................................... 189

3.4. Investing during times of crisis: direct financing and regional and local investment 192

3.5. Revenue at sub-national level relies primarily on transfers............................ 193

3.6. Public deficit and public debt of sub-national governments......................... 196

4..... Contribution of cohesion policy to public investment in the Member States................................................................................................................... 199

5..... Investment, state Aids, and EIB Loans............................................. 201

5.1. Competition policy........................................................................................ 201

5.2. European Investment Bank........................................................................... 204

6..... Conclusion...................................................................................................... 206

Chapter 5: The importance of good governance for economic and social development........................................................................................................... 207

1..... Why should the EU focus on good governance?..................... 207

2..... Doing business is easier in the North of the EU........................ 209

Box Ease of doing business varies within a country..................................... 210

Box on E-Government and public e-Tendering can improve the ease of doing business and reduce costs................................................................................................. 212

3..... Most Europeans think corruption is wide spread and a major problem 213

Box: Ways of tackling corruption.................................................................. 217

4..... Governance indicators vary between and within EU Member States 218

4.1. Some regions have a far higher (or lower) quality of government................. 219

Box How does European quality of Government index constructed?.......... 220

4.2. The authority of EU regions is growing........................................................ 222

5..... Poor Governance limits the impact of Cohesion Policy..... 226

5.1. Poor governance can slow down investment, leading to funding losses....... 226

5.2. Poor governance can reduce the leverage effect of Cohesion Policy............ 228

6..... Conclusion...................................................................................................... 230

Chapter 6: The evolution of Cohesion Policy..................................... 231

1..... Introduction.................................................................................................. 231

2..... As the funding grew, the geography became simpler.......... 232

2.1. Cohesion Policy expenditure increased as a share of GNI............................ 232

2.1.1. Cohesion Policy in the 1990s........................................................... 232

2.1.2. Cohesion Policy since 2000............................................................. 233

2.2. The geography of the policy became simpler between 1989 and 2013......... 235

Box on Macro-regional cooperation.............................................................. 240

Box on Territorial Cooperation programmes started in 1989 with INTERREG 241

2.3. Funding remains concentrated on the less developed regions....................... 242

Box: Allocations and payments..................................................................... 243

2.4. The European Structural Investment Funds and Cohesion Policy................ 243

2.4.1. The Common Agricultural Policy (CAP) and rural development.... 244

2.4.2. The Common Fisheries Policy and Integrated Maritime Policy...... 246

2.5. Aid intensities in less developed regions rose up to 2000-2006 and have since declined 248

Box on Outermost regions............................................................................. 251

3..... How have the goals changed over time?..................................... 251

3.1. The initial focus was on training and mobility............................................... 252

3.2. The 1970s and 1980s saw structural unemployment and rapid changes in agriculture and manufacturing................................................................................................ 252

3.3. The countries joining the EU in the 1980s and 2000s lacked key infrastructure 252

3.4. Improving transport and environmental infrastructure.................................. 254

3.5. The Lisbon and Gothenburg Agenda............................................................ 255

3.6. Europe 2020, poverty reduction, climate change mitigation and beyond GDP 255

Box on Committee of the Regions and the territorial dimension of Europe 2020 and other EU policies............................................................................................. 258

3.7. Beyond GDP: poverty, human development and well-being........................ 258

3.8. What are the goals of Cohesion Policy?........................................................ 259

Box on Territorial Cohesion and the Lisbon Treaty of 2007......................... 261

4..... the economic rationale underlying the policy has become more integrated....................................................................................................... 262

4.1. Cohesion Policy has moved beyond first nature determinants of growth..... 263

4.2. Cohesion Policy can boost growth through investment in second nature determinants of growth....................................................................................................................... 264

4.3. Cohesion Policy supports market integration and can help less developed regions grow faster 266

5..... The division of funding between policy areas has evolved as the goals of the policy have changed................................................................. 267

Box on Financial instruments in 2007-2013.................................................. 269

6..... The impact of the crisis on the 2007-2013 period.......................... 271

6.1. ESF and the reaction to the crisis.................................................................. 274

7..... Conclusion...................................................................................................... 275

Chapter 7 Impact of Cohesion Policy....................................................... 276

1..... Introduction.................................................................................................. 276

2..... The results of programmes in 2007-2013........................................... 277

2.1. The European Regional Development Fund and Cohesion Fund................. 277

2.1.1. Gross jobs directly created.............................................................. 277

2.1.2. Enterprise support............................................................................ 277

Box - Examples of enterprise support schemes............................................. 278

2.1.3. Support for RTDI............................................................................ 278

2.1.4. ICT infrastructure............................................................................ 279

2.1.5. Transport.......................................................................................... 279

2.1.6. Environmental infrastructure........................................................... 281

2.1.7. Renewable energy and increased energy efficiency........................ 282

2.1.8. Tourism, cultural activities, social infrastructure, land reclamation and urban renewal 282

2.2. The European Social Fund............................................................................. 284

2.2.1. Access to employment..................................................................... 284

2.2.2. Social inclusion policies................................................................... 285

2.2.3. Support to enhancing human capital................................................ 286

2.2.4. Improving institutional capacity...................................................... 286

Box on EU value added through networking and the dissemination of good practice 288

3..... Evaluation Evidence on the impact of Cohesion Policy.... 288

3.1. The state of play and the challenges involved for ERDF and Cohesion Fund co-financed programmes.................................................................................................... 288

3.2. Evidence from evaluations of ERDF and CF programmes........................... 291

3.2.1. Enterprise support............................................................................ 292

3.2.2. Support of RTDI............................................................................. 293

3.2.3. Investment in transport.................................................................... 295

3.3. Evidence from evaluations of ESF programmes........................................... 296

3.3.1. Enhancing access to employment.................................................... 297

3.3.2. Equality between women and men.................................................. 297

3.3.3. Social inclusion - migrants and minorities....................................... 299

4..... The modelled impact of Cohesion Policy 2000-2006 and 2007-2013 300

5..... Conclusion...................................................................................................... 305

Chapter 8: Cohesion Policy in 2014-2020..................................................... 306

1..... KEY ELEMENTS OF THE REFORM.................................................................. 306

1.1. New geography and funding......................................................................... 307

Box 1: The Connecting Europe Facility (CEF)............................................. 308

Box : The European Union Solidarity Fund (EUSF).................................... 309

1.2. Thematic concentration in support of Europe 2020....................................... 312

1.2.1. Targeting resources at key areas of growth..................................... 312

1.2.2. Promoting employment, education and social inclusion.................. 314

1.3. Strengthening the effectiveness of investment.............................................. 316

Box : Criteria for fulfilment of ex-ante conditionality in the area of R&D and innovation 317

1.4. Achieving and demonstrating results............................................................ 317

Box : Intervention logic of Cohesion policy in 2014-20 – Example for supporting the high-tech sector in a more developed region................................................... 318

1.5. Aligning EU investment with the European semester................................... 319

1.6. A strategic approach to Public Administration reforms................................ 320

1.7. Sound economic governance......................................................................... 321

Box - The link between the macroeconomic framework and the effectiveness of ESI funds 323

Box EU Budget: commitments vs. payments................................................ 325

Box : Gradual application of macroeconomic conditionality in case of non-compliance under the Excessive Deficit Procedure (indicated timing is purely indicative) 327

1.8. Preserving growth-enhancing investment...................................................... 328

1.9. Linking additionality verification to the stability and convergence programmes........... 329

1.10. Increasing the role of financial instruments................................................... 330

1.11. Reinforcing cooperation across Europe......................................................... 331

2..... PRELIMINARY ASSESSMENT OF THE PROGRAMME NEGOTIATIONS 2014-20 335

2.1. Funding priorities in 2014-20........................................................................ 335

2.2. Aligning investment with Country Specific Recommendations................... 341

2.3. Increasing the impact of investment and delivering results........................... 343

3..... ESTIMATED IMPACT OF COHESION POLICY 2014-2020............................ 345

Box –Constructing the simulations................................................................ 346

3.1. Estimated impact at the national level........................................................... 347

3.2. Estimated impact at the regional level........................................................... 349

3.2.1. Investment in infrastructure............................................................. 350

3.2.2. Investment in human resources........................................................ 353

3.2.3. Investment in R&D......................................................................... 353

3.2.4. Combined impact of investment at regional level........................... 355

Map 1 GDP per head (PPS), 2011. 2

Map 2 Growth of GDP per head in real terms, 2001-2008. 4

Map 3 Growth of GDP per head in real terms, 2008-2011. 4

Map 4 NAFTA GDP per head, 2012. 9

Map 5 Russia, India, China and Brazil, GDP per head, 2010. 9

Map 6: Turkey, GVA per head 2010. 11

Map 7 Metropolitan regions by type. 28

Map 8 Urban-rural regional typology. 28

Map 9 REDI combined index. 36

Map 10 REDI individual dimension. 36

Map 11: Total expenditure on R&D, 2011. 39

Map 12 Total expenditure on R&D, distance to national target, 2011. 39

Map 13 Regional Innovation Scoreboard, 2014. 41

Map 14 Regional innovation growth performance, 2008-2014. 41

Map 15 Patent applications to the EPO, 2008-2009. 46

Map 16 US, patent applications, 2011-2012. 46

Map 17 Population aged 25-64 with tertiary educational attainment level, 2013. 47

Map 18 Population aged 25-64 with low educational attainment level, 2013. 47

Map 19 Population aged 30-34 with a tertiary educational attainment, 2011-13. 51

Map 20 Population aged 30-34 with high educational attainment 2011-13 Distance to national 2020 target 51

Map 21: Households with a broadband connection, 2013. 54

Map 22: Travel speed on the core TEN-T road network, 1955-2030. 56

Map 23 Highest speed on railway network, 1990. 61

Map 24 Highest speed on railway network, 2013. 61

Map 25 Passenger trains on TEN-T railway network, 2010. 62

Map 26 Access to passenger flights, 2011. 62

Map 27 Employment in foreign firms, 2010. 65

Map 28: Regional Competitiveness index, 2013. 69

Map 29 Employment rate, (ages 20-64), 2013. 74

Map 30 Employment rate, (ages 20-64), 2013 - Distance to National 2020 target 74

Map 31 Unemployment rate, 2013. 77

Map 32 Change in unemployment rate, 2008-2013. 77

Map 33 Youth unemployment rate, 2013. 78

Map 34 Population aged 15-24 not in employment, education or training, 2013. 78

Map 35 Difference between female and male unemployment rate, 2013. 80

Map 36 Difference between female and male employment rate, 20-64, 2013. 80

Map 37 Gender balance of population 50-54 with tertiary education, 2011-13. 81

Map 38 Gender balance of population 30-34 with tertiary education, 2011-13. 81

Map 39 Early leavers from education and training aged 18-24, average 2011-2013. 83

Map 40: Early school leavers aged 18-24 in 2011-13 - Distance to national 2020 target 83

Map 41 Low achievers in mathematics, reading and science. 84

Map 42 Participation of adults aged 25-64 in education and training, 2013. 85

Map 43 At-risk-of-poverty rates, 2011. 93

Map 44 Population at-risk-of-poverty-or-social-exclusion, 2012. 94

Map 45 Population at-risk-of-poverty-or-social-exclusion in 2012, distance to national 2020 target 94

Map 46 Registered thefts of motor vehicles per capita, 2008-2010. 102

Map 47 Registered domestic burglaries per capita, 2010. 102

Map 48 Population change, 1961-2001. 105

Map 49 Total population change, 2001-2011. 109

Map 50 Natural population growth, 2001-2011. 110

Map 51 Net migration, 2001-2011. 110

Map 52 Regions for cross-border cooperation, 2014-2020. 112

Map 53 EU Life expectancy, 2011. 117

Map 54: USA Life expectancy, 2010. 117

Map 55 Infant mortality, 2012. 118

Map 56 Road fatalities, 2012. 118

Map 57 EU Human development index, 2012. 120

Map 58 Change in the EU Human Development Index, 2008-2012. 120

Map 59: Potential vulnerability from climate change. 126

Map 60 Average suitability for photovoltaic systems. 132

Map 61 Congestion index on the high speed road network, 2012. 144

Map 62 Annual mean concentrations of PM10, 2011. 146

Map 63 Ozone concentration, 2011. 146

Map 64 Share of Built-up area, 2012. 148

Map 65 Built-up area per head, 2012. 148

Map 66 Change in land use in Vienna, Palermo, Prague and Helsinki, 1950s-2006. 152

Map 67 – Land use changes 2006-2012. 154

Map 68 Ecological status of main water bodies. 158

Map 69 NATURA 2000 areas, 2012. 158

Map 70: Urban wastewater with more stringent treatment, 2010. 162

Map 71 Urban wastewater not collected, 2010. 162

Map 72: Capacity to deliver ecosystem services, TESI index, EU NUTS 2 regions. 167

Map 73: Green infrastructure, EU NUTS 2 regions (% of the surface area covered with green infrastructure) 167

Map 74: Removal capacity in larger urban zones. 169

Map 75 NO2 daily average concentrations, 2011. 169

Map 76: Nitrogen discharge/retention from Europe's major rivers. 172

Map 77 Regional aid, 2007-2013. 204

Map 78: Corruption Perception Index, 2012. 216

Map 79 European Quality of Government index, 2013. 221

Map 80 Regional self-rule index, 2011. 224

Map 81 Change in regional self-rule index, 1960-2011. 224

Map 82: Cohesion Policy, categories of regions: 1989-2013. 238

Map 83 Europe 2020 index, 2011 distance to EU targets. 257

Map 84 Europe 2020 index, 2011 distance to national targets. 257

Map 85 Structural Funds (ERDS and ESF) eligibility 2014-2020. 310

Map 86 Cohesion Fund eligibility 2014-2020. 310

Map 87 Investment for growth and jobs goal: maximum co-financing rate for Structural Funds support, 2014-2020 311

Map 88 Funding for R&D&I, competitiveness of SMEs and the low carbon economy, 2014-2020 313

Map 89 Funding for the low-carbon economy, 2014-2020. 313

Map 90 Youth employment initiative, 2014-2020. 315

Map 91 Cross-border cooperation programmes 2014-2020. 333

Map 92: Transnational cooperation programmes 2014-20. 334

Map 93: Impact of interventions in infrastructure on NUTS 2 regions accessibility, 2030. 351

Map 94: Impact of interventions in infrastructure on NUTS 2 regions GDP, 2030. 351

Map 95: Short run and long run impact of a reduction in transport costs in five Polish regions 352

Map 96: Impact of interventions in human resources on NUTS 2 regions GDP, yearly average 2014-2023 354

Map 97: Impact of interventions in R&D on NUTS 2 regions GDP, yearly average 2014-2023 354

Map 98: Impact of the 2014-2020 cohesion policy programmes on NUTS 2 regions GDP, yearly average 2014-2023 357

Map 99: Impact of the 2014-2020 cohesion policy programmes on NUTS 2 regions GDP in 2030 357

Figure 1: Coefficient of variation (2000 = 100), GDP per head, employment rate, unemployment rate, EU-27 NUTS 2 regions, 2000-2012. 3

Figure 2: Theil index, GDP per head, EU-28 NUTS 2 regions, 2000-2015. 6

Figure 3: GDP per head growth rates of regions in less developed or moderately developed Member States, 2003-2011. 7

Figure 4: Growth of GDP per head in real terms, 2001-2015. 8

Figure 5 Industry (excluding construction) in the EU, 1970-2012. 13

Figure 6 Industry (excluding construction) in the EU-12, 1995-2012. 14

Figure 7 Agriculture in the EU-12, 1995-2012. 14

Figure 8: Agriculture in the EU, 1970-2012. 14

Figure 9: Larger metropolitan areas are more productive. 22

Figure 10: Population size and productivity by city. 22

Figure 11: Less fragmented metropolitan areas have experienced higher growth. 23

Figure 12: Governance institutions and selected outcomes. 24

Figure 13 GDP per head and per person employed in the Paris Metropolitan regions, 2010. 27

Figure 14 Birth rates of enterprises, 2010. 32

Figure 15 Death rates of enterprises, 2010. 32

Figure 16 Tertiary educational attainment country and regional extremes, 2013. 49

Figure 17 Low education rates by country and regional extremes, 2013. 49

Figure 18: NGA broadband coverage, 2012 (% of rural and urban population with NGA) 53

Figure 19 - Railway length per capita with trains operating over 120 km/h, 2013. 60

Figure 20– Change in Railway length per capita with trains operating over 120 km/h, 1990-2013 60

Figure 21 Trade between EU-12 and EU-27, 2004-2012. 63

Figure 22 FDI in the EU-12, 2005-2012. 64

Figure 23: Weights used in the regional competitiveness index 2013. 66

Figure 24 - Regional competitiveness index, 2013. 67

Figure 25 Adult literacy proficiency, 2012. 87

Figure 26 Adult numeracy proficiency, 2012. 87

Figure 27 Severe material deprivation by degree of urbanisation, 2008-2012. 89

Figure 28 Very low work intensity by degree of urbanisation, 2008-2012. 90

Figure 29 At-risk-of-poverty rate by degree of urbanisation, 2008-2012. 92

Figure 30 At risk of poverty or exclusion by degree of urbanisation, 2008-2012 and national 2020 targets 96

Figure 31 Population born outside the EU-27, 2001-2012. 113

Figure 32 Population born in a different EU-27 country per MS, 2001-2012. 114

Figure 33 Employment rate by country of birth, 2013. 115

Figure 34 – Change in greenhouse gas emissions outside the Emissions Trading Scheme, 2005-2011 and Europe 2020 targets. 128

Figure 35 – Share of renewable energy in gross final energy consumption, 2006, 2012, target 2020 (% of total gross final energy consumption) 130

Figure 36 - Modal split of Passenger Transport on Land by Country - 2011. 137

Figure 37- Modal split Change of Passenger Transport on Land by Country, 1995 - 2011. 138

Figure 38 Share of passenger travel by mode of transport in EU Member States, 2011. 139

Figure 39 Share of freight by mode of transport in EU Member States, 2011. 139

Figure 40 - Access to public transport in large European cities, 2012. 141

Figure 41 - Access to public transport in mid-size European cities, 2012. 142

Figure 42. Relationship between population density and sealed soil per head in larger urban zones, 2006. 149

Figure 43 Population density profile of a selection of large European capital cities, 2006. 150

Figure 44 Population density profile of a selection of mid-sized European capital cities, 2006. 150

Figure 45 – General government balance, EU-27 average, 2000-2013 (% of GDP) 175

Figure 46 – General government balance, Member States (ordered by deficit in 2012), 2006, 2009 and 2013 (as % of GDP) 176

Figure 47 – General government expenditure, revenue (EUR bn, 2005 prices) and general government balance, EU-27, 2000-2013 (% of EU GDP) 177

Figure 48 – Average annual change in general government expenditure, volume, 2000-2009, 2009-2013 (%) 178

Figure 49 – General government expenditure on growth friendly categories (% of total general government expenditure), 2012. 182

Figure 50 - Public and private fixed investment, EU-27, 1995-2014 (Gross Fixed Capital Formation as % of GDP) 183

Figure 51 - Sub-national governments expenditure in general government expenditure, EU-27, 1995 and 2013 (% of general government expenditure) 184

Figure 52 - Sub-national government expenditure, 2013 (% of GDP) 184

Figure 53 - Growth Enhancing Expenditure, 2012 (% of national GDP) 187

Figure 54 - Sub-national governments investment, 2000 and 2013 (% of total public investment) 189

Figure 55 - Average annual change in sub-national government expenditure, volume, 2000-2009, 2010-2013 (%) 190

Figure 56 - Sub-national government investment, EU-27, 1997-2013 (% of GDP) 190

Figure 57 – Average annual change in sub-national government investment, volume, 2000-2009, 2010-2013 (%) 191

Figure 58 - Sub-national governments' investment, 1997, 2013 and historical lows (% of national GDP) 192

Figure 59: Sub-national direct financing capacity and public investment 193

Figure 60 – Annual average change in sub-national government revenue in real terms, 2000-2009, 2009-2013 (%) 194

Figure 61 - Sources of sub-national government revenue, 2013 (% of total revenue) 195

Figure 62 – Change in net transfers between central and State-local Governments, 2009-2013 in real terms, 196

Figure 63 – Sub-national government expenditure, revenue (EUR bn, 2005 prices) and sub-national governments deficit (% of EU GDP), EU-27, 2000-2013. 197

Figure 64 - Sub-national governments deficit, Member States, 2007 and 2013 (% of national GDP) 198

Figure 65 - Consolidated General Government gross debt, 2013 (% GDP) 199

Figure 66- Contribution of Cohesion Policy (CP) to public investment in the EU-28 (2007-2013) 200

Figure 67 European Investment Bank loans per Member State, 2007-2013. 205

Figure 68: WB Doing Business, 2006-2014. 210

Figure 69 e-Government usage by citizens, 2011-2012. 212

Figure 70 Enterprises using the internet in public e-Tendering, 2012. 212

Figure 71: Corruption is a major problem, 2011. 214

Figure 72 How widespread is corruption in your country, 2013. 215

Figure 73: World Bank, Government effectiveness and Rule of Law, 1996-2012. 218

Figure 74 Cohesion Policy funding absorption and Government effectiveness, 2014. 227

Figure 75: Cohesion policy expenditure in the EU, 1976-2012. 232

Figure 76: Cohesion Policy expenditure per MS, 1990-1999. 233

Figure 77: Cohesion Policy expenditure per MS, 2000-2006. 234

Figure 78: Cohesion Policy expenditure per MS, 2007-2012. 235

Figure 79: Aid intensity in less developed regions by Member State, 1989-2006. 249

Figure 80: Aid intensity in less developed regions by Member State, 2007-2013 and 2014-2020 250

Figure 81: Aid intensities in the outermost regions, 2007-2020. 251

Figure 82: Unemployment rate, EU-6 EU-27, 1960-2012. 252

Figure 83: GDP per head per enlargement, 1975-2013. 253

Figure 84: Unemployment per EU enlargement, 1973-2013. 254

Figure 85: Share of EU funding reallocated between policy areas. 272

Figure 86: Reduction in national cofinancing to end 2013. 273

Figure 87: Funding absorption and project selection by Member States for the 2007-2013 programming period 274

Figure 88: Estimated impact of Cohesion Policy 2000-2006 on GDP. 301

Figure 89 Estimated impact of Cohesion Policy 2007-2013 on GDP. 302

Figure 90: Principle of excellence. 321

Figure 91 : Allocation to thematic objectives (EUR billion at current prices) 336

Figure 92 : Allocations to thematic objectives (% of total) 336

Figure 93 : Allocation to thematic objective by Fund (EUR billion at current prices) 337

Figure 94 : Allocations to thematic objectives by Fund (% of Fund total) 338

Figure 95 : Allocation to thematic objective by group of countries (% of total) 339

Figure 96 Allocations to thematic objectives by group of countries (EUR billion at current prices, excluding technical assistance) 339

Figure 97 : Allocations by thematic objective 2014-20 vs. 2007-13 in the EU-28 (% of total) 340

Figure 98 : Allocations by thematic objective 2014-20 vs. 2007-13 in more developed Member States (% of total) 341

Figure 99 : Allocations by thematic objective 2014-20 vs. 2007-13 in less developed Member States (% of total) 341

Figure 100 : Estimated impact of Cohesion Policy on GDP. 347

Figure 101: Estimated impact of Cohesion Policy expenditure on GDP in main beneficiary countries, average 2014-2023. 348

Figure 102 - Cohesion Policy expenditure and impact, average 2014-2023. 348

Figure 103: Estimated impact of Cohesion Policy expenditure. 349

Table 1: Key indicators for Western Balkan, 2003-2012. 12

Table 2 Change in employment and GVA by sector per group of member states, 2000-2012 16

Table 3: Decomposing average annual change in GVA per head per MS, 2001-2008 and 2008-2012 19

Table 4 Change in GDP per head, productivity and employment per head by type of metropolitan region, 2000-2008 and 2008-2011. 21

Table 5: Real GDP per head, productivity and employment per head growth by urban-rural typology, 2000-20011 25

Table 6 Total R&D expenditure and the distance to the 2020 target, 2011. 38

Table 7 Population aged 30-34 with a tertiary education, average 2013. 50

Table 8 Employment rate of those aged 20-64, 2000 - 2013 and distance to national target 73

Table 9 Unemployment rate by category of region, 2000-2013. 76

Table 10 Early school leavers and distance to national target, 2008-2013. 82

Table 11 Population change by urban-rural typology, 1961-2011. 104

Table 12 Population by degree of urbanisation, 1961-2011. 106

Table 13 Population change, natural change and net migration by urban-rural typology, 2001-2011 107

Table 14 Population age structure by urban-rural typology, 2012. 108

Table 15 - Population change, natural change and net migration in terrestrial border regions, 2001-2011 111

Table 16 Built-up area per inhabitant, 2012 (in sq km per million inhabitants) 147

Table 17 - Sub-national governments expenditure by function, 2013 (% of total Sub-national governments expenditure) 185

Table 18 - Sub-national governments expenditure by economic sector, 2013 (% of total general government expenditure) 186

Table 19 Starting a business in 2014. 209

Table 20 Estimated direct costs of corruption in public procurement 216

Table 21 Type of corruption by policy area. 217

Table 22 Dimensions of regional authority (self-rule) 223

Table 23 Population by category of region, 1989-2020 (%) 236

Table 24: Funding for territorial cooperation, 1989-2020. 241

Table 25: Funding distribution between categories of regions, 1989-2020 (%) 242

Table 26: Annual Aid intensity per category of region, EUR per head (at 2011 constant prices), 1989-2020 243

Table 27 Allocation per fund (EUR billion, at 2011 prices), 1989-2020. 244

Table 28: Cohesion Policy funding by broad policy area in EU-15, 1989-2013. 268

Table 29 Cohesion Policy funding by broad policy area in acceding countries, 2004-2013. 269

Executive Summary

This report comes out at the start of a new 7-year programming period for Cohesion Policy, when the situation in the EU is dramatically different from what it was at the start of the previous period in 2007. Then, the EU was still enjoying a sustained period of economic growth. Income levels were rising, as were employment rates and public investment, poverty and social exclusion were diminishing and regional disparities were shrinking. Nevertheless, despite the positive tendencies, disparities between regions of many different kinds remained wide.

The advent of the crisis changed all this. Since 2008, public debt has increased dramatically, income has declined for many people across the EU, employment rates have fallen in most countries and unemployment is higher than for over 20 years, while poverty and social exclusion have tended to become more widespread. At the same time, regional disparities in employment and unemployment rates have widened as have those in GDP per head in many countries while in others they have stopped narrowing. These developments mean that the Europe 2020 employment and poverty targets are now significantly further away than when they were first set and it will require a substantial effort over the next 6 years to achieve them in a context of significant budgetary constraints.

Chapter 1: In its first stage the crisis had a big impact on construction and manufacturing. In both, employment fell markedly, in construction as a result of the collapse of a real estate bubble in some Member States and a reduction in public investment and manufacturing because of a decline in global demand, especially for investment goods. More recently, world markets have expanded and exports have increased giving rise to some growth of manufacturing. This is particularly important for many of the Central and Eastern European Member States where manufacturing accounts for a large share of value-added.

The territorial impact of the crisis has been mixed. In most parts of the EU, metropolitan regions have been shown to be more prone to booms and busts, while overall rural regions have proved more resilient. In the EU-15, second-tier metropolitan regions performed average, while in the EU-13, they outperformed the other regions. Rural regions in the EU-15 had a smaller contraction of GDP than the other regions between 2008 and 2011 due to higher productivity growth. Also in the EU-13, higher productivity growth meant that he closed the growth gap with the other regions.

Not all developments, however, have been unfavourable. Despite the difficult economic context, the proportion of people with tertiary education has increased over recent years in most countries and early school leaving rates have declined. As a result, EU targets for both of these are likely to be reached by 2020 if not earlier. At the same time, R&D has not declined relative to GDP during the crisis and has even started to increase slightly in the past year or two, though not by enough to reach the 3% target set for 2020. Innovation, however, remains highly concentrated in spatial terms and shows no sign of spreading to lagging regions.

Investment in transport and digital infrastructure has reduced the deficiencies in these networks in many rural areas and less developed regions. Access to the internet using the next generation technology, however, creates new challenges for rural areas where this technology is almost non-existent. In addition, completing the trans-European Transport network will require at least two more decades of substantial investment particularly in most of the Central and Eastern Member States.

The onset of the crisis led to major reductions in the EU in trade and foreign direct investment, which are important sources of growth for the less developed Member States. Fortunately, exports of the EU-13 to other EU countries have shown significant recovery and now account for a larger share of their GDP than before the crisis, while FDI has also picked up.

Competitiveness remains low in most regions in Central and Eastern Member States, though capital city regions are typically the exceptions. These tend to be highly competitive, but for the most part they do not as yet generate any measurable spill-overs to benefit other regions. Most regions close to the capital in these countries, therefore, do not gain perceptibly from their proximity, while in many more developed Member States the regions neighbouring the capital also tend to have high levels of competitiveness. Indeed, in some Member States, such as the Netherlands, Germany and Italy, other regions with an important second-tier city have a higher level of competitiveness than the capital city region.

Chapter 2: The crisis has wiped out half of the employment gains made between 2000 and the onset of the recession, particularly in the southern Member States. As a result, in transition and less developed regions, employment rates are around 10 percentage points below the national target as compared to only 3 percentage points below in the more developed regions. Increases in unemployment have also been larger in these regions, averaging 5 percentage points between 2008 and 2013 as against 3 percentage points in more developed regions.

Although 2013 was the first year in which the average rate of unemployment in the EU was the same for women as for men, big disparities remain in some parts, unemployment being much higher for women than for men in many southern regions. Employment rates for women remain lower than those of men in all EU regions. While the gap is relatively small in a number of Swedish and Finnish regions, it is more than 20 percentage points in Italy, Greece, and several regions in Romania, the Czech Republic and Poland. On the educational front, however, in nine out of ten regions more women than men aged 30-34 have a tertiary-level qualification.

Higher risk of poverty and social exclusion is another legacy of the economic crisis. There are now around 8 million people at risk of poverty in the EU, the increase being particularly pronounced in Greece, Spain, Italy and the UK. A key issue is the variation within countries. The risk of poverty tends to be much lower in cities than in the rest of the country in less developed member States, while in cities in the more developed Member States, the reverse is the case. Accordingly, in the latter, to meet the national Europe 2020 poverty targets requires a major reduction in the number of people at risk of poverty or exclusion in urban centres, while in the less developed countries the main challenge is to reduce the numbers at risk in more rural areas.

The large disparities in employment, income levels and social well-being are major factors underlying population movement within the EU. In Central and Eastern Member States, there has been a tendency over the past 20 years for people to move from rural areas to urban ones, especially to the capital city, as well as to other parts of the EU. The combination of a natural decline in population and outward migration has led to a significant reduction of people living in rural regions in the EU-13 over the past decade. In the EU-15, on the other hand, the population has risen on average in rural regions because of net inward migration more than offsetting a natural reduction in population.

In the EU-15, over the past decade the contribution of net inward migration to population growth was three times larger than that of the natural increase. By contrast, in the EU-13, net outward migration contributed twice as much to population decline as the natural reduction.

Wide variations remain across the EU in life expectancy and mortality rates. Life expectancy differs by more than 9 years between the 10 regions where it is highest and the 10 where it is lowest. Equally, infant mortality and deaths from road accidents in relation to population differ by a factor of four between the 10 best and worst performing regions.

Chapter 3: The crisis has had mixed effects on the environment. The reduction in economic activity and income has made it easier to reduce greenhouse gas emissions; though energy efficiency has not increased greatly so that this reduction may well be reversed when demand picks up. The crisis has also reduced the cost of allowances for greenhouse gas emissions in the European Trading Scheme, so depressing the economic incentives to invest in energy efficiency and renewable energy and delaying the transition to a low-carbon economy. The European Commission has postponed the auction of some allowances in response to these low prices.

Some progress has been made across the EU in improving the treatment of urban wastewater and solid waste. More towns and cities now meet the quality standards set in the EU Directive on urban wastewater treatment and more solid waste is recycled, or incinerated with energy recovery, and less is dumped in landfills. In both cases, however, more needs to be done and substantial investment is still required particularly in many of the less developed Member States and regions.

The quality of the ‘services’ provided by the eco-system differs substantially across the EU. The services concerned can fulfil important functions such as cleaning air and water, retaining water to reduce flood risks and removing carbon. The recent floods in many parts of the EU and the low air quality in many cities underline the need for them. The advantage of investing in such services is that it can often be cost-efficient while helping to limit the loss of bio-diversity.

The urban dimension of sustainable growth is one of many contrasts. On the one hand, air quality is poor in many cities, made worse by traffic congestion, and cities are more vulnerable to heat waves, due to the ‘heat island’ effect, as well as to flooding because of their proximity, in many cases, to rivers and the sea and the large expanse of sealed surfaces.

On the other hand, cities offer major advantages in terms of eco-efficiency, since the close proximity of different locations reduces the need to travel long distances. Public transport is also more available in cities, offering a more energy-efficient means of travel, and people living in cities on average use less energy to heat their housing. Equally, cities use land much more efficiently than others areas where population density is much lower and built-up land per inhabitant is much higher

Chapter 4: In most Member States, the government budget has been in significant deficit over the crisis period and public debt levels have risen dramatically, in some cases well above 100% of GDP. The deterioration in public finances has led to the widespread implementation of fiscal consolidation measures and many governments have cut back public investment markedly. On average, public investment in the EU declined by 20% in real terms between 2008 and 2013, in Greece, Spain and Ireland, by over 60% and in the EU12 countries, where Cohesion Policy funding is particularly important, by 32%. This could well depress growth rates over the medium-term.

As a result of the cut-backs in national expenditure, there is increased reliance on Cohesion Policy to finance growth-enhancing investment. In 2010-2012, Cohesion Policy funding was equivalent to 21% of public investment in the EU as a whole, to 57% in the Cohesion countries taken together and to over 75% in Slovakia, Hungary, Bulgaria and Lithuania. Without this funding, public investment in the less developed Member States would have declined even further.

Local and regional governments in the EU are responsible for almost two thirds of all public investment and, accordingly, the reductions which have occurred have had a big impact on them. The political autonomy (or self-rule) of regions has tended to grow over the past few decades, with substantial increases in many Member States. In Italy, in particular, the degree of self-rule in regions is now higher than in the Federal states of Germany, Austria and Belgium.

Chapter 5: The EU has given increasing attention to the importance of governance and the quality of public institutions over the past few years, including in relation to Cohesion Policy programmes. For example, an anti-corruption report has been adopted in 2014 and many of the country-specific recommendations made as part of the European Semester concern issues of administrative capacity. Initiatives, such as e-Government and e-Procurement, can help both to increase efficiency and reduce the opportunities for abuse of power. In addition the development of national anti-corruption and anti-fraud strategies is likely to strengthen administrative capacity and lead to funds being used more effectively.

As regards Cohesion Policy, improving institutional capacity and public administration is one of the 11 key thematic objectives for the period 2014-2020. One of the reasons for this is the observed link between low levels of government efficiency and the absorption rate of Cohesion Policy funding for the 2007-2013 period, which is so low in some cases that there is a serious risk that Member States will lose significant amounts of the funds available to them.

While countries in the North of Europe score well in surveys of governance and ease of doing business, there are still too many Member States where the standard of public authorities is perceived to be low and significant numbers of people report paying bribes. New research has revealed that the ease of doing business and the quality of institutions also vary in many cases within countries, which implies that more targeted interventions may be needed to bring the situation in lagging regions up to standard. Research has also indicated that governance problems can act as a brake on social and economic development and limit the impact of Cohesion Policy investment.

Recognising the key role of regional and local authorities in public investment, the OECD has recently adopted principles on the effective management of public investment which apply across all levels of government.

Chapter 6: Cohesion Policy was born out of concerns that obstacles to economic development, such as a lack of innovation, labour force skills, infrastructure or institutional quality, will permanently depress growth and productivity and lead to lower standards of living. Over the years, the financial support under the policy, which has consistently focused on less developed regions, has shifted away from investment in hard infrastructure towards business support and innovation, employment and social inclusion to overcome these obstacles.

The nature of Cohesion Policy and its objectives have also evolved. The geographical coverage has been simplified, with all regions being eligible for a measure of support, while in addition to its focus on reducing economic disparities, the policy has become more closely aligned with the overall strategy of the EU. Accordingly, in the 1990s, funding was extended to environmental and trans-European transport infrastructure and in the 2000s, Cohesion Policy was directed towards the pursuit of the Lisbon and Gothenburg strategies for growth and sustainable development. In the new period, Cohesion Policy is an integral part of the Europe 2020 strategy with a strong focus on employment, innovation, sustainability and reducing poverty and social exclusion.

Successive enlargements of the EU have changed the challenges which Cohesion Policy has to confront and increased the difficulty of tackling them. Not only have they led to a much greater number of regions with low levels of development but they have also increased the territorial diversity of the EU.

With the introduction in the Lisbon Treaty of territorial cohesion as an explicit objective of Cohesion Policy, a stronger emphasis has been given to access to services, functional geography, territorial analysis and sustainability. This shift is mirrored in the increased focus on sustainable growth in Europe 2020 and in the recognition of the importance of moving beyond GDP when assessing territorial development. The debate on how to measure progress and the role of Cohesion Policy in this respect is still ongoing.

Chapter 7: Cohesion Policy in the 2007-2013 period made a substantial contribution to growth and jobs. It is estimated to have increased GDP by 2.1% a year on average in Latvia, 1.8% a year in Lithuania and 1.7% a year in Poland in relation to what it would have been without the investment it has funded. It is also estimated to have increased the level of employment, by 1% a year in Poland, 0.6% in Hungary, and 0.4% in Slovakia and Lithuania. The estimates of the longer-term effects are larger because of the impact on the development potential of economies. In both Lithuania and Poland, GDP in 2020 is estimated to be over 4% above what it would be without the investment concerned and in Latvia, 5% higher.

Over the same period, Cohesion Policy has been important in sustaining public expenditure in vital areas, such as R&D, support for SMEs, sustainable energy, human resource development and social inclusion. In some Member States, it also helped further national reform efforts, especially as regards education systems, the labour market and public administration.

There is clear evidence that the policy is producing tangible results in many areas. Support had been provided to over 60 000 RTD projects by the end of 2012, over 21 500 co-operation ventures between enterprises and research centres, and almost 80 000 business start-ups. In addition, the funds had provided over 5 million more people with access to broadband, 3.3 million with an improved supply of drinking water and 5.5 million with main drainage and a connection to waste water treatment facilities.

Between 2007 and 2012, the policy has supported up to 68 million individual participations in labour market programmes[1], 35 million of them involving women, 21 million young people, 22 million unemployed and nearly 27 million of those with low levels of education (compulsory schooling or below). The ESF helped 5.7 million people find employment and almost 8.6 million to obtain qualifications, while Member States reported that it had contributed to over 400,000 business start-ups or people becoming self-employed.

Major results are still expected from the 2007-2013 programmes over the remaining months up to the end of 2015. The payments data however underline the need to step up the completion of these programmes. Although there is an inevitable delay between expenditure on the ground and Commission payments being made, there is evidence of serious delays in a number of countries in projects being selected for support and being carried out. This is especially the case in areas such as RTDI, rail, ICT and broadband and investment in both renewable energy and energy saving, where authorities have limited experience or projects are relatively complex.

Chapter 8: In 2014-20, a third of the EU Budget will be invested under Cohesion Policy to help address disparities between regions while at the same time contributing to the achievement of the Europe 2020 goals. The two objectives are fully compatible with each other. Indeed, the pursuit of the Europe 2020 goals can be seen as a means of furthering regional development aims and of strengthening the various elements which determine the growth potential of regions.

The new Cohesion Policy is not only fully aligned with the Europe 2020 strategy and its headline targets but it is also linked to the European semester and the EU economic governance process. This will ensure that the effectiveness of investment is not undermined by unsound economic and fiscal policies. Member States and regions are also required to put in place sound regulatory, administrative and institutional frameworks to maximise the impact of investment. Together with a concentration of resources on a few key priorities and a stronger focus on performance and results, it will increase value for money and the contribution of Cohesion Policy to growth and job creation.

[1] Reporting counts all instances of participation and many people may have participated several times. Participations can range from a short interview, to counselling, training or work experience.

Chapter 1: Smart Growth

1. Introduction

Cohesion Policy has invested heavily in smart growth over past decades. It has co-financed innovation, education and digital and transport networks. This investment has helped to create a single market that boosts growth, productivity and specialisation in all regions and which, accordingly, strengthens the position of the EU in global markets where it has to compete with both low-cost locations and highly innovative competitors.

This chapter describes the trends relating to smart growth in regions and cities in the EU and highlights the impact of the crisis on them. It covers a wide range of topics, including the territorial dimension of the crisis, innovation, tertiary education, entrepreneurship, the extension of digital and transport networks and market integration through trade and foreign direct investment.

The main concern throughout is to highlight the performance of the less developed regions and particular types of area such as cities and rural areas. The concern is also with the pursuit of the Europe 2020 national targets for R&D expenditure, tertiary education and lifelong learning.

Most of the long-term trends reported here are positive in terms of the performance of the EU economies. They include closer integration of markets, trade and FDI, the shift of employment to more productive sectors, better access to digital and transport networks and continuing increases in the number of people with tertiary education.

The crisis, however, has been highly disruptive in many parts of the EU. It has reversed the long-term trend towards a narrowing of regional disparities. It has led to reductions in economic activity and employment in most Member States. Fortunately, the first signs of recovery can be detected in several of the aspects analysed here, such as increases in trade and positive GDP growth in the latter part of 2013 in almost all EU Member States.

Although Cohesion Policy has made a substantial contribution to smart growth and reducing disparities, the low levels of innovation in many regions, the economic disparities which remain and the gaps in the physical and digital networks still require substantial amounts of investment in the coming years and beyond the present programming period.

2. The crisis suspended the reduction in regional disparities

One in four EU residents, live in (NUTS 2) regions with a GDP per head in PPS terms[1] below 75% of the EU average (see map). Most of these regions are located in central and eastern European Member States, but also in Greece, Southern Italy, Portugal and most of the outermost regions.

Map 1 GDP per head (PPS), 2011

Between 2000 and 2011, all the regions in the central and eastern Member States recorded an increase in GDP per head in PPS relative to the EU average. The biggest increases were typically in the capital city regions. Indeed, in these regions in Slovakia, Romania and Bulgaria, GDP per head in PPS terms increased markedly (to 186% of the EU average in the first, 122% in the second and 78% in the third), in the first two countries by more than double the national average increase. In the less developed regions in Greece, Italy and Portugal (except Açores), however, there was no increase in GDP per head relative to the EU average, due in Greece to the severe effect of the crisis , but in the other two, partly to their growth rates being relatively low before the crisis.

Until the crisis in 2008, disparities between regional economies in the EU were shrinking (the coefficient of variation of regional GDP per head fell by 10% between 2000 and 2008 - Figure 1). In 2000, average GDP per head in the most developed 20% of regions was about 3.5 higher than that in the least developed 20%. By 2008, the difference had narrowed fallen to 2.8 times. This was mainly due to the regions with the lowest GDP per head growing faster than average and catching up with the more prosperous ones (a process known as Beta convergence). However, the crisis seems to have brought this tendency to an end and between 2008 and 2011, regional disparities widened (the coefficient of variation increased slightly).

This break in the trend towards convergence is confirmed by other economic indicators for which more recent data are available, in particular for employment and unemployment. While regional disparities in both employment and unemployment rates narrowed between 2000 and 2007, they have widened significantly since 2008. In 2013, therefore, disparities in both were wider than in 2000.

Figure 1: Coefficient of variation (2000 = 100), GDP per head, employment rate, unemployment rate, EU-27 NUTS 2 regions, 2000-2012

Source: EUROSTAT database. - DG REGIO's calculation.

These changes can also be seen in the real growth rates of GDP per head. Virtually all regions had positive growth between 2001 and 2008, with rates of more than 5% a year in many regions in the EU-13. Between 2008 and 2011, two out of three regions experienced a reduction in GDP per head, amounting to over 3% a year in Greece and in regions in Romania, the UK and Ireland.

Map 2 Growth of GDP per head in real terms, 2001-2008 || Map 3 Growth of GDP per head in real terms, 2008-2011

Regional disparities have widened during the last few years because the economic crisis has affected regions differentially. Some regions have been hit severely, others hardly at all. This is particularly evident with regard to regional unemployment rates. In 2008, five regions had an unemployment rate above 20%. In 2013, the number had increased to 27. At the same time, unemployment has gone down in many German regions because of the relatively strong performance of the German economy since the global recession in 2008-2009.

Even though the latest figures available for regional GDP per head show only the start of the crisis, the same pattern is evident. In some regions, GDP per head in real terms (i.e. at constant prices) declined considerably, as, for instance, in Közép-Dunántúl (Hungary) or in Estonia, where it fell by 15% between 2008 and 2009. In others, it continued to increase, as in Pomorskie (Poland) or Åland (Finland), where it rose by 4% and 6%, respectively.

The impact of the global recession following the financial crisis of 2008 had no clear geographical pattern, affecting both more and less developed economies. Between 2008 and 2009, real GDP per head fell markedly in the three Baltic States but also in Finland, Sweden and Italy. Equally, the fall in real GDP per head was relatively small in France and Belgium but also in Cyprus and Malta, while there was continued growth in Poland. Of the 13 regions in which real GDP per head fell by more than 10%, 6 had a GDP per head above the EU average in 2008.

Regional disparities within countries also widened significantly in a number of cases between 2000 and 2011. This was particularly so in Bulgaria and in Romania (where the coefficient of variation increased by 22 percentage points and 12 percentage points, respectively), mainly because of the high growth rate in the capital city region. While GDP per head in the other regions in the two countries still converged towards the EU average, it was at a much slower rate.

Regional disparities also widened in Greece and the UK over these 11 years (the coefficient of variation increasing by 12 and 8 percentage points, respectively) but in both cases partly because GDP per head declined relative to the EU average in a number of less developed regions,. This was so, for example, in Ipeiros (Greece), where it declined from 71% of the EU average to 55%, and in West Wales and the Valleys (in the UK), where it fell from 72% of the EU average to 64%.

Another indicator of regional disparities, the Theil index[2], can be decomposed into a component which measures disparities between Member States and one which measures disparities within them. The index shows that disparities in GDP per head between NUTS 2 regions within Member States (which can only be calculated up to 2011 from the data available) have increased slightly since .2004, which to a large extent reflects the high rate of growth in a number of urban areas (typically capital city regions) in the EU-13 (Figure 2). This was offset by the marked reduction in disparities between Member States up until 2009, so leading to an overall reduction in regional disparities in the EU-28. The economic crisis interrupted this process of convergence, with disparities remaining unchanged in 2009 and increasing in 2010 and 2011. However, national accounts data for 2012 and the latest forecasts at the Member State level up to 2015 suggest that this interruption might only be temporary and that there may already have been a resumption of the process of convergence in 2012, so long as there was no significant increase in regional disparities within countries.

Figure 2: Theil index, GDP per head, EU-28 NUTS 2 regions, 2000-2015

Source: EUROSTAT database. DG REGIO's calculation.

The effect of the economic crisis on the long-run process of regional disparities in the EU narrowing can also be seen in the experience of individual regions.. Between 2003 and 2011, 50 of the 63 regions in the less developed or moderately developed Member States recorded a higher growth rate than the EU average (Figure 3). In the period prior to the crisis (2003-2008), 56 of these regions grew faster than the EU average, while during the crisis (2009-2011), this number dropped to 45.

Figure 3: GDP per head growth rates of regions in less developed or moderately developed Member States, 2003-2011

Source: EUROSTAT database. DG REGIO's calculations. Bars represent regions. No data for Greece.

There are grounds for believing that the long-run convergence process in the EU will continue after the crisis comes to an end. Since the process is driven in part by less developed regions adopting technology and methods of working developed and tested in other regions, it means that they tend to catch up in terms of productivity. This process, assisted by investment funded under Cohesion Policy, is likely to see growth in less developed regions return to a higher rate than in the more developed parts of the EU in the years to come, just as over the period 2003-2008.

Analysis of changes in GDP per head between 2000 and 2011 confirms that, in the long run, convergence is mostly a result of the least developed regions catching up rather than growth declining in the more developed ones. For example, 37 (NUTS 2) regions had a GDP per head below 50% of the EU average in 2000 but only 20 in 2011, with GDP per head in 16 regions increasing to between 50% and 75% of the EU average and in one region (Yugozapaden, the capital city region in Bulgaria) to between 75% and 100% of the average. The pace of convergence in Bucureşti–Ilfov (Romania) between 1995 and 2011 was also remarkable, its GDP per head increasing from below 50% of the EU average to over 120%.

GDP per head grew faster in real terms in the less developed Member States over the period 2000-2013 and is forecast to continue to do so in 2014 and 2015 (see Figure). The rate of growth in the moderately developed Member States, however, fell below that in the highly developed Member States in 2010 and continued to be lower in 2011-2013 but is forecast to be slightly higher by 2015.

Figure 4: Growth of GDP per head in real terms, 2001-2015

.

Map 4 NAFTA GDP per head, 2012 || Map 5 Russia, India, China and Brazil, GDP per head, 2010

Box on regional economic disparities in the world

Large regional economic disparities can be found in the BRICs (Map 5) as well as in the North American Free Trade Agreement Area (Map 4). The disparities cannot be directly compared to those in Europe as the size of the regions differs too much. India and China both with a population of more than a billion would need more than 700 regions to be comparable with NUTS-2 regions in the EU. For the US, GDP per head should relate to 160 regions instead of 50 States to be comparable.

The North American Free Trade Agreement has faciliated closer economic integration between Canada, the US and Mexico since 1994 through increased trade and foreign direct investment. Unlike the EU, NAFTA does not involve freedom of movement of people. As a result, many of the Mexicans working in the US are illegal immigrants.

During the first decade of the agreement (1994-2003), real GDP per head growth in Mexico averaged only 0.8% a year. The rate was three times higher in Canada and the US over the same period. The low overall growth rate in Mexico was due not to the free trade agreement but possibly to low education levels, an unfavourable business environment and a lack of transport infrastructure. As NAFTA does not have a development policy like Cohesion Policy, it takes much longer for Mexican regions to benefit from trade integration.

Between 2004 and 2012, however, the Mexican economy performed better with real GDP per head growth averaging 1.5% a year despite the crisis, double the rate in Canada and the US.

Despite the stronger economic performance of Mexico, there was no reduction in regional disparities in NAFTA. In large part, this is because many of the less developed Mexican regions were not able to catch up.

Although regional disparities tend to widen in the first phases of economic development, this was not the case in the BRICs. Between 2000 and 2010, disparities narrowed in China and Brazil, though they widened in India and Russia.

In China, the coastal regions have a much higher GDP per head than the more inland regions. In Russia, Moscow and Saint Petersburg and the surrounding regions have a much higher GDP per head than the regions in the south of the country. More generally, GDP per head in the north tends to be higher than in the south because of the extraction of natural resources. Brazil and India also have large regional disparities, their main urban areas having a much higher GDP per head than the more remote rural regions.

As these countries have sought new ways of reducing regional disparities, they have become more interested in how Cohesion Policy operates. In the last 8 years, the Commission has signed memoranda of understanding on regional policy cooperation with China, Russia and Brazil and cooperation agreements with Chile, Peru and Japan as well as Ukraine, Moldova and Georgia under the Eastern Partnership. As part of the latter, the Commission has organised activities in respect of regional and urban policy which have led to exchanges on technical assistance, studies, study visits, training courses, conferences, network building and contacts between regions and cities in the EU and these other countries.

Box on Turkey

Turkey has a population of 75 million which is growing fast (by nearly 10 million over the past decade). The economy is also growing fast, by 5% a year between 2002 and 2012. As a result, GDP per head in PPS terms had risen to 56% of the EU average in the latter year, higher than in Romania or Bulgaria, but below that in Croatia.

There are, however, wide regional disparities. The western regions of Istanbul (50% above the national average in 2011), Kocaeli (41% above), Ankara (32% above) and Bursa (31% above) have relatively high levels of GDP per head. Three eastern regions have levels which are less than half the national average. These disparities widened between 2004 and 2007 but narrowed a little between 2007 and 2011.

The agricultural sector still accounts for almost a quarter of total employment and for a significant, though much smaller, share of GDP (9% in 2012).

Map 6: Turkey, GVA per head 2010

Box on Western Balkan

There are three candidate countries in the Western Balkans (Montenegro, Serbia and the Former Yugoslav Republic of Macedonia) and three potential candidate countries (Albania, Bosnia-Herzegovina and Kosovo – as defined under UN Security Resolution 1244).

Montenegro has the smallest population, of around 620,000, but the highest GDP per head (if only 46% of the EU average in PPS terms in 2012) and the second lowest rate of unemployment (20%).

Serbia has the largest population (7 million) and the biggest economy. GDP grew by 6% a year between 2003 and 2008 but growth fell to 1.2% a year between 2008 and 2012. GDP per head is only a third of the EU average and unemployment was 24% of the labour force in 2012.

The Former Yugoslav Republic of Macedonia has a population just over 2 million. Its GDP grew by 5% a year between 2003 and 2008 and by 2% over the subsequent four years. The unemployment rate is very high (31% in 2012) and GDP per head similar to that in Serbia (35% of the EU average).

The three potential candidate countries had a GDP per head of between 23% and 30% of the EU average in PPS terms in 2012. Albania had the lowest unemployment rate (14%) which was still well above the EU average, while rates in Bosnia-Herzegovina (29%) and Kosovo (35%) were very much further above the average.

Only one of the 6 countries (Albania) has an employment rate above 50% of the population aged 15-64 (in the EU, no Member State has a rate below 50%). In Bosnia-Herzegovina, it was only 40% in 2012 and in Kosovo, less than a quarter of working-age population were employed, which is remarkable.

Table 1: Key indicators for Western Balkan, 2003-2012

|| Population (in 1000s) || GDP per head in PPS (EU-28=100) || Unemployment rate (%) || Employment rate, aged 15-64 (%) || Real GDP growth rate (%)

|| 2012 || 2012 || 2012 || 2012 || 2003-2008 || 2008-2012

Montenegro || 621,240 || 43 || 20 || 47 || 6.2 || 1.2

Former Yugoslav Republic of Macedonia || 2,059,794 || 35 || 31 || 44 || 4.7 || 1.9

Serbia || 7,216,649 || 35 || 24 || 45 || 5 || 0.2

|| || || || || ||

Albania || 2,815,749 || 30 || 14 || 56 || 6 || 3.8

Bosnia and Herzegovina || 3,836,000 || 28 || 29 || 40 || 5.2 || 0.6

Kosovo (under UN Security Resolution 1244) || 1,815,606 || 23 || 35 || 24 || || 4.6 *

Source: Eurostat * 2008-2011 || || || ||

3. Central and eastern Member States maintain a strong industrial sector, but their agriculture needs to continue to modernise

In 1970, the industrial sector accounted for over 30% of total employment and GVA (gross value-added) in the EU-6 (i.e. the 6 Member States at the time). The rise of the service sector, the automation of manufacturing and the relocation of parts of manufacturing to emerging economies has led to a steady reduction in the share of employment and GVA in industry (excluding construction) in the EU economy (see figure). This trend was not affected by the enlargements up to those in 2004 and 2007 which both led to a small increase in the share of employment in industry. By 2012, the share of GVA in industry had fallen to 19% and the share of employment to 16%.

In the EU-12, however, the share of industry is larger than in the EU-15 and has changed less over time. The share of GVA in industry remained at around 27% between 1995 and 2012. The share of employment declined from 26% to 22% over these 17 years, but it remains much larger than in the EU-15, where only 14% of total employment is in industry (Figure 5).

Figure 5 Industry (excluding construction) in the EU, 1970-2012

Source Ameco

The change in the share of agriculture has been substantial. In 1970, it accounted for 12% of total employment and 6% of GVA in the EU-6. By 2012, the shares in the EU-27 had fallen to 5% and 2%, respectively. The effect of the various enlargements is more visible in this case, with increases in the employment share after the enlargements of 1981, 1986, 2004 and 2007. Because of the low level of productivity in agriculture in the countries joining the EU, however, its share of GVA did not increase significantly - subsistence farming, for example, contributes to employment in agriculture but hardly at all to GVA.

In the EU-12, the share of employment in agriculture fell from 25% to 15% between 1995 and 2012 and as productivity increases, it is likely that it will fall further. In the EU-15, it was only 3% in 2012.

Figure 6 Industry (excluding construction) in the EU-12, 1995-2012 Source ESTAT || Figure 7 Agriculture in the EU-12, 1995-2012 Source ESTAT

Figure 8: Agriculture in the EU, 1970-2012

Source: AMECO and ESTAT

As the number of jobs in agriculture and industry declined, more jobs were created in services. However to switch from a job in agriculture or industry to one in services often requires learning a whole new set of skills. Providing training to people who want to find a job in a different sector can help to ease this transition.

4. Construction and industry most hit by the crisis

The less developed Member States tend to have a different economic structure than the rest of the EU with more employment and GVA in industry (see table). In 2012, the share of employment in industry in these countries was 22%, 50% larger than in highly developed Member States (15%). There is little sign of convergence in this share. Industry in the less developed Member States showed higher growth of GVA than other sectors between 2000 and 2012. Even over the crisis period, 2008 to 2012, it grew by 2% a year while it declined by 1% a year in both moderately developed and highly developed Member States. Employment in industry also remained broadly unchanged up until 2008 in the less developed Member States, while it declined in the others.

Joining the EU and the single market has created more potential for specialisation and spatial clustering. Less developed Member States, therefore, may have been able to maintain a larger share of employment in industry because the balance between labour costs, productivity and accessibility created an attractive location for manufacturers.

Employment and GVA in construction has fallen sharply over the crisis period in all three country groups. The reduction was largest in the three Baltic States, Ireland, Greece and Spain, in all six of which a large real estate bubble burst as the financial crisis hit

Financial and business services account for considerably smaller shares of employment and GVA in the less developed Member States, but they are increasing slowly towards those in the highly developed countries. The impact of the crisis on the combined sector in less developed Member States was limited, both employment and GVA continuing to grow, but at slower rates than between 2000 and 2008.

The restructuring and modernisation of the agricultural sector is still ongoing in the less developed Member States. In 2012, the sector accounted for 16% of total employment, over 6 times more than in highly developed Member States (2.5%). The share of GVA in agriculture was considerably smaller but three times larger than in the latter countries (4.5% as against 1.5%). Both shares are tending to decline as employment continues to shrink and growth of GVA lags behind that in other sectors. It was still the case, however, that the share of employment in agriculture in less developed Member States in 2012 was larger than in the EU-6 in 1970 (12%).

The impact of the crisis was more severe for the moderately developed Member States, GVA and employment declining by over 2% a year between 2008 and 2012. The reduction was especially large in construction, manufacturing, distribution, transport and communications.

Overall, the highly developed Member States were less affected by the crisis, employment declining by just 0.4% a year and GVA by 0.2% a year between 2008 and 2012 (see table). The biggest reduction in both employment and GVA were in construction, manufacturing and agriculture.

Table 2 Change in employment and GVA by sector per group of member states, 2000-2012

[1] The Gross Domestic Product (GDP) per head in Purchasing Power Standards is the total value of all goods and services produced per inhabitant. Purchasing Power Standards (PPS) adjusts for differences between countries in purchasing power due to differences in price levels.

[2] The Theil index essentially measures the extent to which the inequality of GDP per head between regions differs from the situation where every region has the same level.

5. The crisis led to employment losses, but also some productivity gains

Between 2001 and 2008, GVA per head in the EU grew by 1.7% a year in real terms, primarily fuelled by productivity growth of 1.2% a year. Increases in the employment rate added another 0.5% a year while a rise in the share of working-age population in the total had a small but positive impact (0.1% - Table 2). Over the crisis period of 2008-2012, GVA per head fell by 0.5% a year and the employment rate by 0.8% a year with productivity growing by 0.3% a year.

The difference between the less developed Member States and the rest of the EU was pronounced in both periods. Between 2001 and 2008, growth of GVA per head was much higher (5.2% a year), primarily because of productivity growth (4.2% a year), while an increase in the share of working-age population in the total (which increases the number employed at any given employment rate) also contributed significantly (by 0.4% a year). Over the period 2008- 2012, GVA per head in the less developed Member States as a group increased, but at a much lower average rate (by 1.2% a year), while it declined in virtually all other Member States. The main source of growth during these years was productivity (which increased by 1.8% a year) while employment declined significantly (by 1.1% a year).

All of the less developed Member States experienced losses in employment between 2008 and 2012 and gains in productivity, except Romania and Hungary where the opposite was the case (Table 2). In five of the countries, productivity growth compensated for the reduction in employment and GVA per head remained unchanged. The effect of the rise in the share of working-age population in total was smaller during this period (adding 0.2% a year to growth instead of 0.4%), but it was still significant in Bulgaria, Poland and Slovakia (adding between 0.4% a year and 0.5% a year). In Croatia, there was a fall in working-age population relative to the total (reducing GVA per head by 0.6% a year) because of a combination of outward migration, low fertility rates and ageing.

GVA per head grew by 1.3% a year between 2001 and 2008 in the highly developed Member States, but declined by -0.7% a year between 2008 and 2012. In the first period, productivity growth (increasing by 0.9% a year) contributed more than the increase in the employment rate (of 0.4% a year), with the share of working-age population in the total remaining unchanged. Between 2008 and 2012, the employment rate declined (by 0.7%a year), while productivity increased only marginally and the share of population of working-age fell equally marginally on average, though by more (by around 0.5% a year) in Ireland, Denmark and Finland.

Among the highly-developed Member States, Ireland and Spain stand out as having suffered the biggest reduction in employment rates (by 3.6% and 3.9% a year) and having the highest productivity growth (2.4% a year and 2.7%). This is in part due to the collapse of construction, a sector with low productivity, though also to productivity gains in other sectors.

Germany and Sweden were the only two highly-developed Member States to experience an increase in GVA per head over the crisis period, but with a very different division between productivity and employment. In Germany, therefore, employment (taking the employment rate and share of working-age population together) increased by slightly more than GVA per head, effectively because of a small decline in productivity. In Sweden, productivity increased by more than GVA per head and the employment rate fell.

The moderately developed Member States (which include Greece, Portugal, Cyprus, Malta, Czech Republic and Slovenia) have been affected more strongly as a group by the crisis than the other Member States. While GVA per head grew by 2.7% a year in the first period, it shrank by 2.5% a year in the second, primarily due to reductions in the employment rate (by2% a year), but also to a decline in the share of working age population in the total (by 0.3% a year) and a fall in productivity (by 0.2% a year). The latter fall, therefore, cushioned the effect of the reduction in GVA on employment but only a little. There were, however, very different patterns of development over this period in the different countries.

In Malta, GVA per head increased slightly, the only country in the group where this was the case, but a relatively large decline in productivity (by 0.8% a year) was accompanied by a significant rise in the employment rate (by 1.2% a year). In Portugal, on the other hand, GVA per head declined but by less than the average in the group while productivity increased by much more than in the rest of the group by 1.8% a year), so that the employment rate fell significantly (by 2.4% a year). In Cyprus, GVA per head fell markedly (by 3.2% a year), but productivity increased (by 0.4% a year) unlike in the other countries in the group (Greece and Slovenia), which combined with a large rise in working-age population relative to the total by 0.8% a year), due to inward migration, led to the employment rate falling considerably (by 4.4% a year, more than in any other country).

Box on Decomposing growth in GVA per head

Growth in GVA per head is broken down into three main components: changes in productivity (GVA per person employed), changes in the employment rate (Employment relative to population of working age) and changes in the share of working age population in the total.

Accordingly:

The same identity can be expressed in terms of changes.

Usually, the employment rate is derived from the Labour Force Survey and is based on the place of residence of the person employed. Productivity, on the other hand, is calculated on the basis of employment at the place of work (from the national accounts). To ensure that this simple identity holds, the employment rate here is based on employment reported in the national accounts rather than the Labour Force Survey.

Table 1: Decomposing average annual change in GVA per head per MS, 2001-2008 and 2008-2012

6. Growth in metropolitan regions more prone to booms and Busts than in rural regions 6.1. Capital metropolitan regions performed well until the crisis led to above average employment losses

In 2011, metropolitan regions (see map 7) accounted for 59% of EU population, 62% of EU employment and 67% of EU GDP. Accordingly, they are major centres of employment and of business activity which have a higher level of productivity than elsewhere. In all Member States, GDP per head is higher in metropolitan regions than in other regions, though this does not always translate into higher growth rates. For example, between 2000 and 2011, GDP per head grew faster in non-metropolitan regions in Germany, Austria, Sweden, Finland, Portugal and Spain.

Nevertheless, in both the EU-15 and EU-13, real GDP per head in metropolitan regions grew faster than in other regions between 2000 and 2008 (see table). Growth rates in capital city regions were especially high, partly because of their higher productivity growth in the EU-15 and higher employment growth in the EU-13.

Growth in second-tier metropolitan regions was the same as at the national level, but below the rate in the capital metropolitan regions. Smaller metropolitan regions grew more slowly than the other metropolitan regions. In the EU-15, they had the same rate of growth as in non-metropolitan regions. In the EU-13, the smaller metropolitan regions had a significantly lower rate of growth than the non-metropolitan ones.

The crisis had a different effect on the metropolitan regions in the EU-15 and the EU-13 between 2008 and 2011. In the EU-15, GDP in the capital metropolitan regions declined at the same rate as in other regions. In the EU-13, GDP in the capital metropolitan regions declined, while it grew in the other regions. In both cases, this was accompanied by a larger reduction in employment than elsewhere.

In the EU-15, in second-tier and smaller metropolitan regions, productivity growth was low and employment declined, the fall in GDP per head being similar to that in the EU-15 as a whole.

In the EU-13, in second-tier and smaller metropolitan regions growth of GDP per head was twice the EU-13 average as a result of high productivity growth and no reduction in employment. It will be interesting to see whether this launches a period of higher growth rates outside the capital metropolitan regions leading to a narrowing of the gap in GDP per head with the latter.

Table 2 Change in GDP per head, productivity and employment per head by type of metropolitan region, 2000-2008 and 2008-2011

A new ESPON study[1] specifically examining the performance of second-tier cities concluded that although some of these make a substantial contribution to the national economy, in most countries, they do not contribute as much as capital cities. It is argued that they could contribute more, however, if they were given greater EU and national support.

The tendency to over-invest in the capitals and under-invest in second-tier cities is shown to be strong in many countries and it is arguable that higher level governments should resist this tendency and create territorial policies specifically for second-tier cities. This highlights the importance of a tailored, place-based development policy and of taking explicit account of the different territorial impact of national policies on R&D, innovation, education and skills and transport and connectivity.

City size, agglomeration benefits and metropolitan governance In all OECD countries, productivity and wages increase with city size (Figure 7). As a result of their high levels of productivity and their sheer size, large urban agglomerations contribute substantially to national growth. Figure 1: Larger metropolitan areas are more productive Source: OECD Metropolitan Database Why are larger cities more productive? The productivity of cities depends on a great many factors, such as having companies which are innovative and skilled workers. Productivity, however, at least up to a certain point, increases with the size of cities, which raises the question of why. The reasons are, first, that larger cities tend to have higher levels of human capital, even though the relationship with city size is often non-linear, in the sense that the shares of both very high skilled workers and low skilled increase at the same time. Secondly, larger cities typically have a larger share of high productivity sectors such as consulting and legal and financial services. Thirdly, larger cities are more likely to be hubs or service centres through which trade, finance and other flows are channelled. These flows typically require the provision of high value-added services. Fourthly, cities profit from ’agglomeration benefits‘, which means that, on average, the productivity of a person increases with the size of the city in which they live and work. Figure 10 shows productivity levels for cities in Germany and the US adjusted for difference in levels of human capital. Recent OECD estimates suggest that productivity increases by 2-5% for every doubling of the population (Ahrend, Farchy, Kaplanis and Lembcke, 2014), which is in line with similar studies for individual countries (Combes et al., 2011). Figure 2: Population size and productivity by city Germany || United States

||

Source: Ahrend, Farchy, Kaplanis and Lembcke, 2014

Agglomeration benefits are usually thought to arise from ‘sharing’, ‘matching’ and ‘learning’ (see, e.g., Duranton and Puga, 2004). In larger agglomerations, firms profit from a greater supply of local public goods, as well as ’shared’, or common, facilities such as public laboratories and universities. It is also easier for them to find suppliers that more closely match their needs. Similarly, a larger labour market allows a higher level of flexibility and workers to be better matched to jobs. Equally, the easier generation, diffusion and accumulation of knowledge in larger agglomerations facilitates access to technologies and skills. In addition, agglomeration benefits are often thought to be related to people being better ‘connected’ in larger cities and to arise perhaps from higher levels of “knowledge based capital” (intangible assets) in the firms located there.

Agglomeration benefits not only arise from the size of population in a city itself but they can also be ’borrowed; from neighbouring agglomerations. For every doubling of the population living in agglomerations within a 300 km radius, the productivity of the city in the centre is estimated to increase by 1-1.5% (Ahrend, Farchy, Kaplanis and Lembcke, 2014). This might explain why in the US productivity in urban agglomerations generally increases more strongly with population size than in European countries. Essentially, because distances between agglomerations tend to be less in Europe, smaller cities are not so disadvantaged since they ‘borrow’ agglomeration benefits from neighbouring towns and cities.

The role of metropolitan governance structures in economic efficiency and well-being

Metropolitan areas typically span a number of administrative boundaries. They, therefore, often suffer from fragmented policymaking, and it is not uncommon for there to be several hundred local authorities. If these are left to pursue policies independently of each other, they are unlikely to tackle the challenge of developing the economic potential of the metropolitan area as a whole and the well-being of the people living there in an adequate way. Research undertaken by the OECD shows that municipal fragmentation does indeed reduce economic growth (see Figure 9) as well as the productivity of metropolitan areas, estimates indicating that a doubling of the number of municipalities per 100,000 people is associated with a reduction if 5-6% in productivity. It is likely that this in part is a result of sub-optimal provision of transport infrastructure, exemplified by routes in many Metropolitan areas ending at administrative boundaries for no apparent reason. This can also increa