The high and increasing share of exports in the high-tech segment, supported by the technology transfer to domestic firms from foreign direct investment and an ICT environment that is supportive to businesses, represents Malta’s relative strength, according to a paper published by the European Commission.
The paper, entitled Macro Structural Bottlenecks To Growth In EU Member States was written by the Commission’s Directorate-General for Economic and Financial Affairs.
The purpose of the paper was to identify areas that constitute the main bottlenecks to economic growth at an EU and national level in view of the Commission’s proposal for a Europe 2020 Strategy to help the EU emerge from the global economic crisis and return to economic growth and sustainable public finances.
The paper consists of a country by country report of the 27 EU member states and concludes that all countries in the bloc are experiencing significant fiscal deficits and rising debt ratios. These two factors together with the costs of ageing populations pose a significant challenge for fiscal sustainability and thereby confidence and economic growth.
The Commission paper says the ongoing shift in Malta’s economic structure, which began in the run-up to Malta’s EU accession from manufacturing to services with high technology content, has had a positive impact on Malta’s rate of innovation. At the same time, low education levels, particularly in science and technology, the absence of research and/or innovation-based clusters and well-developed university-industry collaboration in research and development, as well as under-performance in developing product or process innovations are factors constraining innovative capacity.
“In order to support the move to higher value-added activities, it will be important to ensure a stronger contribution of the education system at all levels to human capital formation, notably by addressing the high rate of early school leavers (39 per cent), the low percentage of youths having obtained at least an upper secondary level of education in Malta (53 per cent) as well as further raising the number of science and technology graduates.
“This will allow the economy to provide the level of skills that are required in the labour market, in particular in the emerging services sector, and help foster investment in new areas of growth through research and development and innovation,” the paper says.
The report points out that real GDP growth in Malta is anticipated to outperform again that for the eurozone as a whole in both 2010 and 2011, albeit less markedly than in recent years.
“The lagged impact of the downturn on the labour market led to an increase in the unemployment rate in 2009, but this increase was relatively contained, reflecting also recovery measures aimed at avoiding layoffs. A further rise is projected in 2010.
“Should this be translated into an increase in structural employment, Malta’s potential growth in the medium term will be affected beyond the already low contribution to growth from labour input before the crisis, due to low labour market participation,” it says.
Low and weakening total factor productivity is another factor holding back growth, the Commission paper says, whereas the contribution of capital deepening has been on a declining trend over the past decade, which may reflect the decreasing weight of manufacturing in the economy.
The report highlights that the projected acceleration in demographic ageing will pose a further challenge for potential growth in Malta. In this context, support to potential growth in the medium-to long-run will have to come from higher labour market participation as well as increased human capital and innovative capacity of the economy.
“A major challenge for fiscal policy in Malta is to ensure the long-term sustainability of its public finances, given the above-EU average projected impact of demographic ageing on both healthcare and pension spending. The parametric changes introduced in the 2006-2007 pension reform, in particular the more dynamic indexation of the ceiling on pensionable income and the introduction of a guaranteed national minimum pension for persons retiring from 2006 onwards contribute to the significant long-term increase in pension spending.
“At the same time, the stipulated gradual increase in statutory retirement age from its current low level alongside the increase in the number of contribution years will have a positive impact on the sustainability of the pension system,” it says.
The slowdown in the real estate sector may be a source of vulnerability for macro-financial stability, the paper says, even though recent stress tests carried out by the Central Bank of Malta confirm the banks’ ability to withstand these types of shocks. As a result of the downturn, there have been some increases in the rate of non-performing loans, especially in the non-financial corporate sector, but the situation should improve as the economy recovers strength.
“Overall, the Maltese economy does not appear affected by large macroeconomic imbalances and there has been no pronounced housing bubble.
While the construction of new houses has slowed somewhat since 2008, the downward adjustment of house prices, which rose by six per cent on average over the 2000s, has been contained so far,” it says.
The report says that a further diversification of the economy and an expansion of high value-added and fast-growing export-oriented sectors would help Malta reduce its reliance on tourism and manufacturing of electronics and enhance the non-price competitiveness of its exports as well as potential growth. Investing further in renewable energy sources as a new area of growth would offer the additional benefit of reducing Malta’s high dependency on imported oil for energy.
Given the small size of the economy, the report says that foreign direct investment is likely to continue to represent the main source of productivity-enhancing technology transfer to domestic businesses, pointing to the need to enhance the attractiveness of Malta as a business location.
The effect of the global crisis on Malta’s unemployment became visible in 2009 but this was relatively muted thanks to government assistance to encourage companies to avoid layoffs, while offering training to employees, the paper says.
“In the medium term, a more efficient wage setting process that aligns wage growth to productivity increases would not only improve Malta’s competitiveness but could also lead to a decline in unemployment. In addition, better utilising of Malta’s labour potential, in particular that of women and older workers would be important for boosting potential growth. More flexible working time arrangements and widespread availability of childcare facilities would help boost the female participation rate.”
Use of early retirement schemes, the currently low statutory retirement age and very high inactivity rates for older female cohorts are the main reasons for the low participation rate of older workers, the paper points out. Some positive effects in this respect may be expected in the medium/long term as a result of the recent pension reform which increased the retirement age to 65 for men and women.
Intensifying the fight against the phenomenon of undeclared work would also be crucial to raise the employment rate and to strengthen the labour market.
The report says that the very small size of Malta’s economy lends itself to market imperfections, and competition is very limited in some markets, leading to high mark-ups.
“In this context, a strong role of the competition authority is important to enhance competition. The business environment could also be improved by reducing the administrative and regulatory burden for firms. This would help to enhance Malta’s attractiveness as a business location for foreign investors,” it says.