Contents
- 1 Europe needs new and better businesses to tackle two main problems.
- 2 So why then is starting a Business so difficult in Europe
- 3 So what might European countries and the European Union be able to do about the challenges facing its businesses?
- 4 Conclusion
Europe is no place to start a business – or so we are told by entrepreneurs and business leaders across the world.
Bureaucracy, high taxes, difficulty in hiring people all make Europe a challenging place to start and grow a business – compared to the United States or even China.
And if we look at the age of Europe’s largest companies – Europe hasn’t given birth to any large company emerge in the past 50 years – save ASML which was a spin-off from another European Giant.
On the surface, it seems that European countries – and Europeans themselves- are lacking an entrepreneurial backbone or culture.
Talking from experience as a small business owner myself – running Into Europe, I wanted to understand the main barriers to Europeans starting and scaling their own businesses, and find out if what they say about European entrepreneurship is true.
I looked into business demographic data, tax policy, and the setup of Europe’s financial system to understand the main barriers that businesses face when starting and scaling- all to understand why starting a business in Europe is like playing life on hard mode – and what we might be able to help more European businesses emerge.
So why is starting a business so hard in Europe?
Europe needs new and better businesses to tackle two main problems.
First, European businesses are smaller, less digitalized, and competitive than their peers across the rest of the world, and second because Europe is struggling to develop new industries and reap the rewards in the form of economic growth and well-paying jobs that come with them.
But the problem is that
Europe isn’t starting new businesses
I found this pretty cool data set with a bunch of ‘business demographic data’ from the OECD which allows us to look at the births and deaths of businesses across the European Union.
When we look at businesses founded, the trend is quite clear, in sectors like industry, science tech, or logistics, Europeans are founding fewer businesses than before – while the European hospitality sector is still growing.
Let’s focus on industry for a second, while the decline is also true for most European countries, it has been particularly sharp in France, the Netherlands, Spain, Italy, and the Czech Republic, – while Poland stands out with a much higher level of businesses being born.
This is in part due to demographics: as Europe ages, there are fewer men aged between 30 and 50 who are the likeliest to start businesses.
But this fall has been on a similar scale to that of the United States – which itself still has more entrepreneurs.
In this study together with the Global Entrepreneurship Monitor, the OECD estimates that European countries are missing far more entrepreneurs than similarly aged societies.
That is despite the fact that Europeans are at least stating that they want to start a business at similar rates to that of other countries.
By the way, we really have to hand it to Poland here by the way, who seem like they aren’t particularly entrepreneurial – but this contradicts the data we just saw on starting businesses – you guys don’t talk, you simply go and do.
But generally speaking, Europeans are starting fewer businesses, and
New European businesses aren’t surviving
The falling survival rate of new European businesses has fallen over the past decade and they are less likely to make it into their 5th year.
This is particularly true for Science and Technology companies, with the Netherlands being a rare European exception which managed to increase it – and Sweden which managed to keep it at a high level.
Industrial companies managed to keep it mostly together up until at least 2020- when this data set ends.
That doesn’t allow us to look at what happened after the Coronavirus pandemic, and the energy crisis – which damaged many European businesses.
Yet if we read a couple of news headlines about the economic climate and business closures, we can reasonably fill in the dots: the trend of European businesses in many countries having a hard time is still ongoing.
So why then is starting a Business so difficult in Europe
While culture plays a role that can’t be understated, European institutions and regulations have worsened an already hostile environment for the growth of new businesses.
After following up on the main literature and doing a bunch of research, there are 5 main reasons why Europe is not as business friendly as the United States.
First due to Europe’s Welfare States, there is simply less incentive to start a business, second, when they are started European businesses have fewer consumers, have a harder time hiring employees, finding investors and finally they are faced with more regulation and bureaucracy.
So let’s first by looking at how the how the Welfare State reduces the incentive to be an entrepreneur.
The Negative Impact of Europe’s Welfare State
While most countries across the world have some form of welfare state – European countries have taken it the furthest.
They have some of the highest levels of public spending out of any place in the world, but also cheap subsidised higher education, a social safety net for the sick and unemployed, universal healthcare and pensions.
As a result, government spending as a share of GDP increased dramatically after WW2 and then once again in the 1970s.
And it is now ticking up once again, mainly driven by pension and healthcare spending as a result of Europe’s ageing societies – something I covered in a previous video.
But all of this social spending comes at a cost in the form of higher taxes and actually reduces the incentives to be an entrepreneur.
It is relatively comfortable being an employee in a welfare state – and in most European countries, you don’t have much to fear from being out of a job.
Economist Magnus Henrekson, who has studied the link between entrepreneurship and the Welfare state for decades points out – entrepreneurship out of necessity doesn’t really happen in Europe- I mean you don’t need to start a hustle if the government will take care of you and provide you with basic necessities.
You could argue this is ethical – and avoids people being on the street if they don’t have a job- but it also discourages people that are intrinsically motivated from starting their own business.
As a self-employed person, I have to take care of my own pension, my own medical coverage, have no unemployment benefits, and if I stop producing videos because I get sick – as has happened several times this past year- then I don’t get paid.
If you’re American you might be like ‘what is this guy complaining about, that’s what we do here’ – and you’d be right, but I’m comparing myself to European employees here.
Employees accumulate pension rights, have generous sick leave, and are hard to fire – and when they are they tend to get extensive severance packages and receive unemployment benefits which accumulate with years worked.
In some European countries, you can get benefits related to unemployment for up to 5 years after you lose your job!
In other words, as a self-employed person running a small business, you don’t benefit nearly as much from the social protections and comforts offered by the welfare state.
And if you are working for a company, then your relative safety might make you think twice before quitting to start something yourself.
But if you manage to pass that first hurdle, and start your own business, then you have to deal with the fact that European Businesses have access to fewer and poorer consumers
The Problem with European Consumers
Europeans are not as good of consumers as Americans.
On average, Europeans work about 30% fewer hours and earn less money.
While that doesn’t matter for happiness, with Europeans being generally more content with their lives than Americans and dominating happiness rankings, it does matter for a business trying to sell you goods and services.
Europeans eat less food, buy smaller cars and homes, fill them with fewer things and they keep their phones for longer – it shouldn’t come as a surprise that the economy needed to provide those goods is also smaller.
And those consumers are siloed off into different language and regulatory markets, which reduces the opportunity for European businesses.
A Polish marketing firm could hardly service a client in France – or it would have to pay an expensive price to reach it while one in New York could potentially service the whole of the United States.
But it’s not only a question of languages, its actually more complicated delivering a service across the borders of the European Union because of different laws.
Some services in particular are virtually exempt from Single Market, such as energy, telecommunication, and transportation – meaning starting or expanding cross-border businesses is nearly impossible.
Doctolib, a French tech darling providing digital services for healthcare providers, has taken more than 8 years to start gaining traction in the German market because of how bureaucratic and fragmented it is.
As a fun anecdote, it’s easier for me to have a Sponsor from the United States than it is one from the European Union – because member states want to know where to assign VAT so that they can get their money back, which is something I have to declare in my Quarterly tax declarations.
Even if you manage to find enough consumers to satisfy your business, you’re going to struggle scaling it by hiring workers.
The Difficulty of Hiring in Europe
One of the main ways that the welfare state is financed is through taxes on work.
2/3 of the income in European country like Belgium is taxed away, either in the form of income taxation or employer contribution.
In Sweden by its peak in 1979, this tax wedge had reached 91% before falling back down to 75% in the late 90s and 67% in 2017.
The only European countries that comes close to being in line with the United States when it comes to taxing labour are the UK, Denmark, and Poland with about 40% tax on labour and Switzerland at 28% – with ‘only’ 38% and 40% of the cost of employment ending up in taxes.
If I wanted to hire someone in-house to produce videos, I would not only have to take on the risk of having someone on my payroll, I would also have to pay an extra in the form of taxes.
This creates what economists call a tax wedge – where the cost of hiring a worker is split from the actual income he or she receives- because of taxes.
The higher the taxes, the bigger the wedge.
This is not only a problem for employees whose income is reduced -and look for opportunity elsewhere- it also raises the cost of hiring people for companies.
While larger and more established businesses can afford this, it can be prohibitive for smaller businesses to attempt to scale because of the sheer cost of hiring that first employee.
And European country’s tax wedges are far higher than in the rest of the world, and due to the progressive income taxes, puts an even bigger cost on high-skilled labour – making it harder to hire and contributing to the huge salary disparity between Europe and the United States for skilled workers like software engineers.
The high tax burden poses another problem: Europe simply doesn’t have enough money for investment.
The European Investment Gap
Higher tax rates on work together with lower working hours in most European countries means people can’t save money as much – either to start their own business or to invest in other businesses.
And most Europeans have their ‘wealth’ locked up in Real Estate: in most European countries, more than 60% of household wealth was as housing – in the US it is less than 40%.
Europe’s Pension Systems are Inadequate
To top this off, intergenerational solidarity in the form of pay-as-you-go pension systems, where current workers pay for retirees increases taxes and decreases savings in most European countries.
Instead of depositing money in pension and venture capitalist funds that can invest in the economy, most Europeans pay taxes in exchange for the promise of pensions.
While some small European countries like Ireland, the Scandinavians, the Netherlands, and the UK have diversified, pension assets in 4 of the EU’s 5 major economies Germany, France, Spain, and Italy were below 10% in the US they were at 132%.
Not only does this decrease the amount of money in the economy right now, it also means that for most European countries, there is no magical pot of money from which to invest in businesses.
Accumulation of wealth necessary for investment
And when we look at the way European money is invested, we can see it is far from optimal.
Europeans have smaller financial savings than Americans and what smaller savings they do have are far less likely to be invested in equity, stocks or shares – in other words in businesses.
As Swedish Economists Magnus Henrekson, alongside Niklas Elert and Mark Sanders point out, this is also because
Currently, ‘national tax systems in Europe favor debt finance‘.
Because capital gains and dividends are taxed while interest payments are tax deductible — it is cheaper for companies to raise funds through debt than through equity, as such, ‘debt finance channels society’s available savings into the reproduction and growth of the existing capital stock‘.
This is a question of generalized risk aversion: as Henrekson continues, European goverments have been more interested in preserving their tax bases – by keeping the money flowing to established companies rather than new riskier businesses.
When it comes to ordinary people, this study by the European Central Bank found that as their wealth increased, people were more willing to take risks – but that Europeans overall were much less likely to own risky assets regardless of income level.
Instead, Europeans keep most of their savings in banks – which play the role of investors.
That means businesses are dependent a result European Businesses are more dependent on financing through the Banking system which itself is also risk averse, especially following the 2008 financial crisis which saw lending to companies collapse in the European Union. – in part due to stricter rules around lending.
Regulation and Bureaucracy
Finally, the EU prides itself on its regulation -and the EU has been called the world’s regulatory superpower by its admirers and critics.
Most EU advocates claim that this protects consumers from corporate abuse, and while that may be true with the EU having some of the best quality food in the world and some of the strictest pollution or data protection rules, the flipside is that the EU is unfriendly to businesses.
Some of the most visible initiatives by the EU have had to do with the regulation of Data used and the Green transitions.
This specific study found that GDPR – the EU’s Data Protection Regulation decreased ‘the number of deals involving EU ventures with data-related business activities decreased by almost 31%’.
In fact, the EU itself is aware of the consequences of some of its policies on European businesses, which is why it tries to exclude SMEs from cumbersome legislation – like reporting on corporate sustainability.
The EU looked to exclude the smallest companies in the block, but that hasn’t helped SMEs.
According to Eurochambers – the European Chamber of Commerce, requirements of the EU on banks and larger corporations to prove that they are working green projects, end up being requirements on the businesses that they are lending to or sub-contracting from.
In other words through what I am going to call ‘Trickle Down Regulation’, rules that are meant to target large companies end up targeting almost everyone else – and increasing the bureaucratic burden for European companies.
And the thing is, all of these challenges disproportionately affect new businesses.
The Impact on New, Small Businesses
Managing paperwork from regulation, affording employees whose costs are inflated by labour taxes, getting equity funding or a loan from a bank is simply more difficult in Europe – and even more so if you are a small business.
There are some other national policies that I came across when looking into this topic that deserve some special mention for how damaging they are to national businesses.
Being in the Olympic mood, I decided to give out some medals based off how infuriating they actually are.
First our bronze medal goes to an unexpected challenger, the Netherlands’! The country’s sick leave policy has businesses pay at least 70% of an employees’ sick leave for up to 2 years – while this is affordable for a larger business, if your business is small, this burden is a potential death sentence.
The silver medal goes to Spain, which has the most expensive contribution for self-employed people at nearly 300 euros a month, that must be paid before any profit. A country where the median income is 1800 euros a month for a single person.
And finally, our gold medal goes to Italy, where I kid you not businesses have to pay their taxes ahead of time based off future projections.
Okay, so we get it, starting a business in Europe is tough. But if Europe is so terrible for starting new businesses, then what is happening to Europe’s entrepreneurial talent?
Europe’s entrepreneurial talent is leaving
Well I actually covered part of that in a previous video on Europe’s brain drain to the United States, which can be complemented by the internal brain drain of the European Union, where Southern, and Central and Eastern Europeans end up going to relatively more business-friendly Northern Europe.
But according to this report by the Global Entrepreneurship Monitor, part of Europe’s entrepreneurs go on to succeed inside established companies.
Scandinavian, British, Irish, and Dutch firms for example are quite successful at internal innovation – and have high levels of Entrepreneurial Employees.
While that’s great news for the competitiveness of established companies – and it can potentially lead to corporate spin-offs, like all the Phillips-related companies in the Netherlands, and might explain why European planes are not falling out of the sky, it generally means its harder to create new ground-breaking industries.
After all, if all your entrepreneurial talent ends up at existing firms, you are less likely to develop new groundbreaking fields.
So what might European countries and the European Union be able to do about the challenges facing its businesses?
Well Europe is aware of its entrepreneurial shortcomings – which is why we routinely have ex-Italian prime ministers writing reports about European competitiveness and entrepreneurship.
While they make some fair points, it’s quite ironic considering Italy is by many of the metrics considered in this video the LEAST entrepreneurial country in Europe.
But if we pass on the irony for a second, we can take a look at what
European countries and the European Union are doing to make life easier for businesses
Easier to hire
Reforms to private pension funds in some European countries have lead to small pots of gold for investment appearing in some countries.
More investment
Other European countries are trying to make up for the shortfall in investment with government institutions, French Investment Bank, British Business Bank are all looking to invest money into companies and finance riskier investments.
EU plans for a Capital Market’s Union plan to unite the continent and make it easier for cross-border investment and to make sure that European companies don’t need to rely on American investment for funding above $50 million.
While these measures are great, this is no replacement for an entire society of investors – with deeper pockets & more willingness to take on risk like that of the US.
De-bureaucratizing?
Enrico Letta talks about completing the Single market – and calls for an EU Commissioner to slash administrative burdens,
In fact, the French, German, and Italian Economy minsiters in April announced that they wanted to pass an ‘Omnibus Law’ to cut regulation and bureaucracy at the EU level.
But we can be quite pessimistic about this, previous calls to ‘cut Red tape’ which was already one of the sticking poins back in the lead-up to the Brexit negotiations, haven’t materialized into anything real.
And to be fair, the EU doesn’t have a great track record of cutting back bureaucracy, and neither do most European national governments.
Addressing Europe’s Imcentive Problem
So what can we do to fix the incentives?
Well the most radical way might be to scrap the welfare state entirely – and go for the American model – which is something we probably don’t want to do – or aren’t willing to do.
So might there be a way we could tweak the Welfare state in such away to address some of the main points we talked about this video.
Well luckily for us, this is a question that Swedish economist Magnus Henrekson, alongside Niklas Elert and Mark Sanders have attempted to answer in their book ‘The Entrepreneurial Society, a Reform Strategy for the European Union’, with many of their proposals looking into how to tackle the problems faced by entrepreneurs.
I selected a few that I found interesting and that relate to the points I previously mentioned in this video, but if you want the full picture, I recommend you read the full book – or at least look at the list of proposals.
The first is by
Removing the opportunity cost of entrepreneurship & improve flexibility in the market.
This goes by
Proposal 26: Guarantee equal access to welfare state arrangements for all, regardless of tenure in a specific job or labor market status.
and
Proposal 27: Carefully consider the impact of flexicurity reforms on young firms and do not force them to take on excessive risks and burdens.
This would accompany a move that would allow firms to hire and fire people more easily – while at the same time guaranteeing a lower impact on people losing their jobs.
Proposal 23: Relax the stringency of employment protection legislation for permanent contracts.
Proposal 28: Introduce mandatory universal insurance to cover healthcare costs, old age, and disability.
Which would avoid someone like me missing out on building up a pension – though it could open the door for abuse, and might lead to people pursuing less productive activities – like producing videos for the internet – or simply not working at all.
Then we could
Increase Funding for Businesses
The first way to to do this is by allowing more wealth accumulation and lowering the threshold to invest by lowering capital gains and dividend taxes – this would push more investment to equity which could benefit smaller businesses as opposed to debt.
Proposal 13: Allow more wealth to accumulate and remain in private hands and make it possible, easy, and attractive to invest such wealth in entrepreneurial ventures.
Proposal 11: Initiate a balanced program aiming to achieve tax neutrality between debt and equity finance.
A further push could come from encouraging banks to increase their investment into European companies.
Proposal 19: Increase the mandatory equity ratio in banking gradually to 10–15% to allow them to responsibly take on more risk in their lending portfolios.
And it could also benefit employees by exempting the stock options they sometimes receive from income tax.
Does this make sense?
While some of these things sound rather straightforward, others might sound a bit lopsided – and very economically liberal- and I would agree.
Unconditional money and welfare is ripe for abuse, and is the reason why it is so often tied to employment, and tax cuts all around to make Europe a competitive place to do business is likely to be expensive -and met with protests around ‘wealth inequality’.
As Henrekson puts it in an earlier ones of his papers: the institutions of a welfare state have little in common with those that promote entrepreneurship – and it only makes sense that any attempt to reconcile the two would be a convoluted and expensive mess.
But the cost of not having any new businesses is one that a society can’t bear in the long run – lower growth, lower productivity and no new industries.
Conclusion
But what do you think?
Should Europe adopt a more American model? Should it tweak the welfare state as much as possible in order to fix its problems with having new businesses? Or should it try to push market integration further before looking to reform the welfare state?
Let me know what you think in the comments down below!
If you liked this video on the challenges facing European entrepreneurship and starting businesses, then I invite you to go watch this video on Europe’s brain drain to the United States – or if you want to know more about how Europe is difficult for young people, then I invite you to watch this video on why Europe is such a challenging place for young people.