Getting smart on U.S. regional inequality: Lessons from Europe

The nation’s divides—whether measured by regional size, productivity, technology, income, or employment—are becoming an unavoidable feature of the U.S. political economy.

Recently, The Economist devoted a cover story to U.S. communities that have been left behind by the relentless forces of globalization, technological change, and industrial concentration. Regional disparities constitute a growing threat, not simply to those places struggling, but also to the nation as a whole, since inequities seem to be undermining national cohesion. It’s becoming clear that a policy response is needed, and the European Union’s regional development strategy—called Smart Specialization—could be one intriguing model to adapt to the U.S. context.

Before turning to Europe, however, it’s important to note that historically the U.S. government made investments in struggling parts of the country as a means to seed broad-based productivity and galvanize national purpose. Yet, unlike the 19th century investment in land grant universities or the 20th century investment in the interstate highway system, this century has seen no major place-focused federal policy effort. Rather, modern federal investments in small or struggling communities ironically often come in the form of place-agnostic investments in military bases, federal research labs, and universities, the latter two of which are under threat of federal budget cuts.

Further, as our colleague Mark Muro has documented with one of us, the nation’s patchwork of economic adjustment programs, like Trade Adjustment Assistance, remains too fragmented and too small to address growing regional inequities.

More intentional programs such as the Economic Development Administration’s (EDA) Regional Innovation Strategies (RIS) Program award grants to support local innovation clusters, but its budget is only $17 million. Cities, regions, and rural communities compete over these limited resources. Since policy is not applied within consistent political and administrative boundaries, the governance of place-based economic development varies from location to location. As Donald A. Hicks wrote in 1982, “[In the U.S.,] regional policy will probably remain implicit and secondary – if not an analytical indulgence – because it cannot be made explicit in a political context.” Case in point: the Trump administration has proposed eliminating the entire EDA.

Absent significant federal guidance, regions and states have taken it upon themselves to develop innovative economic development strategies. The Economist story referenced upstate South Carolina, and its attraction of a BMW plant with savvy local and state economic development supports related to workforce training, innovation, and infrastructure. As we’ve written about, some U.S. metros are implementing robust plans to identify their key competitive assets and globally relevant industries. These efforts require great expertise and enthusiasm, especially with such little support from the federal government. However, they remain the exception rather than the norm.

A host of other policy ideas are being bandied about by experts, from increasing housing affordability in productive metros so that people can move, to opportunity to moving federal government agencies to the Heartland. These ideas are both worthy, but both are probably insufficient to the scale of the challenge. The reality is that, beyond taxes and transfers, the United States has little experience addressing regional inequities at the national scale.

There is a recent example of a policy effort that tries to close regional disparities across a large, diverse economy. In contrast to the United States, the European Union has long supported subnational economic development and supra-regional cohesion. Beginning with the Rome Treaty of 1957, development funds have been used as a tool to reduce differences between regions, which was seen as a critical prerequisite for the European project to sustain itself.

The most recent iteration of that project is the EU’s Cohesion Policy framework. Incredibly, Cohesion funds account for nearly one-third of the EU 2014-2020 budget, or over $400 billion. The historical shortcoming for the EU has been ensuring these funds are sustainably impactful at the regional level. While there is clear evidence of benefits in employment and growth, the positive effects of EU funds have not necessarily been persistent over time, as shown by this LSE analysis. In addition to its large scale, the EU is seeking to overcome these legacy challenges by deploying a Smart Specialization Strategy (S3) aimed at a “smart, sustainable and inclusive growth” by 2020. It is worth considering implementing in the United States for three reasons:

1. There’s no ‘one size fits all’ approach because regions have different starting points. According to Eurostat, there were 17 regions in the EU where labor productivity was at least 50 percent higher than the EU average. More strikingly, no regions from the 13 Member states that joined the EU in 2004 or after had a labor productivity ratio – measured as gross value added by hours worked – above the EU average in 2014. Among the 275 EU regions for which data are available, 32 had an unemployment rate of at least 17.2 percent, double that of the EU as a whole in 2016.
2. Economic development focuses on innovation-oriented growth. S3 pushes regions to focus on innovative and high value-added activities, which aim to strengthen and transform regional economies. The European Commission designed a framework for regional governments to execute through Research and Innovation Strategy plans that help regions use the latest data to identify strategic technological bets, no matter their starting point.
3. Collaboration is key. Skeptical American observers may view this as another top-down framework imposed by removed bureaucrats. However, the S3 process is highly localized and inclusive. Regional governments coordinate an “entrepreneurial discovery process” that involves small, medium, and large businesses, in addition to entrepreneurs, research, and higher education institutions. Local alliances identify the region’s competitive strengths and weaknesses, and push forward with strategic priorities.

Brussels does not make decisions for regional leaders, who tend to know their economies best, but do require they undertake the S3 process as a prerequisite to receive funding from the European Regional Development Fund (ERDF).

Regional inequalities are unrelenting, but it would be politically unrealistic to expect the U.S. federal government to fund place-focused economic development at an EU scale anytime soon. Perhaps new financial instruments can help direct private capital to distressed U.S. communities. But even if we are able to unleash private capital in this regard, it needs to be coordinated locally, which will require data, frameworks, and regional coalitions focused on what we know works in economic development. Regional disparities are not unique to the United States but the lack of policy response is an unfortunate case of American exceptionalism. Europe’s S3 approach offers one blueprint for remedying that.