Written by Marcin Szczepanski and Guillaume Ragonnaud.
|This paper is one of 11 policy responses set out in a new EPRS study which looks first at 15 risks facing the European Union, in the changed context of a world coming out of the coronavirus crisis, but one in which a war has been launched just outside the Union’s borders. The study then looks in greater detail at 11 policy responses the EU could take to address the risks outlined and to strengthen the Union’s resilience to them. It continues a series launched in spring 2020, which sought to identify means to strengthen the European Union’s long-term resilience in the context of recovery from the coronavirus crisis. Read the full study here.|
The issue in short: The challenge and the existing gaps
European industry is central when it comes to achieving the twin green and digital transition of the EU’s economy and society, and making Europe the first climate-neutral continent by 2050. While European industry has strengths (for instance in green tech), it has lagged behind in some key strategic sectors, such as batteries. China provides 93 % of the EU’s supply of magnesium (key for aluminium production), while Turkey provides 98 % of the EU’s supply of borate (central to the electric motors used in electric vehicles and wind turbines). ASML, the world leader in the production of manufacturing equipment for leading-edge semiconductors, is the only European company among the global top 20 tech companies by market capitalisation. Common weaknesses in strategic European industrial sectors include high dependency on critical raw materials (CRMs) – for instance around half of the materials needed in aircraft production come from third countries. Other weaknesses are insufficient research and development funding, technology gaps, market fragmentation, underinvestment, and lack of skills. Enhancing the strategic autonomy of EU industry means tackling these issues and reducing dependencies on third countries. The pandemic has, meanwhile, highlighted the broader vulnerabilities of global supply chains, in which EU industry is highly integrated. Disruptions in these global chains may affect critical products and inputs for the EU. The complexity of the chains and the fact that they spread throughout the globe, makes them particularly vulnerable to unforeseen and/or rapidly unfolding occurrences such as natural disasters (more frequent in the global warming era), health crises (another pandemic cannot be ruled out), accidents (such as fires in manufacturing plants) and political developments (such as the war in Ukraine). Supply risks are compounded by the changing global landscape, characterised by rising tensions among the major powers, the weakened role of the WTO, the rise of protectionism, and the increasing deployment of the economy as a geopolitical tool. Rethinking supply chains and commercial routes is therefore high on policy makers’ agenda.
Existing policy responses
Boosting the strategic autonomy of EU industry requires a mix of coordinated domestic and external policy actions – going beyond the scope of this paper. The Commission adopted a new industrial strategy for Europe in March 2020, seeking to make EU industry more competitive globally and to reinforce Europe’s industrial and strategic autonomy. It introduced an ‘ecosystem approach’, based on the close monitoring of strategic dependencies in 14 sensitive industrial ecosystems (e.g. aerospace and defence, electronics) in order to mitigate them. As part of this framework, the Commission adopted a pharmaceuticals strategy, to support the competitiveness, innovation and sustainability of the EU’s pharmaceutical industry.
Securing and diversifying supply of CRMs is among the top 10 strategic issues to be addressed to ensure the EU’s freedom and capacity to act in the decades to come. In this field, the EU seeks to take an approach mixing industrial, research and trade policies with international partnerships. The Commission presented an action plan on CRMs in September 2020, aiming to make Europe’s supply more secure. The action plan seeks to bolster internal EU capacity building (e.g. by developing viable industrial projects on CRM exploration, extraction, processing and refining), and to strengthen and diversify external sources of CRMs (e.g. by sealing strategic partnerships with resource-rich third countries). Also announced in the new industrial strategy, the action plan on synergies between civil, defence and space industries of February 2021 aims to encourage more effective use of resources and technologies in these sectors, and generate economies of scale. The EU’s security and defence capabilities are fragmented, which has increased strategic dependencies over the past few years. The Commission’s February 2022 roadmap on security and defence technologies focuses on ways to bolster research, technology development and innovation (RTD&I) and to reduce the EU’s strategic dependencies. It promotes an EU-wide strategic approach to improve coordination of EU and national RTD&I programmes and instruments for critical technologies.
The May 2021 update of the industrial strategy focused on addressing the impacts of the pandemic, the evolving global competitive context, and the acceleration of the twin transitions. It put forward a range of additional actions to address strategic dependencies. The Commission identified 137 products and raw materials used in sensitive ecosystems on which the EU is highly dependent (mainly in energy-intensive and health sectors). The technologies identified as strategic areas for Europe’s industrial future are active pharmaceutical ingredients, batteries, cloud and edge computing, cybersecurity, hydrogen, IT software, photovoltaic panels, raw materials, and semiconductors.
The Commission is also supporting new industrial alliances to develop Europe’s strategic capacities in key areas, and to facilitate the identification of potential investment projects. These alliances involve a wide range of partners in specific industries and value chains. In recent months, alliances of these kind have been forged in the areas of raw materials, clean hydrogen, industrial data, edge and cloud microelectronics and cloud technologies. Industrial alliances can include specific work strands to reduce strategic dependencies for the security and defence sectors. This is being considered in the alliances for industrial data and semiconductors.
Important projects of common European interest (IPCEIs) have also gained in importance recently as a way to support strategic industrial projects. IPCEIs are a state aid tool designed to overcome serious market failures concerning breakthrough innovation and key infrastructure. Initiated by Member States, they bring together key European players The Commission has recently approved two IPCEIs concerning the battery value chain (in 2019 and 2021). A new IPCEI on microelectronics was put forward in December 2021 in the context of the EU’s recovery plan. Moreover, the French Presidency of the Council of the EU announced that it would support the development of IPCEIs on hydrogen, electronics, cloud computing, and the healthcare industry.
In December 2021, under the ongoing review of EU competition tools, aimed at enhancing the resilience of the single market and enabling EU industries to lead in the green and digital transitions, the Commission reviewed its criteria for assessing potential IPCEIs. The aim was to align the criteria more closely with EU strategies, making the setting-up of IPCEIs more transparent and making it easier for small and medium sized enterprises (SMEs) to take part.
Safeguarding the EU’s capacity to set standards is also key to increasing its industrial competitiveness and strategic autonomy. The Commission adopted a new EU standardisation strategy in February 2022, aiming to leverage the impact, size and integration of its single market to set global standards.
Regulatory frameworks for key industries
The Commission has also put forward a number of regulatory frameworks targeting key industries, for instance the semiconductor (microchip) sector. Microchips are the engines of the digital transition. They are critical technologies, meaning that they are needed across the civil (including security), defence and space industries. The ‘European chips act package‘ adopted by the Commission in February 2022 includes a proposal for a regulation setting up a framework of measures to strengthen Europe’s semiconductor ecosystem (the ‘chips act’). It is based on three pillars, each focusing on a different timeframe. The first pillar (long-term measures) builds on a ‘chips for Europe initiative’, bolstering technological capacity building and innovation. The second pillar (medium-term measures) sets up a framework to boost projects aimed at improving the EU’s security of supply, by attracting investments and enhancing production capacities. The third pillar (short-term measures) establishes a coordination mechanism between the Member States and the Commission to monitor the supply of chips. Importantly, in the event of supply disruptions and shortages, a ‘crisis stage’ may be activated, allowing the Commission to implement a range of emergency measures: the Commission will ask undertakings to provide information about their production capacities, or primary disruptions, in order to gain a better understanding of the market situation. Furthermore, the Commission may oblige some foundries to accept and prioritise an order of crisis-relevant products (‘priority rated orders’). The Commission may also decide to act as a central purchasing body on behalf of some Member States for the public procurement of some crisis relevant products for certain critical sectors. Moreover, it could introduce an export control regime in some circumstances. A Commission recommendation on a common toolbox to address semiconductor shortages and an EU mechanism for monitoring the semiconductor ecosystem includes possible crisis response measures that Member States could implement before the new regulation enters into force. The Commission has claimed that the chips act would mobilise more than €43 billion in public and private investments.
The December 2020 proposal for a regulation on a new regulatory framework for batteries aims to enhance circularity and resource efficiency with increased recycling and recovery of critical raw materials, to help enhance Europe’s strategic autonomy. It sets minimum levels of recovered cobalt, lead, lithium and nickel from waste for reuse in new batteries. In December 2021, the Commission proposed a hydrogen and decarbonised gas market package – key feedstock for industrial processes. The package aims to strengthen energy security, and global industrial leadership.
A wide range of EU programmes offer funding that can be used to improve the strategic autonomy of EU industry. More specifically, within the Next Generation EU (NGEU) recovery package, the Recovery and Resilience Facility (RRF, €724 billion (in current prices), i.e. 90 % of Next Generation EU funding), is expected to improve the resilience, crisis preparedness, adjustment capacity and growth potential of Member States, contributing to the strategic autonomy of the EU. It is up to the Member States to choose the reforms and investments to be included in their national recovery and resilience plans (NRRP). These reforms and investments should help make the EU more resilient and less dependent by diversifying key supply chains.
A range of measures are possible. Member States may decide for instance to fund cross-border and multi-country projects, in particular under European flagships – e.g. ‘Scale-up’ aiming to double the share of EU companies using advanced cloud services and big data by 2025. Each Member State must dedicate at least 20 % of the expenditure for its recovery plan to measures contributing to the digital transition (e.g. investment in digital-related industrial research and innovation). One year on from the introduction of the RRF, the first implementation report shows that 15 NRRPs include measures dedicated to the hydrogen sector. Many investments address the whole hydrogen value chain. Funding for new IPCEIs – on microelectronics (12 RRPs) and cloud technologies (6 NRRPs) are among the multi-country projects with the highest take-up in the NRRPs. Other EU programmes also allow targeted research and innovation efforts to reduce the gap with global competitors and thereby reduce strategic dependencies (Horizon Europe, Connecting Europe Facility, European space programme and European Defence Fund). The European Defence Fund aims to build an integrated EU defence industrial base, investing throughout defence industrial value chains (the EU defence industry being quite fragmented).
A major development in the area of transatlantic cooperation was the establishment of the EU-US Trade and Technology Council (TTC) in June 2021, designed to strengthen the partners’ technological and industrial leadership. In its joint inaugural statement following the meeting held in Pittsburgh (US) on 29 September 2021, the TTC prioritised areas where it intended to achieve outcomes by the next meeting, scheduled for May 2022 in France. These include work on: standardisation, in particular in artificial intelligence (AI); reduction of strategic dependencies in semiconductor supply chains; and joint tackling of global trade challenges, such as industrial subsidies, unfair behaviour of state-owned enterprises and other trade and market distorting practices, as well as export controls, including in emerging technologies, (with legitimate concerns about forced technology acquisitions). Other strands of work are climate and clean technology, secure and resilient supply chains, active pharmaceutical ingredients and raw materials.
The international dimension of industrial policy focuses on issues such as improving integration of EU companies, not least SMEs, in international value chains; mutual conformity assessments; and influencing the rules and standards affecting industry globally. The EU is also striving to stay at the forefront of the future-oriented industrial technologies that are necessary for the digital transformation and technological sovereignty. It supports cluster collaboration with the third countries, for instance on industrial ecosystems and raw materials, having concluded administrative agreements with Canada, Singapore, South Korea and the US. Negotiations with New Zealand, the UK and South Korea have begun for associated participation (on a co-funding basis) in the Horizon Europe programme.
Autonomy also means establishing a level-playing field through legislative instruments such as the carbon border adjustment mechanism (CBAM) and international procurement instrument, as well as safeguarding the single market and industry against undesirable external influences, whether in the form of foreign investment, distortive foreign subsidies or coercive practices. Another significant initiative in this aspect is the proposal for corporate sustainability and due diligence. The EU has also added disciplines removing or reducing trade barriers and export restrictions of raw materials into many of its multilateral and bilateral trade agreements.
As part of its CRM action plan, the Commission is proposing to forge strategic partnerships with resource-rich countries. It has already established such partnerships with Canada and Ukraine, and commenced other international pilot partnerships with six African countries: Democratic Republic of Congo, Mozambique, Namibia, Gabon, Zimbabwe and Senegal. These efforts, in addition to the TTC, fit into a broader picture of diversifying supply chains and commercial routes important to the EU. Relevant policy tools include: supporting open trade through free trade agreements (FTAs), reinforced with the 2021 Enforcement Regulation; and seeking to reinvigorate and reform the WTO, as experts consider a robust international trade framework to be conducive to increasing industrial competitiveness and investment in knowledge-intensive industries.
The Versailles Declaration of EU Heads of State or Government of 11 March 2022 reiterated the urgent need to secure the EU’s supply of CRMs, chips, and digital technologies. It stressed the importance of research and innovation, IPCEIs and alliances to support strategic industrial sectors, and stressed that efforts would be made to complete the EU’s trade and competition policy toolbox.
Obstacles to implementation
EU industrial policy is developed and implemented at both EU and Member State levels, but with the main responsibility resting with the latter. As this policy is cross-cutting, and has both horizontal and sectoral dimensions, it is complex and difficult to monitor with clear targets, indicators, measures and time scales. The multitude of interests, and the complex and dynamic environment in which industry, technology and geopolitics are intertwined mean that picking winners is risky. Furthermore, the EU lacks strong competences in some areas crucial to the digital transformation of industry, with a shortage of digitally skilled workers, for instance. Reshaping and diversifying EU supply chains and commercial routes are predominantly decisions for the private sector.
Furthermore, some observers have highlighted that the contribution of the RRF to strategic autonomy is too vaguely addressed in the RRF Regulation and in the Commission guidance for Member States. Furthermore, the RRF impact on industry will be suboptimal as NRRPs are too nationally oriented. In addition, the incentive for Member States to set up cross-border projects is too weak. Some analysts consider that the participation of the EU in the global subsidy race in the chip sector is a mistake. The chips act has many flaws – it is too vague on the type of foundries that should be supported, and on the functioning of the security of supply mechanism. In addition, the involvement of Member States in a body advising the Commission entails the risk that they might choose to advance their own national priorities rather than European ones. It has been argued that the revision of the Commission guidance in November 2021 failed to address any of the IPCEIs’ major flaws, e.g. the lack of broad-based participation of Member States and SMEs, and the lack of transparency on the decision to invest public funds and on project governance. This situation risks undermining fair competition within the single market.
The TTC may fail to deliver on its ambitious cooperative agenda if the differences between the Member States on issues such as the creation of national industrial champions or a chips manufacturing ecosystem prevent the EU from speaking with one voice and as an equal with the US. Furthermore, important developments outside of the scope of the TTC, such as the EU’s ambitious efforts to regulate global digital markets, which sometimes cause concerns in the US, may make it harder to reach a transatlantic consensus. There are also important nuances on approach of both sides to China, which may diminish the TTC’s effectiveness. At this stage it is impossible to predict whether the TTC will establish meaningful cooperation – a sort of strategic interdependence of industries to create synergies – or if it will end up delivering only minimal results, such as making sure industrial projects on one side are not unintentionally hampered by another.
Attempts at forming meaningful alliances on raw materials may be hampered by a tightening of the commodities markets and global scarcities arising from Russia’s invasion of Ukraine.
Policy proposals by experts and stakeholders
On a conceptual level, strategic autonomy is not precisely and uniformly defined in EU industrial policy. Establishing a dedicated governance system based on common definitions and criteria would help to avoid national priorities from clashing with EU level priorities. To increase Europe’s strategic autonomy in rare earth elements, stakeholders have recommended: creating a level playing field with rare earth producers worldwide (such as China) that have lower production costs owing to state subsidies and lower social, labour, and environmental standards; encouraging downstream industry to diversify its supply chains, work with European and local suppliers, and support the development of capacities for a circular economy of electric motors; ensuring that end-of-life products and waste materials containing rare earths stay in Europe, by facilitating the re-processing and recycling of products through regulations and standards; and leveraging private investments in the emerging European rare earths value chain using all financial levers, including state aid tools (e.g. a dedicated IPCEI).
To increase EU industry’s resilience to shocks along its value chains, some analysts have stressed that it is necessary to improve the governance and transparency of strategic value chains. In addition, public-private partnerships (PPPs) could help to deliver on strategic projects. Importantly, it is necessary to ensure that measures taken at EU, national, regional and local levels to support industry are taken in a coherent way. Industry representatives have highlighted that better resilience of supply chains can be achieved through a combination of approaches, ranging from finding substitutes, encouraging diversification, forging strategic relationships with suppliers, stockpiling, or encouraging domestic production. Industrial strategic autonomy needs to be rooted in digital and green transformation. To boost the latter, the EU could consider establishing a European Climate and Sustainable Development Bank, aiming to export the European Green Deal policies. This would allow EU industry to enter new, rapidly growing markets, and use the gains to further improve its standing as a champion of environmentally-friendly manufacturing. To achieve meaningful breakthroughs in green technologies, global cooperation in research and development – particularly during pre-commercial phases – can produce cost advantages, allow risk-sharing and achieve greater efficiencies from the combination of complementary knowledge and synergies. The EU could also step up transatlantic research and innovation cooperation significantly by using the reenergised relationship with the US to push for its association with the Horizon Europe programme, more specifically within the digital, industry and space cluster. EU-US collaboration includes the defence sector. To monitor digital transformation of industry at national level, the EU could develop a system in which the Council, the Commission and the Parliament monitor progress made by each Member State and the EU. This could be aligned with the goals of the digital decade. After each country designs a plan to achieve concrete results – a national decade strategic roadmap – the Commission could report annually on progress. This could also include cooperation with like-minded partners from Asia or North America. In order not to leave European SMEs behind, a dedicated digital policy for SMEs may be necessary. It would comprise targeted use of digital innovation hubs, supporting the retraining and digitalisation of the SME workforce, and dedicated financing instruments.
Looking beyond the mapping of strategic dependencies carried out by the Commission, some experts suggest that the next step would be an in-depth analysis of the strategic value chains to identify the weakest links and find credible alternatives to offset their vulnerabilities. This exercise should also include identifying missing skills and professional profiles and lead to an action plan with timed targets and urgent measures to be taken at EU and Member State level.
Position of the European Parliament
Right from the beginning of the pandemic, the European Parliament stressed that the recovery package should improve the EU’s resilience and strategic autonomy. In its resolution of 25 November 2020 on a new industrial strategy for Europe, Parliament stressed that securing the EU’s sovereignty and strategic autonomy required an autonomous and competitive industrial base, and huge investment in research and innovation in key enabling technologies, innovative solutions, and key value chains. Parliament believes that investment should make it a priority to support the security, defence, climate technology, food sovereignty and health sectors. Supply chains should be strengthened, shortened, made more sustainable and diversified. Moreover, for Parliament, Europe’s strategic autonomy cannot be achieved without a competitive and sustainable EU ecosystem for CRMs. Europe needs to bolster its position in all stages of the raw materials value chain. Parliament also called on the Commission to devise a strategy for smart reshoring, to redeploy industries to the EU, increase production and investment, and relocate industrial manufacturing.
In its resolution of July 2021 on trade-related aspects and implications of Covid-19, Parliament called for incentives, including through state aid, for EU businesses to make their value chains more sustainable and to shorten or adjust their supply chains where it could benefit the EU’s economy, resilience, geopolitical objectives and strategic autonomy.
Parliament believes that an integrated approach throughout the CRM value chain, from waste collection and product design for recyclability to material recovery, is an essential strategy to increase the EU’s CRM supply, as explained in its resolution of 24 November 2021 on a European strategy for CRMs. An active industrial policy is needed to support the value chain, supporting for instance research and innovation on the recycling and substitution of CRMs, and product design. EU support and funding is required to improve efficiency, substitution, recycling processes and closed material cycles. Parliament also called on the Commission and the Member States to set up an IPCEI on CRMs to reduce criticality and dependence, dealing with recycling, reuse, substitution, reduction of material use and mining. The projects supported under the IPCEI should unlock the unfulfilled potential in CRM-rich EU countries. Furthermore, Parliament recommended that the Commission encourage Member States to carry out strategic stockpiling as a way to reduce CRM dependencies, and propose minimum recycled CRM content targets, CRM recycling targets and a monitoring framework. Concerning CRM sourcing in the EU, Parliament supports responsible and sustainable projects, and has stressed that awareness of the environmental footprints of imported CRMs from third countries should be raised. The EU should also diversify its supply sources of CRMs to reduce third country reliance.
|In focus: Impact of the conflict between Russia and Ukraine on European industry|
This paper was drafted just days after Russia invaded Ukraine. Without doubt the war will have far-reaching consequences for European industry and global supply chains. CRMs can be widely found in Ukraine, which holds deposits of 20 out of 30 such materials. Ukraine is home to half of the world’s neon gas production – critical for manufacturing semiconductors. In July 2021, the EU and Ukraine had launched a strategic partnership to enhance cooperation in the field of raw materials and batteries. The EU car industry has already been affected by the closure of small but important suppliers in Ukraine.
The sanctions and disrupted trade routes are also hindering car and parts shipments to and from Russia. Moreover, parts of the European industry rely on raw materials imported from Russia. For instance, 20 % of the EU’s supply of phosphate rock, which is on the EU’s CRM list and is used to produce mineral fertilisers, comes from Russia. Although Russia has not yet included raw materials in its sanctions, their prices are skyrocketing and some – including nickel, palladium (Russia represents 40 % of the world’s production) and platinum – will not be easy to source from elsewhere. The scarcity of these products will reverberate throughout industry as they are used in multiple products.
Furthermore, as energy costs are expected to skyrocket, energy-intensive industries, such as automotive and chemical, are expected to be hard hit. This may have grave consequences for the future of EU industry as many energy-intensive industries are embedded in strategic value chains. Around half the energy that powers EU industry is based on gas. On the other hand, the conflict is expected to further bolster the EU’s efforts to reinforce its defence industry. Commentators are divided on whether the conflict will accelerate or slow down the phasing out of fossil fuels – both possibilities having significant consequences for EU industry and its competitiveness.
Listen to policy podcast ‘Future Shocks 2022: Establishing greater strategic autonomy for European industry‘ on YouTube.