The EU Competitiveness CompassA Roadmap for Decarbonization and Growth Implications for Japan’s GX Strategy

in Japanese

Erik Goto, Researcher, Renewable Energy Institute

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Introduction

On 29th January, European Commission President Ursula von der Leyen presented the ‘Competitiveness Compass’, a key document that will act as a roadmap for the next five year ¹²³. President von der Leyen has described the document as the ‘north star’ for the Commission for the upcoming 5 years, revolving around three main pillars, namely innovation, decarbonization and competitiveness, and increasing resiliency. Furthermore, the Commission President made a case for an ‘unprecedented simplification efforts’ to speed up investments in future industries and decarbonization, making EU rules and regulation easier to apply across the block. It is a clear reaction to the turbulent global economic landscape, where the tension between Trump administration and China are increasing, and EU’s economic figures declining. This paper will give an overview of this document, discussing its importance as a renewed commitment to decarbonization and economic competitiveness, as well as its implication to partner countries, including Japan.

Overview

“Competitiveness Compass is basically the translation of the Draghi report and the input from the Letta report into a communication of the commission”, said von der Leyen at the presentation on 29th January. It has clearly adopted some key observations from the Draghi’s report on future competitiveness and Letta’s report on reforming the European single market⁴⁵. European Union can no further rely on many of the factors that supported the economic growth in the past: the open global trade system that provided strong external demand is slowing down, access to cheap and abundant fossil fuel energy has been cut off, and the period of relative geopolitical stability seems to be closing to an end. Europe has enormous investments needs for modernizing its economy, financing the green and digital transition, and ensuring the continent’s security. However, the growth engine has been gradually weakening for years. The Competitiveness Compass is hence a guideline for the second term of von der Leyen Presidency, listing priority actions and structural changes to the EU economy to reignite dynamism in Europe.

Inspired by the Draghi report, the Compass states that the new competitiveness model will be based on innovation-led productivity. Europe’s industrial structure has long been dominated by traditional sectors that spend less on research and innovation than tech-led sectors in the US. In fact, the growth of labour productivity measured in GDP per hour worked has been significantly lower in both in the EU and in Japan, compared to the US, where growth in the past decade was mainly fuelled by automation, AI, digitalization, and a strong growth in high-productivity tech sectors (Graph 1). Thus, the Commissions’ plan to boost productivity through innovation is based on a sound observation of global trends. For this static industrial structure to change, the compass identifies three transformational imperatives to boost competitiveness, acting as the pillars for the next five years.

Graph 1: Productivity levels measured in GDP/hours worked 2008-2023

1st Pillar: Closing the Innovation Gap

President von der Leyen noted that research and development is still strong in the EU, with patent application being on par with US or China. However, only 1/3 of such patents are commercially exploited in the EU, leaving a gap in scaling up innovation. The Compass focuses on reigniting Europe’s innovation engine with ‘future technologies’, such as AI, robotics, biotechnology and space industries. Starting and scaling up companies in Europe, however, is currently hindered by market fragmentation. If a company decides to expand its operation within the EU, it faces 27 different, fragmented requirements in the single market, from taxation, labour, corporate, or insolvency laws. Along with a dedicated EU Start-up and Scale-up Strategy, the Commission also proposes a 28th legal regime, which will simplify applicable rules and reduce the cost of failure. The 28th legal regime aims to establish an optional, EU-wide legal framework that would coexist with, rather than replace, the national legal systems of the 27 member states. This is also part of the move to simplify legislation for sustainable finance, due diligence and taxonomy rules, as businesses in the EU are increasingly raising concerns about the complexity in EU regulations.

2nd Pillar: A Joint Roadmap for Decarbonization and Competitiveness

Despite the major simplification effort, von der Leyen was adamant to underline that the EU “stays on the course for the green deal objectives without any questions.” She pointed out that transition to the net-zero economy is essential for prosperity in Europe, and the EU is and will be open to business for those looking for a predictable clean tech investment.

Decarbonization, as stated in the Draghi report, is a powerful driver of growth when they are well integrated with industrial, competition, economic and trade policies. This will be the basis for the Clean Industrial Deal which will be announced in end of February. The Deal will give further details on how to achieve ‘deep transition’ for traditional industries and expand the new, climate-friendly technologies at the same time. The Commission will start a strategic dialogue with the automotive industry, work out an action plan for iron and steel industry as well as chemical manufacturing. The question of high energy prices will also be addressed as part of the second pillar, and reducing energy prices will require tackling structural issues and further integration and structural adjustments for achieving an efficient energy system.

3rd Pillar: Reducing Excessive Dependencies and Increasing Security

The Compass addresses the global economic system that is becoming more fractured by geopolitical competition and trade tensions. Security is a precondition for EU firms’ economic success and competitiveness, and to maintain that, the EU needs to integrate security and strategic autonomy considerations in its economic policies. Securing stable supply chains and a fair trading environment contributes greatly to the competitiveness and innovation in the continent. As such, the EU will continue to seek new ways of deepening partnerships and creating benefits to its businesses, and keep its reputation as a fair, reliable and predictable partner. To reduce dependencies, the Commission will seek to further diversify the suppliers of key goods and services, start a common procurement for critical raw materials, and ensure the resilience of its supply chains for essential clean and digital technologies, such as semiconductors.

A major revision of European defense industry is also expected, as Europe has for long time outsourced its security and protection. The defense sector is suffering from structural weaknesses and decades of underinvestment, and further coordination between Member States are needed to address the fragmented defense projects.

Competitiveness through Decarbonization

During the presentation of the Competitiveness Compass, both President von der Leyen and Executive Vice-President for Prosperity and Industrial Strategy, Stéphane Séjourné emphasized multiple times that EU is not turning its back to the 2019 Green Deal objectives. Rather, the Commission is seeking ways to achieve the set objectives in the fastest and most efficient way. The method for reaching carbon neutrality needs pragmatism and flexibility, and it is through a new Clean Industrial Deal that the Green Deal objectives are going to be achieved. As the term suggests, a deal involves agreements between two or multiple parties, requiring cooperations and dialogues from the industry, businesses, policy makers, national governments and other stakeholders.

As emphasized in the Draghi report, decarbonization will drive the future of competitiveness in the EU, and it should not derail from the goal that has already been set out in 2019. The Commission President was right to emphasize that EU cannot abandon its Green Deal objectives. For EU to reduce its energy costs and make it resilient to global fossil fuel price uncertainties, the block needs to follow through with the green transition. To the question from the press on whether commission will have the political support of member states, von der Leyen replied that heads of states and governments agreed on a political document in November 2024. The Budapest Declaration is an explicit recognition of the Draghi and Letta reports by the leaders of Europe, and the recognition that there needs to be a swift and structural change in the EU economy is present despite disagreements on how to manage decarbonization. As von der Leyen said, “We have the plan, we have a roadmap, we have the political will. What really matters is speed and unity”.

There is a false belief that decarbonization is detrimental to European competitiveness and security. Indeed, it is certainly becoming visible that there is a trade-off in short- and medium-terms⁶. Decarbonization requires large public investments and creates costs to European businesses which needs to be financed by taxes or cost-cuts elsewhere. However, green investments are fundamental for the EU to meet its security objectives, as being dependent on fossil fuel imports has already exposed EU to global market volatility, undermining its competitiveness. Decarbonization, since the Russian invasion of Ukraine and the subsequent energy crisis in 2022, has become not only a priority but the only available way to structurally secure energy supply and lower costs for the European economy. The renewable energy’s cost cutting effect has yet to be felt in the electricity prices across Europe, and populist political movements are fast to take advantage of discontent among citizens. Hence, it is also the task of the Commission to ensure a clear and reliable path for enhancing competitiveness through decarbonization, to secure the trust of citizens on its initiatives.

Moreover, there are increasing concerns from civil society stakeholders who fear that the EU is moving toward deregulation rather than simplification, putting Green Deal objectives and environmental protection at risk⁷. Furthermore, reopening previously agreed legislation on sustainability reporting could create regulatory uncertainty and penalize companies that have already invested in compliance with the new regulations. However, it is clear that EU sustainability-related regulations have become too complex, and a new approach is needed to accelerate decarbonization. Whether these new approaches will still ensure the protection of human rights and the environment while also fostering economic growth remains a major challenge for the Commission.

“Coordination, Coordination, Coordination”

In face of the sense of impending crisis that fuelled the Commission to prepare the Competitiveness Compass, it calls for stronger cooperation among members states to join efforts to finance the decarbonization. The EU has many strong assets, such as the Single Market, highly skilled labour market and high private household savings. It is a question of how to enable these assets to contribute towards strengthening competitiveness.

The Compass sets out plans to lower the barriers for the single market, as suggested by the Letta report in April last year. A creation of simplified and unified rulebook for businesses in the EU will certainly accelerate investments in key sectors. On the question of skills, the Commission will present an initiative to build a Union of Skills, focusing on adult and lifelong learning, future-proof skills creation as a mean to secure socially just transition.

The question of financing decarbonization will require more work by the Commission and agreements between Member States. As Bruegel pointed out, the main source of EU grants for green transition is running out⁸. With Recovery and Resilience Facility, which secured over 200 billion euros for green transition since 2021 ending in 2026, there will be a gap of around 180 billion of funds for the period between 2024 and 2030. Furthermore, the Draghi report assessed the combined additional investment needs in Europe at 750-800 billion per year by 2030, representing around 5% of EU’s GDP per year. However, there is a strong disagreement to what extent should higher public investment be provided at EU rather than member-state level. The more fiscally conservative countries (e.g. the Frugal Four: Austria, Denmark, the Netherlands, Sweden, as well as Germany) argue for tight fiscal policies and usually oppose common EU debt. The new European Competitiveness Fund, which will be introduced from the next Multiannual Financial Framework (2028-2034), will work to steer funds more effectively to strategic projects. However, it does not address the budgetary gap left after the termination of Recovery and Resilience Facility.

Public investments work to catalyze private investments; however, a stronger and better coordination is required for the EU and its member states to mobilizing private investments. The Commission has rightly pointed out that a more effective financial system is required to channel private savings into the strategic investment goals of the EU. According to the Commission president, EU’s household savings was 1.4 trillion euro per year as opposed to 800 billion euro in the US, yet the financial sector does not channel them effectively to productive investments in the economy⁹. The effort to integrate capital markets in the EU has been ongoing for over a decade, but it has stalled for lack of strong political commitment and prioritization¹⁰. Within 2025, the Commission will present a Strategy on a Savings and Investment Union, a rebranding of Capital Market Union, promoting low-cost savings and investment products at EU level, with a goal of financing innovation and boosting productivity.

Relevance to Japan – A Chance for Stronger Strategic Cooperation

Japan is mentioned once in the Competitiveness Compass (alongside Australia, Canada, New Zealand, Switzerland, US) as a country with which negotiations for reducing cost of conformity procedures are underway. In the turbulent global trading landscape, EU is seeking to work with likeminded countries and regions, and also expand its bilateral trade relations. According to the “foreign economic policy”, a new term coined by Draghi, EU’s economic security depends on resilient supply chains as well as dependencies and potential pressure points related to exports, foreign direct investments, and global economic relations in general ¹¹¹²¹³. The foreign economic policy includes building and maintaining a free, fair and rules-based trade system, investing in mutually beneficial partnerships. EU is positioning itself as a reliable and predictable trading and business partner, a reputation that Japan also shares.

To further strengthen this mutually beneficial and trust-based relationship, Japan and EU will need to work on harmonizing their carbon markets. Japan is moving towards mandatory carbon trading system from 2026 under GX-ETS (Green Transformation Emission Trading Scheme), which is an important step for harmonizing industry related climate action between EU and Japan. However, the question remains around the CBAM (Carbon Border Adjustment Mechanism) and its compatibility with GX-ETS. CBAM imposes a carbon price on certain imported goods based on their embedded emissions to prevent carbon leakage and ensure fair competition with EU industries subject to carbon pricing. Recently, the EU Climate Commissioner Wopke Hoekstra said that the EU is considering a major revision to CBAM as part of the rule simplification efforts, planning on scaling back the carbon levy to just 20% of companies that account for nearly all the emissions involved¹⁴. However, CBAM-covered products from Japan are mainly concentrated in the steel sector, accounting for about 3% of Japan’s total exports to the EU (272.8 billion yen in fiscal year 2023)¹⁵. As a result, carbon-intensive products such as steel are expected to continue being affected as these products could become less competitive in the EU market if they have high embedded emissions compared to their European counterparts.

First of all, it is an utmost importance that the carbon price paid under GX-ETS is recognized “effective” by the EU. The CBAM Regulation Article 9 outlines the conditions under which carbon price paid in a third country can be recognized in the EU. Accordingly, a reduction in CBAM tariff can be claimed “only if the carbon price has been effectively paid in the country of origin” (Article 9(1)).¹⁶ If GX-ETS is recognized as an effective system, and if the carbon prices in Japan are equivalent to the EU-ETS carbon prices, Japanese products imported to the EU will not be subjected to paying the carbon tariff. However, if the GX-ETS prices are too low, CBAM can be expected to correct for the differences between the two carbon pricing system. Thus, Japan must consider setting a minimum carbon price floor in GX-ETS to align with EU level, and employ a transparent and verifiable emission data system that meets the EU’s MRV (Monitoring, Reporting, Verification) framework to accurately report embedded emissions. As CBAM enters into force from 2026, this becomes a matter of urgency.

Furthermore, if the scope of CBAM is expanded to include other products in the future such as more downstream and intermediate products, as well as chemical products, the Japanese exports to the EU can be faced with increasing burdens. As such, Japanese industry should also aspire to accelerate decarbonization and develop low-carbon production technologies in the hard-to-abate sector to remain competitive in the European market and avoid being subjected to high carbon levy. Nevertheless, as Director General for Climate Action of European Commission Vandenberghe said during an event organized at the EU-Japan Centre for Industrial Cooperation on 17th February, EU is seeking for an ‘alliance for industrial modernisation’ with Japan, which also needs to include clear set of rules and norms for avoiding regulatory uncertainties and encouraging trade and investments between the two partners¹⁷.　For this reason, it is important to recognize the crucial similarities between Japan and the EU in terms of industrial systems and energy dependence, and the ways in which increased renewable energy can contribute to a more resilient and competitive economy.

President Trump is dismantling the US climate and environmental policies, pushing for the becoming “energy dominant”¹⁸. The push for fossil fuels in the US will further widen the EU-US energy price gap, undermining the competitiveness of EU’s energy-intensive industries¹⁹. To address the competitiveness gap stemming from energy prices, EU needs to further accelerate its own energy transition away from fossil fuels. As an energy importer, Japan will also be negatively affected by such price gaps, and acceleration of energy transition becomes an even stronger argument for economic competitiveness. However, if Japan was to lose ground in the global green industry race further, EU, China and other countries are already moving to secure deeper cooperations with countries that have committed themselves to energy transition²⁰. The alignment of GX policy to global and EU standards can bring important business opportunities for clean technology and renewable energies now that the US is turning towards a more protectionism in global trade.

Conclusion

The Competitiveness Compass serves as a crucial blueprint for the EU’s economic and industrial strategy over the next five years. It reflects a clear commitment to reinforcing innovation, decarbonization, and resilience in response to a rapidly shifting global economic landscape. By integrating the recommendations from the Draghi and Letta reports, the EU acknowledges the structural challenges it faces, including weakened growth engines, geopolitical tensions, and the imperative for large-scale investments in the green and digital transition. The document not only underscores the urgency of maintaining the Green Deal objectives but also reaffirms the role of decarbonization as a central pillar of future competitiveness.

The urgency for action can clearly be read from the text, however, there are a mountain of tasks and challenges ahead, which will require a strong political consensus to resolve. There are many questions in which the opinions of Member States diverge, from how to finance the transition, what trade deals to pursue, how to envision the defense of the continent, as well as how to support incumbent and emerging industries.

For Japan, the EU’s renewed focus on competitiveness through decarbonization presents an opportunity to deepen strategic cooperation. As the global energy landscape undergoes further shifts, Japan and the EU should work together to set high standards for decarbonization, trade, and investment frameworks, ensuring long-term economic stability and competitiveness in an era of increasing geopolitical and economic uncertainty.