Forget austerity and bailouts. Southern Europe has an even bigger problem: a glut of unemployed young people. If this trend continues, workforces will regress in productivity and pensions will run out of funding over the next decade.
Spain is in the most dire situation, as 46.4 percent of young people are out of work, while Italy is the most fortunate southern country, with 29.1 percent of its young labor force left jobless. But even this is far above the Euro Area average of 20.8 percent.
As I write in the EU Observer, workforces are ageing as young Southern Europeans remain out of work. Spain’s workforce is ageing at the fastest rate, as it had the largest magnitude decrease in the share working young during 2000-2012. Italy has the most aged workforce, as the percent of employment decreased over the same time period in all age groups through 39 -- the broadest age decrease among southern countries.
The trends in Spain and Italy contrast with those in Germany, which experienced a mild decrease (relative to Southern Europe) in employment among the very young, a virtually insignificant decrease in employment among workers in their late 20’s, and an increase of 7 percent in those aged 20-24.
In the south, low birth rates compound the problem of replacing retirees with new workers.
Between 1990 and 2010, Spain averaged 1.29 children per woman, according to Eurostat. That's rock bottom. Portugal averaged the highest rate, at 1.44, which is still below the eurozone average of 1.58.
Not only can young people not find jobs, but there are fewer and fewer of them each year.
Even though young people will find jobs as the old retire, their inactivity or underemployment during the beginning of their careers threatens to undermine workforce productivity in the future.
With every passing month that young people remain unemployed, they lose valuable opportunities to enhance their skills. Many are forced to work on temporary contracts, which give employers more scope to fire people, to give smaller perks and to pay lower wages.
According to the European Commission, the proportion of workers under 25 on temporary contracts in Spain, Portugal and Italy are all above the EU average. Spain and Portugal exceed the average by more than 20 percent. Greece is the only southern country with a lower-than-average incidence of temporary contract labor.
Employers have little incentive to invest in the education and training of employees who won't stick around for very long.
As a result, Spain, Portugal and Italy have the lowest levels of "human capital" in Western Europe, according to a 2006 Lisbon Council report (there was not enough data to rank Greece).
Already lacking in skills compared to the rest of Europe, the southern countries will fall even further behind once older workers retire over the next 10 years and the young - having been shut out of regular employment during their youth - become mature workers but with little experience.
Given high levels of unemployed young people now, ageing workforces, and a declining number of potential replacements, Southern Europe is facing a ticking time bomb of productivity decline and pension affordability in the next decade.
Countries can defuse it by liberalizing their rigid labor markets.
Germany did this between 2003 and 2005 when it deregulated self-employment and project contracts and cut back the unemployment benefit system to incentivise work. German youth unemployment has been falling since 2005.
The International Monetary Fund lowered Greece, Italy, Portugal and Spain's grades on labour market efficiency in 2010.
Despite some reforms undertaken since then, courts in Italy and Spain still squeeze employers by forcing them to pay up to two years of severance pay if they fire people for "economic" reasons. Italian businesses are still forbidden from sacking people for poor performance of their duties.
Not only will increasing labor flexibility create more job opportunities for young people, inject much-needed youth into ageing workforces, and defuse the pension bomb set to explode in the next decade, it also boosts competitiveness and thereby creates jobs through economic growth. This has the potential to become a strong positive feedback loop as businesses reap economies of scale by offering more and more jobs in the face of competitiveness gains.
After the 2003-2005 reforms, Germany became more competitive (growth in its labor cost index slowed relative to the Eurozone average--look for the kink in the curve at year 2003) and youth unemployment plummeted.
But a large obstacle standing in the way of labor reform in the south is, ironically, also its primary beneficiary: the young. Protesting against measures that would take away the regulatory entitlements of older workers are unfortunately popular among the youth of Southern Europe.
In the meantime, the time bomb nestled in Europe's southern region keeps on ticking.