Digitalization and higher R&D readiness – way to foster income convergence in CESEE

After the fall of socialism and a short transition period, Central, Eastern and Southeastern Europe (CESEE2) has been outperforming the growth of Western Europe and thus helped reduce the relative gap vis-à-vis the EU-15 in GDP per capita (purchasing power standard) by one-third. The Great Recession has visibly slowed down the pace of convergence, however. The current growth model, which is based mostly on capital accumulation, has thus been challenged, calling for CESEE economies to become more innovative and knowledge oriented. Focusing on returns from different types of investments on total factor productivity (TFP), our panel data analysis suggests that the same amount of money invested in the information and communication technology (ICT) sector tends to have a higher immediate spillover effect on TFP growth than investment in infrastructure or machineries. Although capital accumulation is likely to remain an important growth factor in CESEE in the years to come, a sufficient Level of computer skills and Internet usage support knowledge-based investments, yielding relatively high returns. Thus, CESEE economies could potentially benefit from going digital and spending more on research and development (R&D), but on condition that complementary factors are in place.