The rise of Digital Challengers

How digitization can become the next growth engine for Central and Eastern Europe

The rise of Digital Challengers 1 The rise of Digital Challengers

How digitization can become the next growth engine for Central and Eastern Europe

Jurica Novak Marcin Purta Tomasz Marciniak Karol Ignatowicz Kacper Rozenbaum Kasper Yearwood About McKinsey & Company

We are a global management consulting firm that serves a broad mix of private, public, and social sector institutions. We help our clients About McKinsey make significant and lasting improvements to their performance and realize their most important goals. We have built on nearly in Central Europe a century of experience and added a wide range of new skills and capabilities to create a firm that is uniquely equipped McKinsey & Company opened its first to this task. For example, our colleagues in McKinsey offices in Central and Eastern Europe in Digital & Analytics work together with clients to drive the early 1990s, soon after the momentous technology-enabled transformations. By combining democratic changes in the region. McKinsey the latest innovations with deep industry, functional, played an active role in the region’s economic and technological expertise, we help clients cap- rebirth, working with leading business organiza- ture value from data and succeed in the digital tions, governments, and nonprofits. With offices in age. We are home to thousands of the world’s Belgrade, Bucharest, Budapest, Kyiv, Prague, Warsaw, most talented professionals across the fields and Zagreb, we serve clients across a wide range of of digital, analytics, and design. Our cross- industries, including banking and insurance, retail, heavy functional teams enable clients to rein- industry, and high tech, media, and telecom. vent themselves through technology. From optimizing core technology and In addition, McKinsey’s Central European Office provides automating operations to building advanced capabilities built around a Digital Lab and an Agile Hub, entirely new digital businesses, hosted in Warsaw and Budapest, respectively. Those capabilities are we work side-by-side with our geared not only toward client counseling but also toward building and clients to prepare them to transferring capabilities into client organizations. Our Digital and Agile survive and thrive in a rap- squads are involved in all areas of digital transformation – including organi- idly changing world. zational and cultural change, user experience, business applications, big data solutions and analysis, the Internet of Things, artificial-intelligence (AI) solutions, For more information, and blockchain technology. visit mckinsey.com. For more information, visit www.mckinsey.com/locations.

About the Digital Challengers research This report is part of a wider research into the potential of the digital economy in Central and Eastern Europe. In our November 2018 report, “The rise of Digital Challengers: How digitization can become the next growth engine for Cen- tral and Eastern Europe” we cover the regional perspective, joined by additional country reports for the Czech Republic, Hungary, Poland, Romania, and Slovakia.

Czech Republic Hungary Poland Romania Slovakia

The rise of Digital Challengers 1 Contents Preface

EXECUTIVE Our objective in writing this report was to analyze In the final chapters of our study, we look at the the opportunities presented by the digital economy vital role of collaboration in CEE, emphasizing the SUMMARY INTRODUCTION in Central and Eastern Europe (CEE). Using new importance of capturing regional scale effects, research of our own and an examination of pub- tackling common challengers and sharing best PAGE 4 PAGE 10 lished sources, we define the economic potential practices (Chapter 4), and examine the implica- from accelerated digitization in ten countries in tions for policy makers, companies, and individu- the region: Bulgaria, Croatia, the Czech Republic, als (Chapter 5). This final section contains a list of Hungary, Latvia, Lithuania, Poland, Romania, actions for these stakeholders to capture the digital CHAPTER 1 CHAPTER 2 Slovakia, and Slovenia. We consider these coun- opportunity. tries “Digital Challengers,” as they demonstrate Digitizing the Impact on the labor strong potential for growth in the “digital economy,” The ideas we present build on those outlined in emulating the group of relatively small countries the previous reports Digital Europe: Pushing the economy market with very high digitization rates that we call “Digital frontier, capturing the benefits; A future that works: Frontrunners,” namely Belgium, Denmark, Estonia, Automation, employment, and productivity; as well PAGE 12 PAGE 22 Finland, Ireland, Luxembourg, the Netherlands, as A new dawn: Reigniting growth in Central and Norway, and Sweden. Eastern Europe. We would like to take this oppor- tunity to thank the McKinsey Global Institute, as Discussion about the opportunities and challenges well as the authors of the above publications – CHAPTER 3 CHAPTER 4 of digitization has been ongoing for many years. in particular Jacques Bughin, Senior Partner in We aim to provide a fresh and unique perspec- Brussels, and James Manyika, Senior Partner in Key enablers of Collaboration across tive: a comprehensive, fact-based analysis that San Francisco, for their expertise, insights, inspira- digitization CEE is key attempts to quantify the size and growth rates of tion and guidance. digital economies on a national and regional level PAGE 34 PAGE 56 in CEE and provides realistic scenarios for the eco- The work on this report was led by Jurica Novak, nomic impact of digitization through 2025. McKinsey’s Managing Partner in Central Europe, Marcin Purta, Managing Partner in Poland, CLOSING Also for the first time in this report, we offer a com- Tomasz Marciniak, Partner, and Karol Ignatowicz, CHAPTER 5 REMARKS bined perspective, looking at both individual coun- Local Partner, with significant contributions by tries and the CEE region as a whole from a digital McKinsey Partners across CEE: Dan Svoboda, Implications for policy PAGE 88 economy perspective. This approach enables us to Tomas Karakolev and Michal Skalsky in the makers, business understand in a quantifiable and comparable way Czech Republic and Slovakia, Levente Janoskuti how the digital economy is evolving across coun- and Andras Havas in Hungary, Daniel Spiridon in leaders. and individuals tries and compared to the most relevant bench- Romania and Tomislav Brezinscak in Croatia. marks. Furthermore, we provide primary insights on PAGE 62 the level of digitization in individual sectors across These individuals worked together with a team all ten CEE countries (Chapter 1). A core part of comprising Consultants Kacper Rozenbaum, the study is our investigation of the impact of digi- Kasper Yearwood and Arkadiusz Żarowski, tal transformation on the labor market (Chapter 2). Communications Experts Joanna Iszkowska and APPENDIX Our discussion here covers both the shifts in society Milena Tkaczyk, Graphic Designer Małgorzata caused by the new technology and the increasingly Leśniewska and many others. Methodology accessible nature of the labor market as a result of PAGE 90 the digital transformation. Following this, we turn to At the same time, we would also like to thank the consider a comprehensive yet prioritized list of digi- many area experts from the public, private, and tization enablers, including the relative strengths of social sectors who provided insights, source data the region and key areas on which the region should and helped advance our thinking. In particular, we focus going forward (Chapter 3). Our insights in this would like to acknowledge the collaboration with chapter are based on quantitative analysis and dis- Google on this research, including contribution of cussions with numerous market experts. analytical inputs and insights leveraged in this report.

2 Digital Challengers The rise of Digital Challengers 3 1 THE CURRENT GROWTH ENGINE OF decades to come. Our analysis shows that devel- CENTRAL AND EASTERN EUROPE IS oping the region’s digital economy across all sectors Executive LOSING MOMENTUM would bring significant economic benefits, primarily Since the transition to a market economy almost due to the resulting productivity gains. By closing three decades ago, CEE has enjoyed a golden age the digital gap to Western and Northern Europe, of growth. The ten CEE countries examined in this CEE could earn up to €200 billion in additional GDP Summary report – Bulgaria, Croatia, the Czech Republic, by 2025 – a gain almost the size of Portugal’s entire Hungary, Latvia, Lithuania, Poland, Romania, economy in 2017.7 In this aspirational scenario, the Slovakia, and Slovenia – recorded on average a region’s digital economy would grow to represent 114 percent increase in GDP per capita between 16 percent of GDP by 2025. That would mean up to 1996 and 2017, compared to an increase of just 30 percent additional GDP growth, the equivalent 27 percent in the European Union’s “Big 5” econo- of one extra percentage point on GDP growth each mies: France, Germany, Italy, Spain, and the United year over the period. Kingdom.1 The CEE region has become one of the most attractive places to invest in globally.2 This How would digitization secure this ambitious fact has enabled CEE countries to partially close goal for CEE? Primarily by improving the region’s the economic gap to Western Europe, and their productivity through a digital transformation of populations to enjoy a significant rise in living the public and private sectors, and by boosting standards.3 e-commerce and offline consumer spending on digital equipment. AFTER THE SUCCESSFUL Growth in CEE has been driven by a number of TRANSITION AND DEVELOPMENT factors, including traditional industries, dynamic The alternative “business as usual” scenario is one OF A MARKET ECONOMY: exports, investments from abroad, labor-cost in which the digital economy in CEE maintains its 1 The current growth engine of Central and Eastern Europe advantages and funding from the European Union. historical growth rate, expanding by just €60 bil- is losing momentum. But now these drivers are beginning to weaken. lion and representing 8.7 percent of GDP in 2025. CEE economies are generally undercapitalized In this scenario, CEE countries would miss out on 2 Digitization can be the next driver of sustained growth for the compared to their more advanced European the additional one percentage point of annual GDP region, with €200 billion of additional GDP by 2025 at stake. peers. The capital stock, measured as total gross growth and remain a long way from the “digital 3 The countries of CEE are uniquely positioned to fixed assets per employee, is 60 percent lower frontier” represented by the countries of Northern capture this opportunity. than the average for the EU Big 5.4 Workforce Europe, for example. 4 The business world, governments, and For the countries of costs are also rising and there are limited labor individuals all need to act in order for Central and Eastern Europe reserves left to plug into the economy, with unem- 3 THE COUNTRIES OF CEE ARE UNIQUELY the transition to be successful. (CEE), the potential economic ployment at record low levels – on average 6.5 POSITIONED TO CAPTURE THIS benefits of digitization are great: up to percent in 2017, compared to 7.6 percent in the OPPORTUNITY 5 Collaboration between 5 €200 billion in additional GDP by 2025. EU. Labor productivity still lags behind Western Looking at Europe from the perspective of digi- CEE countries as Digital 6 This economic boost would lead to greater Europe . And on top of it all, the inflow of EU funds tization, we distinguish three broad groups of Challengers is key. global competitiveness and prosperity for to CEE countries is likely to slow down after 2020. countries. The first are the ten countries of CEE listed above that form the core of this study. We 6 The time to act is now, the region’s 100 million people. While the What does that mean for the countries of CEE? In call these countries “Digital Challengers” as they otherwise the region digital transition also harbors potential a nutshell, if they hope to continue on their path demonstrate strong potential for growth in the may miss the digital risks in the form of shifts in society, public to general prosperity, they need to redefine their area of “digital” and can emulate the second opportunity. and private-sector leaders can take growth strategies as a matter of urgency. group, consisting of relatively small countries with effective actions to mitigate them very high digitization rates, which we call “Digital whilst pursuing the digital 2 DIGITIZATION CAN BE THE NEXT DRIVER OF Frontrunners”: Belgium, Denmark, Estonia, Finland, opportunity. SUSTAINED GROWTH FOR THE REGION Ireland, Luxembourg, the Netherlands, Norway Today, CEE has the chance to make a strate- ,and Sweden.8 Finally, there is the EU Big 5, which gic choice that will determine its growth path for typically rely more on their large internal markets

4 The rise of Digital Challengers The rise of Digital Challengers 5 for economic growth. These five countries have digi- straight to payment cards. Today, the region has of technology by both public and private sectors. 6 THE TIME TO ACT IS NOW, OTHERWISE THE tization rates that are relatively high but not as high one of the highest contactless payment adoption They can improve the ecosystem for startups REGION MAY MISS THE DIGITAL OPPORTUNITY as the Digital Frontrunners. rates in the world.10 So, while it may be more dif- and the opportunities for digital innovation – for We believe that in order to benefit fully from the digital ficult for Digital Challengers to compete in the tra- example, by creating regulatory sandboxes. They transformation, the time for CEE to act is now. Our In 2016, the digital economy of Digital Challengers ditional economy, they enjoy a level playing field in can also support workers by setting in motion sense of urgency is based on three factors. accounted for 6.5 percent of their GDP.9 This is almost the digital economy programs aimed at “reskilling” and “upskilling” on a par with the EU Big 5 (6.9 percent) but well behind workers. First, Digital Challengers are currently booming eco- Digital Frontrunners such as Sweden (9.0 percent). • A vibrant emerging digital ecosystem. We have nomically, with thriving private sectors. In 2017, Digital already seen multiple digital success stories 5 COLLABORATION BETWEEN CEE COUNTRIES Challengers saw their highest levels of GDP growth in Notably, Digital Challengers are enjoying great across the region, with a number of digital-native AS DIGITAL CHALLENGERS IS KEY more than a decade. This positive environment gives momentum in their digital economies. Between companies achieving unicorn status (valuation of The countries of CEE will only be able to capture the new digital initiatives a head start. History shows, 2012 and 2016, the region’s combined digital econ- more than $1 billion). Thanks to its strong talent full potential of the digital transformation by coop- however, that booms do not last forever. Indeed, omy grew by 6.2 percent a year, twice as fast as in base, CEE is becoming a hub for gaming devel- erating closely with each other, due to at least four there are already multiple signs that limitations on the EU Big 5. The news for specific sectors of the opers and software development houses, many factors: growth will emerge in the region, such as negative economy in CEE is also good. Although most indus- of which are among the fastest growing com- demographic trends limiting the positive effects from tries in Digital Challenger countries lag behind their panies in the region. Moreover, incumbents in • Scale effects: Together, Digital Challengers a growing labor force. equivalents in Digital Frontrunner countries in terms traditional industries are beginning to follow suit, represent €1.4 trillion in GDP, making them the of digitization, some are almost level with EU Big 5 successfully adapting digital solutions both inter- equivalent of the twelfth-largest economy in the Second, we find ourselves on the cusp of a Fourth benchmarks – for example, financial services and nally and in their client offerings world. Industrial Revolution, in which new technology will fun- information and communication technology (ICT). damentally transform the economy and the labor mar- 4 THE BUSINESS WORLD, GOVERNMENTS, AND • Similar starting points: The countries of CEE ket. This seismic change will drive growth and create Digital Challengers have the foundations for further INDIVIDUALS ALL NEED TO ACT IN ORDER FOR have high levels of market openness and similar many new professions – big data scientists, machine- digitization. In particular, these include the following: THE TRANSITION TO BE SUCCESSFUL levels of digitization, besides their cultural and learning engineers, new technology designers to name To realize the aspirational digitization scenario historic commonalities. just a few. But it will also create serious challenges. • Good primary and secondary education in terms described above, all stakeholders in Digital Challenger Our analysis shows that up to 51 percent of workplace of math and science literacy scores, according to countries need to be actively engaged in the digital • Common challenges: The region’s countries activities in CEE today – the equivalent of around 21 the international PISA ranking – almost on a par transformation. Businesses could increase their face many similar challenges, such as the “brain million jobs – could potentially be automated by 2030 with Digital Frontrunners adoption of digital tools, improving their productivity drain” and need to reskill the workforce. (depending on the economy, future regulation, and and ultimately their bottom line. They would also be the labor market) using technology that already exists • A large STEM (science, technology, engineering, well advised to take advantage of digital solutions for • Best practices: Each CEE country has devel- today. This creates both an opportunity for increased and mathematics) and ICT talent pool, with over reaching new customers and expanding into regional oped different areas of digital specialization, each productivity and challenges for the labor market. To 230,000 graduates in these subjects in 2015 – and global markets. This export potential is especially with their own advantages. Sharing best practices avoid potential spikes in unemployment, immediate more than any of the EU Big 5 markets and twice relevant in CEE, where the size of the domestic mar- can accelerate the process of transformation. action is needed, such as updating the education sys- as many as the entire Digital Frontrunner region kets limits growth opportunities. tem to teach the skills that will be required in the future In the future, Digital Challengers could work together and creating a support system for lifelong learning. • High-quality digital infrastructure with excellent The public sector can play a role in the trans­ on digital policy solutions across the region. Efforts 4G coverage, some of the best coverage rates formation by using digital technology to achieve could include allowing access to standardized pub- Third, we are at a point in time where the rules of the in the world for ultra-fast broadband and good faster, smoother processes and services for both lic datasets to fuel innovation and support the digi- digital game are crystallizing and new ecosystems affordability for ordinary citizens companies and ordinary citizens. Individuals must tization of enterprises. Cross-border infrastructure emerging. This is the moment for drawing up digital be active, too; investing in lifelong learning will enable projects would also be possible, such as the intro- strategies and developing toolkits for the digital trans- • A legacy “technology lock-in” that is milder than them to take advantage of new opportunities on duction of fiber optics or 5G technology infrastruc- formation ahead. Many companies, countries and in Western and Northern European countries. the labor market. Individuals also need to embrace ture. The countries of CEE, marching shoulder-to- regions have realized this and are busy developing Having joined the digitization race rather late, CEE increasing flexibility in their career paths. shoulder with other countries interested in further- their long-term digital agenda. If the countries of CEE economies are less tied up with older technol- ing digitization, could likewise form a coalition at a wish to compete and capture the €200 billion digital ogy. For example, the CEE region almost entirely Policy makers can support the process on a wide European level to ensure that their digital interests opportunity, they need to come together urgently and bypassed the use of payments by check, going range of fronts. They can promote the adoption are heard. devise a robust long-term digital strategy of their own.

6 The rise of Digital Challengers The rise of Digital Challengers 7 8 CEE DIGITAL CHALLENGERS 3 2 1 The rise of Digital Challengers EU Big5 Challengers CEE Digital UNIQUELY IN CEE ARE COUNTRIES THE OPPORTUNITY THIS TO POSITIONED CAPTURE each yearthrough 2025inCEE into anextra1percentage pointonGDPgrowth Realizing theaspirationalscenariowouldtranslate DIGITIZATION ANSWER TO THE BE CAN CHALLENGE THIS EU Big5 Challengers CEE Digital EUROPE ISLOSING MOMENTUM EASTERN AND CENTRAL OF ENGINE GROWTH THE Sweden Frontrunners Digital can build on a strong historical growth momentum growth historical astrong on build can Challengers economy, Digital digital of the size alower Despite for DigitalChallengers,€billion Digital economygrowth scenarios Digital economy 6% ofGDP in 2016 76 Digital economy GDP, 2016, % as a share of ashare as Productivity, GDP per hourworked, 6.5 6.9 Europe lags behind Productivity 9.0 2017, € 2016 64 53 31 Digital GDP GDP Digital per capita, capita, per 2,264 2016, € 4,152 746 Unemployment, hours aboveEUaverage unemployment andworking CEE hashistoricallylow 2017, % 6.5 9.2 6.1 Growth of digital of digital Growth WHY IS DIGITIZATIONWHY FOR KEY CEE? 2012 economy, economy, 6.2 9.9 3.1 –16, % employee, 2017 Hours worked per year 1,573 1,592 1,791 +200

+60 damentals in place for further digitization: further for place in damentals Digital Challengers have fun the necessary

An already emerging,vibrantdigitalecosystem A milderlegacytechnologylock-in High-quality, affordable digitalinfrastructure A largeSTEMandICTgraduatetalentpool Good primaryandsecondaryeducation 2016, €million per employee, Capital stock closing veryslowly is gap the capitalized and Economy inCEEisunder- 22.6 13.0 5.4 2025 Business asusual 16% ofGDP Aspirational 9% ofGDP % growth 2012–16 formation, average 276 13 Gross capital 0.8 0.7 1.7 -

HOW TO CAPTURE THE POTENTIAL? THE HOW TO CAPTURE accelerate digitization sharing bestpracticescan ped digitallyindifferent areas, Each CEE country has develo­ OPPORTUNITY TO TIME THE ACT ISNOW –OTHERWISE MAY REGION THE DIGITAL THE MISS CEE DIGITALCOLLABORATION BETWEEN CHALLENGERS IS KEY TRANSITION TO ACT NEED FOR ASUCCESSFUL STAKEHOLDERS ALL SOURCES – joying an economic boom Digital Challengers are en drain” andtheneedtoreskill theworkforce of challenges, importantly the“brain The region’s countriesfaceanumber CEE region the in of potential digitization to full the capture necessary is cooperation why reasons four are There initiatives aheadstart initiatives this could give new digital Implications forpolicymakers startups Improve theecosystemfor border digitalcollaboration Strengthen regional cross- by companies Support technologyadoption by thepublicsector Support technologyadoption acting braindrain andcounter lifelong learning, cation forthefuture, promoting including updatingyouthedu- Build skillssetsforthefuture, : McKInsey Global Institute; Eurostat; McKinsey analysis McKinsey Eurostat; Institute; Global : McKInsey -

practices - Best Best labor market and economy the transform will Revolution Industrial Fourth The response isneeded

Implications forbusinessleaders challenges culture Embrace apro-digital organizational within industryassociations Form strong digitalcollaborations platforms ers tofilltalentgapsusingdigital Leverage contractorsorfreelanc - reskilling andupskilling to recruiting andactivelydriving ture, includinganupdateapproach Prepare talentstrategiesforthefu- revenue andcostmanagement including leveragingdigitaltoolsin demands ofthedigitaleconomy, Adapt businessmodelstomeetthe Common Common starting Similar Similar points points – an immediate – animmediate

The countries of CEE have high levels of The countriesofCEEhavehighlevels market openness and similar levels of market opennessandsimilarlevelsof effects effects Scale Scale digitization

12th largesteconomyintheworld making them the equivalent of the making themtheequivalentof develop a digital clear agenda to need Challengers pete, Digital –to com crystallizing are game The global of rules the digital represent €1.4trillioninGDP, Together, DigitalChallengers Implications forindividuals The rise of Digital Challengers their lives tools inallaspectsof advantage ofdigital skills setsandtaking to improve their ing inlifelonglearning economy byinvest- advent ofthedigital prepare forthe Individuals can -

4 6 5 9 FINDINGS KEY REGIONAL POPULATION IN TOTAL VS. COUNTRY AVERAGE, 2017, MILLIONS Introduction 62 Digital Frontrunners 7 (avg.) Digital Challengers EU Big 5

323 at a glance 65 (avg.)

The year 1989 was a very special date in the history 114 percent between 1996 and 2017. The main growth MARKET of Central and Eastern Europe (CEE). It has now been drivers during this period were traditional industries, OPENNESS, almost three decades since momentous changes in dynamic exports, investments from abroad, labor-cost 2017, 101 the countries of the region resulted in political trans- advantages, and funding from the EU. But now these TRADE AS Digital % OF GDP 137 formation and the introduction of market-based drivers are beginning to weaken. The economies of Challengers 10 128 67 economies. Coincidentally, it was about 1989 that CEE are generally undercapitalized compared to more (avg.) British physicist Timothy Barnes-Lee was putting the advanced European economies. The capital stock, finishing touches to a new system designed to help measured as total gross fixed assets per employee, scientists share data across a then little-known plat- is on average 60 percent lower here than for the EU form. That platform – known today as the World Wide Big 5.13 Workforce costs are also rising and there are GDP PER Web – has since been central to the development of limited labor reserves left to plug into the economy, GDP COUNTRY TOTAL GDP, CAPITA AVERAGE, 2017 2017 GROWTH the internet and the dawning of the digital age. with unemployment in CEE at record low levels – on € € 1996–2017, average 6.5 percent in 2017, compared to 7.6 percent trillion 0.1 trillion 1.4 % 114 From the perspective of digitization, we can distin- in the EU as a whole.14 Working hours in the region are 0.4 2.6 3.3 13.2 58 27 guish three broad groups of countries in Europe. The above the EU average,15 while productivity lags behind first are the ten countries of CEE that form the core Western Europe.16 Moreover, the inflow of EU funds to of this study: Bulgaria, Croatia, the Czech Republic, CEE countries is likely to weaken after 2020. Clearly, Hungary, Latvia, Lithuania, Poland, Romania, CEE needs a new engine to drive its future economic Slovakia, and Slovenia. We call these countries growth. “Digital Challengers” as they demonstrate strong potential for growth in the area of “digital” and emu- Based on our research, we believe that digitization late the second group, which consists of relatively can be the answer to this challenge, becoming the CAPITAL STOCK small countries with very high digitization rates. We region’s new growth engine. The current level of UNEMPLOYMENT, PER EMPLOYEE, call this second group “Digital Frontrunners”: Belgium, digitization in CEE is almost on a par with the larg- 2017, % 6.5 9.2 6.1 2016, € million 5.4 12.9 22.6 Denmark, Estonia, Finland, Ireland, Luxembourg, the est EU countries.17 The pace of development of the Netherlands, Norway and Sweden.11 Finally, there is digital economy and the existence of key enablers the EU Big 5 – France, Germany, Italy, Spain, and the of digitization, such as high-quality primary, sec- United Kingdom – which typically rely more on their ondary, and higher education, digital infrastructure PRODUCTIVITY, large internal markets. These five countries have digi- almost as good as in Digital Frontrunner countries, WORKING HOURS 2017, GDP per tization rates that are relatively high, but not as high a milder “technology lock-in” than in Western and PER YEAR, 2017 hour worked, € as the Digital Frontrunners. Northern Europe and a vibrant digital ecosystem, 1,778 1,592 1,573 31 53 64 mean that CEE countries are well positioned to take Since the early 1990s, our group of Digital Challengers advantage of the potential of digitization to boost Digital EU Digital Digital EU Digital Challengers Big 5 Frontrunners Challengers Big 5 Frontrunners have enjoyed significant economic growth. Gross their productivity – and, in so doing, increase the domestic product (GDP) per capita12 grew by prosperity of their populations. EU BIG 5: France, Germany, Italy, Spain, United Kingdom Digital Frontrunners: Belgium, Denmark, Estonia, Finland, Ireland, Luxembourg, the Netherlands, Norway, Sweden Digital Challengers: Bulgaria, Croatia, the Czech Republic, Hungary, Latvia, Lithuania, Poland, Romania, Slovakia, Slovenia

10 The rise of Digital Challengers The rise of Digital Challengers 11 Chapter 1

Digitizing the economy

The digital economy of Digital Challengers accounts for 6.5 percent of GDP. While this is almost the EU Big 5 markets (6.9 percent), it lags behind Europe’s Digital Frontrunners such as Sweden (9.0 percent). Digital Challengers can build on the historical growth of their digital economies (6.2 percent a year from 2012 to 2016), which outstripped both Digital Frontrunners (5.9 percent) and the EU Big 5 (3.1 percent). The development of the digital economy in CEE is having a significant economic impact – indeed, digitization could become the next major growth driver for the region. Digital Challengers could even close the gap to Digital Frontrunners, growing the region’s digital economy by as much as €200 billion so that it represents 16.2 percent of GDP. This could potentially deliver up to 30 percent additional GDP growth, the equivalent of an extra one percentage point GDP growth each year through 2025.

12 The rise of Digital Challengers The rise of Digital Challengers 13 The term “digitization” is widely used by economists. per capita in CEE, at €746, is more than four times Box 1. Yet its precise meaning is a topic of much discussion, lower than the average for Digital Frontrunners and The McKinsey Digitization Index Digital asset spending particularly when it comes to measuring the impact almost six times lower than in Sweden. – drivers of digitization at sector of digitization on economies.18 Consequently, uncer- The digital economy of Digital Challengers accounts level (referenced on the for a smaller share of GDP than in EU countries, the tainty reigns about the scale of the digital economy Exhibit 1. next page) EU Big 5 and Digital Frontrunners – but it is growing Hardware spending The digital economy of Digital Challengers in CEE. faster Share of total expenditure spent on ICT accounts for a smaller share of GDP than that of hardware (e.g., computers, servers) In this report we shed light on just how big the digital the EU Big 5 and Digital Frontrunners – but it is economy is in CEE. We strike a balance between the also growing faster.19 Software and IT services spending various definitions of “digitization.” For us, it repre- Share of total expenditure spent on software and IT Share Digital Growth Growth of sents the sum of three components: of digital GDP per of digital nondigital services (e.g., enterprise resource planning software) economy, capita, economy, economy 2016, % GDP 2016, € 2012–16, % 2012–16,% • The value of the information and communication Telecommunications spending technology (ICT) sector Digital Share of total expenditure spent on telecommunications Chal- 6.5 746 6.2 2.6 lengers (e.g., broadband access, mobile data services) • The value of the e-commerce market, measured as online sales of goods

• The value of offline consumer spending on digital EU Big 5 6.9 2,264 3.1 1.2 equipment Digital asset spending per worker

We choose this definition for two main reasons. First, Digital it is relatively comprehensive – broader than just the Front- 7.3 3,276 5.9 2.0 Hardware spending on workers runners ICT sector, yet more concrete than, say, “all activi- ICT hardware (e.g., computers, servers) expenditure per full-time-equivalent ties related to digital data.” Second, reliable data is employee (FTE) available for each of the three areas it covers and Software and IT services spending per worker so its total value can be calculated (see Appendix Sweden 9.0 4,152 9.9 2.2 for details). This enables us to use a bottom-up Software (e.g., enterprise software licenses) and IT services expenditure per FTE modeling approach, drawing on data collected at a Telecommunications spending per worker national level. SOURCE: Eurostat; local institutes of statistics; McKinsey Global Institute analysis; McKinsey analysis Telecommunications (e.g., broadband access, mobile data services) expenditure per FTE SIZE AND GROWTH OF THE DIGITAL ECONOMY IN CEE However, the digital economy in CEE is growing As mentioned in the Introduction traditional growth faster (6.2 percent a year between 2012 and 2016) drivers in CEE are facing increasing limitations, such than in the EU Big 5 (3.1 percent) and even Digital Digital capital deepening as a finite labor supply, undercapitalized econo- Frontrunners (5.9 percent). While this is a positive mies, and productivity levels that lag behind more indicator, room for improvement remains. Despite advanced economies. The question we ask in this starting from a larger basis, Sweden was able to Hardware assets per worker study is: Could digitization become the new growth grow its digital economy by 9.9 percent a year ICT hardware assets (e.g., servers, computers) per FTE driver for the region in the years to come? between 2012 and 2016, for example. In terms of growth rates, CEE countries – most of which are Software assets per worker To answer this question, we must first identify where still classified as “developing countries” – also Software assets (e.g., workers’ software licenses) per FTE the digital economies of CEE are today. According to appear to be benefiting from the general momen- our analysis (Exhibit 1), the digital economy accounted tum in their economies. With a little extra effort, for 6.5 percent of total GDP in the region in 2016. Digital Challengers could accelerate the While this is almost with the EU Big 5, it lags behind pace of growth of their digital economies Digital Frontrunners, where its share of GDP is almost and close the gap to, or even overtake, 40 percent higher. In per capita terms, the differ- some of the more digitally advanced ences are even more pronounced. The digital GDP economies.

14 The rise of Digital Challengers The rise of Digital Challengers 15 SECTOR-LEVEL DIGITIZATION the workforce by incorporating per-employee spend- Going forward, the priority for each sector will DIGITAL POTENTIAL IN CEE TO 2025 Before identifying potential levers for accelerating the ing. In addition, digital capital deepening is measured be to catch up with their counterparts in more As we have seen, Digital Challengers lag behind digital transformation in CEE, we should look at how by comparing total hardware and software stock in digitally advanced countries. In Exhibit 3 we com- Digital Frontrunners in terms of the overall size of their digitization has taken place around the world. It would a per-worker perspective. The results at sector level pare the digitization level of the biggest sectors in digital economy, with clear gaps at a sector level. appear that no standard route exists to achieving high are weighted for the economic size of the sector and Digital Challenger markets with their counterparts The size of these gaps has slowly been decreasing rates of digitization. Most markets, including Digital compared to the global “digital frontier,” which we in Sweden (taken as a benchmark for Digital in recent years, but CEE has not yet entered the fast Frontrunners, have digitized unevenly, showing large take to be the ICT sector in the United States.21 Frontrunners) and other selected Western Europe lane. Looking ahead, we see two potential trajecto- variations between different sectors and individual countries.22 The biggest gap is found for utilities, ries for further digitization in CEE (Exhibit 4). companies. The McKinsey Digitization Index shows us that manufacturing, government, and professional the digital economy of CEE has developed unevenly, and business services. The finance and insur- In the first, “business as usual” scenario, the region’s The digital economy in CEE is with three distinct industry groups emerging ance sector exhibits the smallest gap. Notably, countries maintain their historical growth rates for the growing faster than in the EU Big 5 (Exhibit 2). The first group of sectors, exhibiting the almost no gap exists between CEE and selected digital economy. The digital economy expands by and even Digital Frontrunners highest digitization rates, can be considered “digital countries in Western Europe in government. €60 billion to reach nine percent of GDP by 2025. leaders.” This group comprises two medium-sized The gap to Digital Frontrunners (measured as the To understand which sectors drive digitization at a industries: ICT and finance and insurance. The sec- Support from the government can play a signifi- digital economy’s share of GDP) remains almost “macro” level, we need a multidimensional view. The ond group, which we call “digital followers,” includes cant role in the development of the digital econ- unchanged, while the gap to the most dynamic mar- “ McKinsey Global Institute (MGI) Industry Digitization large sectors such as manufacturing and wholesale omy. Several CEE countries have national digiti- kets, such as Sweden, widens. Index offers such a perspective, assessing digitiza- and retail trade, alongside medium-to-small sectors zation strategies in place. However, they are not tion at the level of individual sectors (Box 1 on page such as mining and transportation and warehous- consistent across the region, which may also con- The second scenario is an aspirational one. If Digital 15).20 It uses eight indicators to capture different ways ing. The final group are “digital novice” sectors such tribute to differences in digitization between coun- Challengers closed the gap to Digital Frontrunners, in which companies are digitizing. For instance, digi- as the arts and entertainment, accommodation tries. We explore examples of national strategies they would see their digital economy grow by tal assets include spending on computers, software and food services, and agriculture. This group also supporting the digitization process in Chapters 4 €200 billion to reach 16 percent of GDP by 2025. and telecommunications equipment, and the stock of includes medium-to-large public sectors such as and 5. This translates into an extra one percentage point ICT assets. The Index also includes the perspective of healthcare, education, and government services.

Exhibit 3. Exhibit 3 ExhibitIn terms 2. of digitization, the CEE economy has developed at different speeds, with digital leaders, digital Large gaps in the digitization level of sectors exist between the CEE region, Western Europe, and Digital Large gaps in the digitization level of certain sectors exist between CEE and Western EU countries/Digital CEEfollowers has digitizedand digitally unevenly less advanced in terms ofsectors sectors emerging – with leaders, followers, and novices emerging. Frontrunners.Frontrunners

Industry sectors in CEE, by degree of digitization and % of GDP Government Low: <~3%1 Average: ~3%–10% High: >10% Healthcare Finance and Education insurance 22 Agriculture Manufacturing 14 Arts & entertainment 12 Accommodation and food Services 10 Manufacturing Utilities 8 Trade (retail and wholesale) Transportation 6 Trade Professional services 4 Utilities Transport 2 Mining 0 Government Share of GDP, % of GDP, Share ICT sector CEE Sweden as a Digital Digital novices Digital followers Digital leaders Finance and insurance Selected countries from Western Europe (France, Germany, UK) Frontrunner benchmark

SOURCE: Eurostat; local institutes of statistics SOURCE: Eurostat; local institutes of statistics

1 Average of digitization score for all industries excluding digital leaders (ICT and FIG sectors) - 2.73% 16 The rise of Digital Challengers The rise of Digital Challengers 17 GDP growth each year, or a one-third increase in Exhibit 4. We see two trajectories for CEE to grow the projected growth rate.23 The additional €140 bil- Scenarios for digital its digital economy: a business-as-usual 24 lion – on top of the €60 billion impact of maintaining economy growth in CEE. scenario bringing an additional €60 the historical growth rate – breaks down as follows: billion of GDP, or an aspirational scenario • An extra €120 billion from the increased pro- with €200 billion of GDP at stake ductivity achieved by closing the gap to Digital € billion Frontrunners in the digitization of the public and private sectors Share of GDP, %

• An extra €20 billion from additional growth in Aspirational e-commerce and offline consumer spending on digital equipment 276 The first of these amounts – the extra €120 billion 16% – comes from Digital Challengers increasing their ICT spending as a share of sector GDP to the level +200 of Digital Frontrunners. To achieve this, they must speed up the digital transformation in their econo- mies, especially in the sectors that lag farthest behind their Digital Frontrunner benchmarks and at the same time account for a significant share of the total national output. This includes asset-heavy sec- tors such as manufacturing, public sectors such as healthcare and education, and localized industries such as agriculture. The second amount – the extra €20 billion – comes from faster growth in e-com- Business as usual merce and offline consumer spending on digital equipment (see Appendix for details). NEW DIGITAL INDUSTRIES – THE NEXT 136 GROWTH HORIZON +60 If Digital Challengers closed the gap But it doesn’t stop there. While accelerating the 9% to Digital Frontrunners, they would digitization of CEE’s current industries promises sig- see their digital economy grow by nificant economic gains, a whole new wave of digi- €200 billion to reach 16 percent of tization could be triggered by new digital industries GDP by 2025. based on the Internet of Things (IoT), big data and artificial intelligence (AI). These innovative fields rep- 76 Digital economy “ Capturing this potential will depend on all stake- resent a substantial economic opportunity, poten- in 2016 holders embracing digital technology in the coming tially over and above even our aspirational sce- 6% years. For companies, it will mean taking advantage nario. While the full size of the opportunity in CEE of solutions enabling growing sales through digital is still unknown, solutions that already exist today channels, including boosting their export capabili- based on the IoT, for example, have the poten- ties. For both public and private organizations, it will tial to boost the digital economy by €160 billion.25 mean improving operating efficiency by integrating automation and streamlining solutions. For individu- In the vast majority of cases, the additional eco- 2016 2025 als, it will mean investing in developing the skills nomic value generated by these solutions stems needed in the digital economy. We explore these from their use of data for improved decision-making, aspects in more detail in Chapters 2, 3, and 5. product and service innovation, and the exchange of

18 The rise of Digital Challengers The rise of Digital Challengers 19 Examples of how the Internet of Things creates value

information between vehicles, home appliances and Box 2. Human health Devices (wearables and ingestibles) to monitor and maintain the like, leading to increased operating efficiency.26 Examples of how IoT Devices attached to or health and well-being, disease management, increased We explore a number of use cases in different IoT creates value. inside the body fitness, higher productivity verticals in Box 2.

Artificial intelligence (AI) is another new digital indus- Home Home controllers and security systems, household chore try poised to contribute significantly to the next wave Buildings where automation of digital disruption. Globally, we are already seeing people live increased investment, job creation, and business impact for early adopters. Funding for AI-based services, software, and hardware are booming: Retail environment Stores, banks, restaurants, arenas, and anywhere else the McKinsey Global Institute estimates that in Spaces where consumers consumers consider or make purchases: Self-checkout, layout 2017, €33 billion was invested in AI, three times the engage in commerce optimization, real-time and in-store personalized promotions, smart CRM, inventory shrinkage prevention amount for 2016. This was partly fueled by expec- tations of an emerging AI market, predicted to be worth more than ~€45 billion by 2020.27 A push Offices Energy management and security in office buildings, improved can also be seen in the labor market for AI-related Spaces where knowledge productivity, organizational redesign and worker monitoring, jobs. Of the five fastest-growing job titles claimed by workers work augmented reality for training LinkedIn members in the United States, three are AI-related.28 Countries are also already busy shap- ing their strategies on how to capture this value – we Factories Places with repetitive work routines: operating efficiencies, explore examples of such initiatives in Chapter 5. Standardized production optimizing equipment use and inventory, health and safety, environments predictive maintenance AI can unlock value for different industries in the future, but even now it is used in a number of appli- cations across a range of sectors. The field is also Workplace Mining, oil and gas, construction, operations optimization, starting to pick up in CEE. This can be seen already Custom production equipment maintenance, health and safety, IoT-enabled R&D in the private sector, with many success stories of environments enterprises specializing in AI and automation solu- tions emerging across the region. For instance, Romanian software provider UiPath is a global leader Vehicles Vehicles including cars, trucks, ships, aircraft, and trains: in robotic process automation and a CEE “unicorn” Systems inside moving condition-based maintenance, usage-based design, pre-sale analytics, after-sales improvements – a company valued above $1 billion.29 Global giants vehicles are also investing in AI development centers in the region, for example Amazon30 and Chinese appli- ance manufacturer TCL in Poland.31 Cities Smart meters and demand management, distribution and substation automation, congestion lanes, smart parking Urban environments AI promises to have a positive impact on both busi- meters and pricing, centralized and adaptive traffic control ness, in the form of increased productivity, and con- sumers, by providing more personalized and efficient products and services. By contrast, its impact on the Outdoors Outdoor uses include railroad tracks, autonomous vehicles labor market is a matter of ongoing debate, as we Between urban (outside urban locations), and flight navigation, real-time routing, connected navigation, shipment tracking explore in the next chapter.32 environments (and outside other settings)

20 The rise of Digital Challengers The rise of Digital Challengers 21 Chapter 2

Impact on the labor market

As employment growth in CEE slows down, an increase in productivity levels is needed. Due to negative demographic trends, up to 21 percent of current GDP growth is at risk. Digitization in the form of automation technology can help relieve pressure on labor reserves in CEE . We estimate that 49–51 percent of work activities could be automated using technology available today, the equivalent of approximately 21 million jobs. Growing adoption of automation technology will drive a significant shift in demand for skills, leading to a potential labor market mismatch. Sectors such as manufacturing, logistics, agriculture and trade will experience the biggest need for workforce reskilling. Demand for technology skills, social skills, and emotional skills will grow the most.

22 The rise of Digital Challengers The rise of Digital Challengers 23 AUTOMATION 49–51% of working time is spent on activities that could POTENTIAL be automated 20.8 Long-term historical GDP growth in CEE has been million driven by two factors: increasing employment and AMONG DIGITAL equivalent rising productivity. While the latter was the main con- number of jobs tributor by far, growth of the working population was CHALLENGERS still responsible for around 17 percent of GDP growth While few occupations are fully automatable, between 2005 and 2017.33 However, a growing con- 60% of all occupations have at least 30% technically automatable activities sensus exists that the CEE region has now reached “peak employment.” Negative demographic trends such as declining birthrates, emigration, and aging SHARE OF OCCUPATION TYPES WITH GIVEN could hinder the future development of the region. If % OF ACTIVITY THAT COULD BE AUTOMATION POTENTIAL the negative employment projections of –0.1 percent AUTOMATED % of 820 occupation types per year are correct and productivity growth rates 0% 100%

remain at historical levels, GDP growth could be up Predictable physical 75 100% 1 to 21 percent lower in the period to 2030 than over >90% 9 the past dozen years (see Exhibit 5).34 Processing data 71 >80% 19 >70% 27 Collecting data 65 >60% 34 We are likely to see occupations >50% 41 changing due to automation rather Unpredictable physical 39 >40% 50 than disappearing completely, and >30% 60 Applying expertise 29 >20% 72 AUTOMATION POTENTIAL AUTOMATION many employees will need to learn >10% 91 how to work more closely with Interacting with stakeholders 22 >0% 98 “ technology. Managing people 9

Exhibit 5. THE POTENTIAL OF AUTOMATION IN CEE Rail transportation Machine operators,production workers GDP growth could be 21 percent lower in CEE graders and sorters of Chemical technicians,construction workers Given the trends outlined above, it is vital to under- workers, travel agents, and marketinghealthcare workers, practitioners administrative assistants, Psychiatrists, legislators, agricultural products, food food preparation workers Engineers, teachers, sales in the period to 2030 as a result of negative stand the likely future impact of digitization on the entertainers, religious workers demographic trends. labor market in CEE. One area of interest is the TOTAL AUTOMATION POTENTIAL potential of automation technology to relieve pres- IN EQUIVALENT NUMBER OF JOBS Simulated long-term impact of employment growth sure on labor reserves. A McKinsey Global Institute Automation potential, % on GDP, compound annual growth rate, % FTE million analysis studied around 800 professions, looking at ~70% 5.6–5.7 Manufacturing 64–66 the feasibility of automating the tasks that involve of all jobs 3.1–3.2 Trade (retail & wholesale) 50–53 using technology already in existence today (see at risk (up to 0.5 −21% 14.7 million) Appendix for details). By calculating the potential 2.5–2.6 Agriculture 52–56 –0.1 for automating specific tasks and the share of those 1.5–1.6 Construction 47–54

tasks in the total working hours for each profession, 1.5–1.6 Transportation 59–66 we are able to estimate the potential of automation 1.4–1.5 Public administration 37-43 for each profession. The result? Up to 49–51 per- cent of workplace activities in CEE – the equivalent 0.8–0.9 Healthcare 33–38 of approximately 21 million jobs – could potentially 0.7–0.8 Accommodation & food 49–64

be automated by 2030. 0.7–0.8 Education 23-30

Assumed historic growth productivity Productivity growth Productivity Employment growth GDP growth Employment growth – projected GDP growth 0.6 Professional services 35–41 Historical growth, Simulated growth, The areas most susceptible to automation are physi- Telecommunication 2005–2017 2018–2030 cal activities in highly structured and predictable envi- 0.3–04 35–40 0.3 Finance & insurance 35–41 Note: Projection assuming historical productivity growth and ronments and tasks such as data collection and pro- projected changes in employment growth cessing. These types of activities are most common in Below average Above average SOURCE: McKinsey Global Institute analysis; McKinsey analysis manufacturing, warehousing, and simple administrative SOURCE: McKinsey Global Institute analysis

24 The rise of Digital Challengers The rise of Digital Challengers 25 jobs. While less than two percent of all occupations speed and extent of their use will depend on a num- Exhibit 6. can be automated entirely, around 60 percent of all ber of factors, including technical feasibility, cost, Industries with the highest job vacancy rates could benefit from automation, unlocking economic growth Industries with the highest job vacancy rates could benefit from automation, unlocking economic growth 39 occupations have at least 30 percent of their constitu- labor-market dynamics, social acceptance and the stifledstifled byby inadequate inadequate labor labor supply supply. ent activities that could be automated. That means regulatory environment. Industries with the highest job that we are likely to see occupations changing due to vacancies and automation potential automation rather than disappearing completely, and Particularly in Digital Challenger markets, where Industries with highest job Job vacancy rate, Automation potential, vacancy rate in CEE Q4 2017, % % of working hours many employees will need to learn how to work more labor costs are still relatively low compared to closely with technology than they do today. Western Europe, investments in technology may Construction 2.8 47–54 be delayed. However, Western companies with Real estate 2.6 42–43 production plants in CEE may begin considering Particularly in Digital Challenger the possibility of “reshoring” part of their value- Agriculture 2.4 52–56 markets, where labor costs are still chain processes, most of which are manufac- relatively low compared to Western turing-related, to automated plants in their home Accommodation and food service 2.4 49–64 Europe, investments in technology countries. The European Reshoring Monitor is Professional services 2.2 35–41 may be delayed. a Eurofund initiative that aims to identify exam- ples of this phenomenon. Based on these, we Manufacturing 2.2 64–66 “ 35 This effect will be felt to a varying degree across all can see that this is already occurring in CEE. sectors and occupations. For our Digital Challengers, Information and communication 2.2 35–40 automation could have the biggest impact on manu- Opportunities and challenges of automation Transportation and storage 2.1 59–66 facturing, transportation and warehousing, where, Automation brings opportunities as well as challenges. according to our estimates, up to 66 percent of all As we saw in Chapter 1, technology can contribute SOURCE: Eurostat; McKinsey Global Institute activities performed today could be automated (see significantly to productivity, leading to stronger page 25). The use of industrial and service robots, economic development. In the labor market, employees previous tasks now performed by technology. This people return to the labor market within a year of 3D printing, automated production lines, autonomous could be able to focus on more value-adding activities; may lead to a change in the requirements placed their jobs being automated: 25 percent, 50 percent, vehicles and drones will lead to significant changes for example, doctors and nurses could spend more on them (for example, they will need to work more 66 percent, or 100 percent. If only 50 percent of the Minimum estimation range in these sectors. time with patients rather than performing administrative closely with technology), while in extreme cases peopleMaximum who estimation lose their range jobs to automation manage to tasks.36 Additionally, as the workforce transitions to workers may find themselves out of a job. For those find a new job within a year, the unemployment rate Manufacturing, which is the biggest sector in CEE in new job pools, a positive effect may be seen on both affected, finding new positions may be challenging, may rise temporarily to ten percent (see Exhibit 13). terms of the number of people employed, accounts job vacancy and unemployment rates. and they will have to acquire new skills. If just 25 percent manage to find a new job within a for a significant number of jobs susceptible to auto- year – a pessimistic scenario – the unemployment mation – around 5.7 million in total. Other sectors Industries with the highest job vacancy rates could To illustrate the risk of a “labor market mismatch,” rate may peak temporarily at almost 25 percent. with high automation potential include mining, agri- benefit from automation, as it may solve the problem we estimate the potential impact of automation on culture, accommodation and food services, trade of the inadequate labor supply. In recent years, rela- unemployment (Exhibit 7). Here, we assume that by In light of the above, it is important that CEE coun- and utilities. Automation will have the least impact on tively low unemployment rates and a growing num- 2030 technologies that already exist today will have tries ensure the rapid reskilling of their workers to education and healthcare, areas where human con- ber of job vacancies in Digital Challenger markets improved to such an extent that it will be cost-effec- prepare them for the changes ahead and to mitigate tact and emotional skills play a key role. These skills have created a favorable labor market situation for tive to use them to replace humans for the activities the risk of spikes in unemployment. In Chapter 3, are hard to replace by robots – at least, at present. employees, and challenges for employers.37 Sectors in question and introduce corresponding organiza- we identify the need for effective labor reskilling as a such as manufacturing, transportation, agriculture tional solutions. We also assume that, by this point key enabler for digitization. Furthermore, we explore Automation mainly affects low- to medium-skilled and construction – all areas with a high potential for in time, both managers and rank-and-file staff will a number of successful reskilling programs and ini- jobs. Consequently, people with lower levels of edu- automation – have faced the biggest labor short- have gotten used to handing some tasks over to tiatives, including examples from the CEE region. cation and low to medium wages are likely to be ages38 (Exhibit 6). Digitization and the implementa- machines. In many sectors, it is also likely to take Additional examples appear in Chapter 5. more affected by having some aspects of their jobs tion of technology could help companies in these this long for appropriate legislation to come in.40 automated. sectors overcome workforce-related barriers and SHIFTS IN SOCIETY DRIVEN BY NEW achieve growth. Based on the assumption that 49–51 percent of TECHNOLOGY Speed and extent of automation workforce activities are automated by 2030 (the So far, automation has not caused a spike in unem- Many of the technologies for automation are not yet At the same time, some employees will find that fastest adoption rate), we posit four reemployment ployment. However, it will be a driving force of ready for broad application in the workplace. The their professions alter significantly, with many of their scenarios, in each of which different percentages of change in the labor market. Progressive digitization

26 The rise of Digital Challengers The rise of Digital Challengers 27 Exhibit 7. ExhibitSectors 8. with low current digitization rates and high automation potential are likely to experience the greatest need for workforce reskilling in the future Depending on the workforce transition scenario, CEE could experience a peak in unemployment. Sectors with low digitization rates and high automation potentials are likely to experience the biggest Exhibit 16 need for workforce reskilling. Future scenarios are driven Workforce transition Average unemployment rate of Digital Challengers, by share of displaced scenarios, % of Digitization Index, % Size of bubble = number of FTEs people returning to fastest automation technology adoption scenario, workers rejoining workforce 20 Share of total labor population in CEE work within 1st year % % within 1 year The most digitized Finance and insurance 25% return 25 sectors with less potential ICT 50% return 10 for automation 5% 9 20 66% return 8 Baseline: Smaller sectors with a large potential Mining 15 100% return 7 need for reskilling 6 Large sectors with Sectors with low Utilities 13% 10 Government the greatest potential need 5 digitization and low for workforce reskilling automation potential 4 Manufacturing 5 Healthcare 48% 3 26% Agriculture Education Entertainment 0 2 Transport 2003 2010 2020 2030 Trade 1 Services SOURCE: McKinsey Global Institute analysis Accommodation and food 0 22 24 26 28 30 32 34 36 38 40 42 44 46 48 50 52 54 56 58 60 62 64 66 68 70 of the economy will increase demand for people who infrastructure and introducing it into companies Automation potential, % understand how to work with technology and are – engineers, programmers and so on. SOURCE: Eurostat; McKinsey Global Institute; McKinsey analysis able to innovate in the workplace. • Users and enablers: Participants in the ecosys- Transformation of individual sectors most as a result of the new technology. To stay The upward trend in the number of jobs, triggered tem who maximize the value created by the new The need for new skills (explored in more detail in relevant, they will have to update their skills or by digitization, is already visible in the fast-growing technology. This includes people gathering, ana- the following section) will be particularly great in refocus on roles that are less susceptible to number of ICT specialists in CEE. These are increas- lyzing and protecting data (potentially collected sectors where the potential for automation is high automation. ing at a rate of five percent per year, far outpacing for the first time ever thanks to the new tech- and the current penetration of technology low. the general employment growth trend of one per- nology) and people using that data to improve These industries may experience the biggest work- • Smaller sectors with a large potential need cent. However, the share of ICT specialists in total organizations’ performance. force mismatch in the future. for reskilling: Utilities, mining, transportation, employment in Digital Challengers is 43 percent and accommodation display a similar mismatch lower than in Digital Frontrunners, indicating that • Other professions related to automation: We distinguish four groups of sectors in CEE in CEE, with low current digitization rates and there is still room for growth.41 Including experts in legal matters related to auto- that differ in terms of their digitization needs high future automation potential. These sectors mation and experts in managing the organiza- (Exhibit 8): will also have to significantly update their skill It is important that CEE countries tional changes needed to exploit the full potential base, but they are significantly smaller than the of automation. • Large sectors with the greatest potential first group in terms of their share in the total CEE ensure the rapid reskilling of their need for workforce reskilling: The biggest job market. workers to prepare them for the Of course, the social and emotional skills of machines labor pools in CEE are found in manufactur- changes ahead and to mitigate the are worse than those of humans, at least for the time ing, agriculture, and trade. These sectors also • The most digitized sectors with less poten- risk of spikes in unemployment. being. Despite advances in AI, machines still have dif- display a mismatch, with low current digitiza- tial for automation: Telecommunications and “ ficulty identifying social and emotional states (sens- tion rates and high future automation potential. financial and insurance services were the first Technology will also help create new jobs in the ing), drawing accurate conclusions about them (rea- Given that these sectors are responsible for sectors to undergo digital transformation, and future. We identify three key types of professions soning) and responding with emotionally appropriate almost 50 percent of jobs in CEE, the stability they are now the leaders in terms of technol- that may benefit:42 words or movements (output). Jobs strongly leverag- of the region’s labor market is potentially at risk ogy adoption in CEE. They have already started ing these “soft” capabilities, such as the caring pro- and they should constitute priority areas for attracting the digital talent that they need. We • Creators and suppliers of technology: People fessions, are therefore likely to grow in importance in reskilling efforts. Employees in these sectors estimate their further automation potential to be engaged directly in developing technology and the labor market. will likely see their workplaces transform the just 36–38 percent. To retain their pole position,

28 The rise of Digital Challengers The rise of Digital Challengers 29 these sectors need to continue updating the skills, which constitute the smallest skill category managing others, entrepreneurship and initiative- management is expected to shrink. For example, in digital skills of their workforce. today in terms of hours worked. Demand for these taking, adaptability and continuous learning. These writing and analytics, computer algorithms already skills is expected to rise by around 50 percent, rep- “soft skills” will be particularly important as they are produce basic news stories about sporting results • Sectors with low digitization and low auto- resenting 17 percent of hours worked in 2030 (see hard to replace with technology. and stock-market movements for many newspapers. mation potential: Sectors such as education, Exhibit 9). healthcare, and arts and entertainment are not Strongest growth in demand will be Finally, demand for physical and manual skills is facing a drastic change in the form of automa- Demand will grow for both basic and advanced for technological skills, which consti- expected to decrease the most. Nevertheless, this tion. Nevertheless, given their low starting point technological skills. Occupations requiring advanced tute the smallest skill category today category will still represent the biggest share of in terms of digitization, they should prepare to technological skills include big data scientists, IT in terms of hours worked. working hours in 2030. gradually adopt more technology and not under- professionals, programmers, engineers, technology estimate the effort that will be required. designers, advanced technology maintenance work- We divide cognitive skills into higher cognitive skills Many organizations have drawn attention to the sig- ers, and scientific researchers. Advanced technolog- “ and basic cognitive skills. The trends for these skills nificance of these skills shifts, including the European Skill shifts ical skills will be critical for digitizing the economy in differ depending on how feasible it is to automate Commission, the World Economic Forum,45 and Skill shifts have accompanied the introduction of CEE; however, workers with these skills will still be in them using technology. Demand for higher cogni- UNESCO.46 The European Commission’s “New Skills new technology in the workplace since at least the a minority. At the same time, all employees will have tive skills such as creativity, critical thinking, deci- Agenda for Europe” focuses on improving the quality Industrial Revolution. But the adoption of digital to develop at least the basic digital skills needed to sion-making, and complex information-processing and relevance of training, increasing comparability of technology, automation and AI will trigger faster skill use online applications and other technological tools will grow through 2030 at cumulative double-digit skills, enhancing information, and improving under- shifts than those of the past. in their day-to-day work. rates. Other types of higher cognitive skills, such standing of trends and patterns in demand for skills as advanced literacy and writing and quantitative and jobs.47 The McKinsey Global Institute has developed a Demand for social and emotional skills will also and statistical skills, will not see such an increase in model for these skill shifts.43 In Western Europe, the grow, representing 22 percent of hours worked in demand. Demand for basic cognitive skills such as Our analysis of education systems in Digital Chal­ strongest growth in demand will be for technological 2030. The skills in question include leadership and literacy, numeracy, communication, and simple data lenger countries indicates that the current focus is

Exhibit 9. Exhibit 10. The education system of Digital Challengers underperforms compared to Digital Frontrunners on those Demand for technological skills could grow by around 50 percent and for social and emotional skills by CEE’s education system underperforms on precisely the skills that tomorrow’s labor market will require. Demand for technological capabilities could grow by around 50%, and for social and emotional skills by skills that will be most in demand in tomorrow's labor market 44 around 2020% percent. based on western European benchmarks Estimated change in hours worked across specific skill groups, 2018 vs. 2030, % Skills used, by category, Western Europe, all sectors, 2016–2030, % of total hours worked –23 Basic data input and processing –8 Basic literacy, numeracy, and communication Physical and manual –8 Advanced literacy and writing Quantitative and statistical skills +2 −16% Project management +3 17% Basic cognitive 14% Critical thinking and decision making +8 25% Current education Teaching and training others +8 31% systems in CEE perform −17% Complex information processing and interpretation +18 better in developing skills Technology design, engineering, and maintenance +20 of lower or declining 2016 21% 22% 2030 Interpersonal skills and empathy +21 projected relevance Higher cognitive Advanced data analysis and mathematical skills +22 Current education +7% 17% Adaptability and continuous learning +24 systems in CEE 12% Scientific research and development +25 underperform Digital 18% Social and emotional Advanced communication and negotiation skills +26 Frontrunners in skills of 22% high or growing Leadership and managing others +27 relevance +22% Creativity +30 Technological Entrepreneurship and initiative taking +32 Basic digital skills +65 +52% Advanced IT skills and programming +92

Change in hours worked Performance of Digital Challengers compared with Digital Frontrunners On a par or close to par Underperform Strongly underperform

NOTE: Based on Western Europe: Austria, Belgium, Denmark, Finland, France, Germany, Greece, Italy, Netherlands, Norway, Spain, Sweden, SOURCE: McKinsey Global Institute workforce skills model Switzerland, UK. Assessment of current education focus is based on performance indicators associated with the given skills, Digital Challengers vs. Digital Frontrunners. Indicators include proficiency levels and enrollment rates. SOURCE: McKinsey Global Institute; McKinsey analysis 30 The rise of Digital Challengers The rise of Digital Challengers 31 0 10 20 30 40 50 60 70 80 90 100% on precisely those areas that will be less required learning among the general population in CEE, as could find additional hours thanks to freelance plat- Exhibit 12. Compared to Digital Frontrunner benchmarks, in the future. In traditional skills areas, such as we explore in Chapter 3. forms. Moreover, as many as 60 million people could Relative to Digital Frontrunner benchmarks, Digital Challengers could have up to 8.6 million basic literacy, numeracy and communication skills, find work that more closely suits their skills or prefer- Digitalpeople Challengers in untapped stilllabor have reserves 8.6 million due to people lower in Digital Challengers are almost on a level with Digital MAKING THE LABOR MARKET MORE ences, while an additional 50 million could shift from untappedactivity rates labor reserves. Frontrunners (see, for example, their PISA scores48). DEMOCRATIC informal to formal employment.51 Activity rate among different population groups, But the skills areas that are most likely to be in Technology will also change the way in which indi- 2017, % demand in the future show great room for improve- viduals find and navigate work opportunities. We can Our analysis of education systems CEE Benchmark (Sweden) ment (Exhibit 10).49 We present a number of exam- already observe advances in technology making the in Digital Challenger countries indi- ples of how education can be adapted in Chapter 5, labor market more “democratic,” that is, more acces- cates that the current focus is on Younger −40% people including cases from CEE. sible for all. New platforms are enabling people to (15–24) precisely those areas that will be less 33% 55% find employment where this was not previously pos- required in the future. Basic digital skills, advanced IT skills and program- sible. For example, inadequate forms of demand and Men −4% (25–59) ming are the areas most likely to increase in value supply have been resolved by means of remote or “ Digital Challengers are especially well positioned to 90% 93% in the future. However, people in Digital Challenger on-demand working. The McKinsey Global Institute benefit from platforms activating the workforce as countries, across all age groups, currently have estimates that up to 540 million people could benefit economic activity in the region currently falls behind Women of −14% maternal much lower basic and advanced digital skills than in from marketplaces for independent work and talent Northern European benchmarks. CEE, despite high age (25–39) 76% 89% Digital Frontrunner countries. Importantly, the older platforms by the year 2025. As many as 230 mil- job vacancy rates, still has around 8.6 million people the age group, the bigger the gap, especially when lion could find new jobs more quickly, reducing the in untapped labor reserves (Exhibit 12). In the total Women −13% it comes to advanced digital skills (Exhibit 11).50 amount of time that they are unemployed, while population of CEE there are 14 percent fewer active (40–59) 78% 90% This indicates a strong need for promoting lifelong 200 million who are inactive or employed part-time people than in Sweden, one of the most active labor markets. The biggest gaps are for young people Elderly −43% population (40 percent) and the elderly (43 percent). The gap (60–74) 20% 36% Exhibit 11. for women of childbearing and middle age is 13–14 People in Digital Challenger countries currently have lower basic and advanced digital skills than in Digital percent. −14% Exhibit 8 Population Frontrunner countries, across all age groups. (15–74) People in Digital Challenger countries exhibit lower basic and advanced digital skills than in Digital 62% 73% Frontrunner countries across all age groups Supporting new marketplaces for independent work would be one way to increase Digital Challengers’ Digital Frontrunners CEE labor reserves compared with activity rate of Estimated change in hours worked, 2018 vs. 2030 %1 Digital skills by age group, share of population, % Digital Challengers activity rates. Indeed, many different types of inde- Sweden, million people, 2017 Relative gap to pendent work platforms already exist in CEE today. 100 13% Digital Frontrunners They empower people to find new forms of flexible 80 23% employment or remote working opportunities around 2.7 2.3 34% the globe. People can also use them to generate 60 48% primary or supplementary income by selling goods (60–74) 8.6 (15–24) 40 62% (either physically or via e-commerce) and monetizing 79% 20 unused assets (by listing a spare room or sharing an unused car, for instance). (25–59) 0.9 Basic digital skills 0

(40–59) (25–39) 100 1.6 1.1 80 NOTE: Activity rate = share of population, both employed and 60 unemployed, that constitutes labor supply 35% SOURCE: Eurostat; McKinsey analysis 43% 40 54% 68% 20 73% 84%

Advanced digital skills 0 16–24 25–34 35–44 45–54 55–65 65–74

SOURCE: Eurostat; McKinsey analysis

32 The rise of Digital Challengers The rise of Digital Challengers 33 Chapter 3

Key enablers of digitization

For historical reasons, it is often difficult for Digital Challengers to compete with Digital Frontrunners in the traditional economy. But when it comes to the digital economy, which has only recently begun developing around the world, the playing field is more level.

We identify five dimensions where Digital Challengers compare favorably with more digitally advanced markets, areas that can form the foundation for further digitization: competitive advantages at a macroeconomic level, including a milder “technology lock-in”; good foundations in primary and secondary education; a large, high-quality graduate pool in STEM subjects and ICT; a high-quality digital infrastructure with good coverage; and a vibrant emerging digital KEY DIGITIZATION ecosystem. ENABLERS IN CEE 1 Increase the adoption of digital skills and We also identify a number of areas take-up of internet services by CEE’s general where Digital Challengers need population. to make improvements in order 2 Increase the adoption of digital tools by CEE’s small, to realize the ambitious medium and large enterprises. digitization scenario, a 3 €200 billion opportunity. Leverage and grow CEE’s ICT specialist labor pool. We call these “key 4 Increase the provision of trainings to develop/upgrade digital enablers.” skills of employees by CEE enterprises. 5 Develop, implement and promote e-government solutions in CEE’s public sectors. 6 Improve & standardize CEE’s ICT regulatory environment to ensure investment attractiveness and easy scalability across the region. 7 Foster entrepreneurship in CEE to stimulate the startup ecosystem.

34 The rise of Digital Challengers The rise of Digital Challengers 35 The digitization of a country or region is ultimately region quickly regained momentum. With average will be key for furthering their own digital capabilities (PISA)58 most countries are either close to or on par the outcome of many processes and factors. All GDP growth of 3.9 percent between 2015 and 2017, and developing home-bred digital champions. with Western economies in terms of developing levels of the economy have a role to play – policy Digital Challengers developed 70 percent faster than reading, mathematics, and science literacy skills (see makers and institutions, large corporations and Digital Frontrunners and more than twice as fast as Digital Challengers also benefit from the fact that Exhibit 14). Furthermore, most countries in the region small and medium-sized enterprises (SMEs), and the EU Big 5.53 their “technology lock-in” – their dependence on have been reporting constant improvement in this even individuals. In this chapter we look at key areas technology that is already in place – is milder than area.59 The Slovenian education system provides an Average GDP growth,1 Average hourly labor of importance for digital transformation and iden- Exhibit 13. in more advanced European economies. Many example of best practice in this area within CEE. In Ex 2015–17, % cost,2 2017, € Digital Challengers have high-growth economies, tify which of these areas should be prioritized for Digital Challengers offer high-growth economies Western and Northern European companies devel- 2015, schoolchildren in Slovenia performed on aver- action by various stakeholders in Digital Challenger combinedand access with to €opean still relatively markets, low combined labor costs. with54 oped their core IT systems during the 1970s and age better than their Digital Frontrunner peers, PISA markets. relatively low labor costs 80s. These systems worked well until the past scores increasing by as much as ten points between Average GDP growth, Average hourly labor decade. In recent years, however, the IT environ- 2010 and 2015 despite the fact that public spending Our investigation covers all dimensions, from talent 2015–17, % cost, 2017, € ment has changed significantly, with the arrival of on education per student fell by nearly one-third in and innovation to infrastructure and governance. Web communications, network computing, and the same period.60 For each of these dimensions we have tested mul- Digital +3.5 9.58 plug-and-play system designs. Having joined the Challengers tiple hypotheses, looking at the experience of Digital digitization race rather late, Digital Challengers are The area in which CEE markets have the most Frontrunners and comparing it with the current often less bound to such legacy systems as they ground to make up is English-language proficiency. performance of Digital Challengers. By calculating do not have to depreciate large, previous-generation But even here, Digital Challengers already perform 2.5x 3.7x scores for KPIs in these areas and combining this EU Big 5 +1.4 faster lower 29.04 investments. Consequently, they can find it easier to better than the EU Big 5 average excluding the data with qualitative assessments by experts, we adopt new technologies, allowing them to leapfrog United Kingdom.61 are able to identify key dimensions for digitization intermediate technologies. The banking sector is a where Digital Challengers already perform close to case in point. In CEE, financial transactions based Yet, while the fundamentals for primary and sec-

or on a par with Digital Frontrunners. These areas Digital +1.5 35.47 on payment cards entirely bypassed the use of ondary education quality are in place, it will be vital Frontrunners can be thought of as the foundation for growing the checks. Today, countries in the region boast one of to adapt the national education systems in CEE to digital economy in CEE. We are also able to identify the highest adoption rates for contactless payments be in line with future trends. This will mean placing areas where improvements are necessary in order SOURCE: World Bank; Eurostat in the world.57 Thus, while it may be more difficult increased emphasis on technological and soft skills to enable further digitization in CEE – areas that we for Digital Challengers to compete in the traditional such as creativity and entrepreneurship. These areas 1 Average GDP growth 2016 call “key enablers.” Despite2 Labor cost labor for the costs labor cost rising index strongly (compensation in recent of employees years in economy, they enjoy a level playing field in the digital are not measured under PISA, but evidence sug- CEE,plus taxes the minus region subsidies) still benefits from a relatively afford- economy. gests that they show room for improvement in CEE. SOURCE: World Bank; Eurostat THE FOUNDATION FOR FURTHER able workforce. Eurostat estimates that the average DIGITIZATION cost for high-skilled workers, including bonuses and With more than 230,000 STEM A large graduate talent pool in STEM subjects We identify five key dimensions for digitization where taxes, is more than 2.5 times lower in CEE than in graduates, CEE has the largest and ICT Digital Challengers compare favorably with more the EU Big 5, and three times lower than in Digital talent pool of this kind in Europe. Highly skilled technical graduates are needed in 62 digitally advanced markets. These areas, which we Frontrunner markets. order for innovation to flourish. As sectors trans- examine in turn below, should form the foundation of Good foundations in primary and secondary form and new industries emerge, demand for future digitization efforts in CEE. A stable and growing economy, combined with education graduates in science, technology, engineering, and robust domestic demand and an educated yet “ A good education system is another factor strongly mathematics (“STEM” subjects) increases. Despite Competitive advantages at a macroeconomic affordable labor force, make Digital Challengers correlated with digitization. Digital Frontrunners multiple economic crises, employment of gradu- level, including a milder legacy technology lock-in highly attractive for knowledge-intensive foreign have some of the leading school systems in the ates in STEM subjects in Europe rose by 12 percent Digital Challengers possess multiple advantages at direct investment (FDI). This includes investments in world – systems that are actively engaged in provid- between 2000 and 2013.63 With more than 230,000 a macroeconomic level compared to their Western research and development (R&D) facilities and soft- ing a backbone for the digital society. They produce STEM graduates, CEE has the largest talent pool and Northern European neighbors (see Exhibit 13). ware development centers. Through spillover effects, a large number of high-school graduates who are of this kind in Europe (see Exhibit 15).64 Slovenia, Since the beginning of the 1990s, CEE has been the inflow of technical and managerial knowhow proficient in English, have strong math skills and Poland, and Lithuania lead the pack, with almost 20 one of the fastest-growing regions in the world. The has a positive effect on domestic companies, driv- show a willingness to pursue a career in the ICT STEM graduates per 1,000 citizens aged between privatization of state-owned industries and imple- ing up the competitiveness of the entire market.55 sector. 20 and 30. mentation of effective labor reforms unleashed the With more and more FDI globally being classified as inherent strengths of the local economies.52 After the “digitally intensive,”56 the ability of CEE countries to Performance in CEE varies, but according to the The share of graduates in information and com- slowdown caused by the 2008 financial crisis, the attract digital investment from frontrunner markets OECD Program for International Student Assessment munication technology (ICT) is 3.7 percent in Digital

36 The rise of Digital Challengers The rise of Digital Challengers 37 Exhibit 14. Exhibit 15. Exhibit 16. Exhibit 14 TheExhibit overall 12 quality of primary and secondary Digital Challengers have a large pool of STEM Broadband coverage is similar in Digital Challengers and Digital Frontrunners – some Digital Challengers Exhibit 13 While broadband coverage across Digital Challengers varies, there is no significant gap on average to No significant gap in overall primary and secondary education does not differ widely between Digital graduatesDigital Challengers and a focus have on a ICTlarge education pool of STEM that is haveDigital coverage Frontrunners rates – for certain ultrafast Digital broadband Challengers that have rank some among of the highest coveragein Europe. rates for ultrafast education quality indicators between Digital Challengers and Digital Frontrunners. comparablegraduates and to aDigital focus Frontrunners. on ICT education nearly on broadband in €ope Challengers and Digital Frontrunners a par with Digital Frontrunners Digital Challengers Digital Frontrunners Average

PISA (OECD), range of country Number of STEM graduates, thousands, 2016 Share of populated scores, 2012–2015 average −11% 98 ICT graduates, % of all graduates areas covered by 4G, 99 98 98 96 92 91 3.6% % 87 Digital Frontrunners Maximum 82 Digital Challengers Minimum 73 72 72 234 550 3.7% 538 127 88 520 525 Share of households 82 −13% 78 Digital 500 511 514 512 Frontrunners covered by ultrafast 75 74 73 75 68 Digital Challengers broadband, % 68 486 487 485 4.5% 60 450 53 87 1 201 440 437 1.0% Italy Germany 434 34 400

United Kingdom 150 Spain 44 105 35 3.9% Share of ultrafast 27 30 −24% 26 199 100 France broadband subscrip- tions ≥ 100 Mbps, % 16 20 3.6% 13 13

198 10 50 7 1

0 3.0% CZ LV LT SI HU PL SK HR RO BU Math Science Reading NOTE: For the Netherlands, data taken from 2015. SOURCE: DESI 2018 NOTE: PISA – The Programme for International Student Assessment SOURCE: Eurostat

Challenger markets. This is still below the Digital With globalization now largely occurring online,68 the has the highest share of ultrafast broadband sub- A vibrant emerging digital ecosystem Frontrunner average, but already higher than some availability of a stable, fast broadband connection is scriptions – approximately 1.7 times the average for Although Digital Challengers lag behind Digital large Western European countries such as the fundamental for growth of the digital economy and Digital Frontrunners. Frontrunners in terms of the size of their digital United Kingdom (3.6 percent), France (3.0 percent) the digitization of society.69 In this regard, the CEE economy, that digital economy has grown more than and Italy (1 percent). region is well positioned: Over the past 20 years, This impressive performance is the result of mul- twice as fast as the non-digital economy in the last the average CEE country managed to develop a 94 tiple initiatives taking place across the CEE region, few years. The first digital “unicorns” have emerged Digital Challengers not only have a large quantity percent household coverage for fixed broadband, which can serve as examples of good practice when in CEE and many companies leveraging the digital of STEM and ICT graduates; those graduates are very close to the 98 percent benchmark for Digital developing network infrastructure. Projects include economy have become household names – not just also of a high quality. Indeed, certain CEE countries Frontrunners (see Exhibit 16). Hungary’s “Superfast Internet Program” (SZIP), in CEE but globally. Large incumbents in traditional are considered to have the best programmers in implementing the network infrastructure required for industries have also begun following suit, digitizing the world,65 and those programmers regularly place In terms of mobile broadband coverage, CEE coun- minimum 30 Mbps broadband speed in less devel- their operations and consumer offerings. highly in coding competitions.66 tries are also well developed, with average cover- oped regions, and Poland’s “Operational Program,” age of 87 percent. While this falls below the average bringing broadband to approximately 400,000 New digital industries have begun taking shape. The High-quality digital infrastructure with good level of 98 percent coverage for Digital Frontrunners, homes and 2,500 schools in largely rural, under- “app economy,” for example, is already well estab- coverage the gap has closed somewhat in recent years, as served regions of the country. lished, and companies from CEE are beginning to Connectivity is one of the key drivers of global eco- Bulgaria, Romania, and Slovakia have made sig- make their mark both locally and globally. In 2017 nomic growth. Between the years 2005 and 2014, nificant progress.70 CEE can also boast some of Finally, the enviable digital infrastructure in CEE is the European Parliament estimated that the app cross-border bandwidth grew 45 times and contrib- the highest coverage rates of ultrafast (100+ Mbps) matched by affordable broadband prices. In most economy had created more than 1.8 million jobs in uted to increasing global GDP by around 3.6 percent broadband in Europe, at least in certain countries. Digital Challenger markets, the amount spent on Europe (around one percent of all jobs in the region), – more than the increase in the flow of goods and Latvia and Lithuania clearly outperform the average broadband represents a smaller share of household compared to 1.7 million jobs in the United States.72 finance.67 for Digital Frontrunners, for instance, while Romania earnings than in Digital Frontrunner markets.71 Just ten percent, or roughly 173,000 jobs, are in

38 The rise of Digital Challengers The rise of Digital Challengers 39 Box 3. SELECTED AREAS OF CEE DIGITAL ECOSYSTEM CEE, but that figure does not do justice to the full scale of the digital ecosystem that has developed CEE boasts a in the region. By leveraging the advantages outlined dynamic gaming indus- further above – good education standards, a large try for both mobile and desktop pool of ICT graduates, competitive labor costs – computers. CD Project Red (Poland), Outfit7 GAMING (Slovenia) and Nanobit (Croatia) are among the CEE has developed a number of software develop- fastest-growing companies in Europe, and their proj- ment powerhouses that operate on a global scale. INDUSTRY EXAMPLES ects such as “The Witcher” or “Talking Tom and Friends” Indeed, these firms are some of the fastest grow- are widely acclaimed. CD Project Red is also listed in the ing in Europe.73 The gaming industry is particularly OF DIGITAL index of the top-20 most valuable companies on the Warsaw prominent in the region. CHAMPIONS Stock Exchange. Several CEE studios, such as Huuuge Games, are responsible for games that are among the region’s top mobile games by download or revenue. Moreover, some of the larg- On page 41 we explore a number of CEE-based est global video games producers have begun investing in organizations working within the digital ecosystem. Many digital success sto- office locations in CEE, leveraging the local talent base. For Stimulating further growth of the ecosystem will be ries can be found around the instance, EA, Ubisoft, Bandai Namco, and King all have key as the region continues on its digitization jour- region – companies that have leveraged offices in Romania, where the government recently ney. It may also lead to positive ripple effects. the digital economy to achieve scale and rev- SOFTWARE announced the creation of a €94 million invest- Attractive workplaces directly connected to the olutionize their industries. For example, robotic DEVELOPMENT ment fund for tech companies.79 digital economy can help keep local talent in process automation (RPA) software provider UiPath was valued at more than $3 billion in 2018, achiev- the region, or even attract back specialists who HOUSES ing “unicorn” status. Polish e-commerce marketplace have left previously – a potentially crucial ave- Allegro is the fifth most-visited marketplace in Europe. nue for combating the issue of talent leakage Avast, a Czech cybersecurity software company, that has been troubling the region over the past boasts one of the highest market shares among anti- C E E - b a s e d two decades (see Chapter 4). malware application vendors worldwide. Other software development CEE players, such as Prezi, LiveChat, Booksy, companies are regarded as powerhouses Doc Planner, Brainly, and SkinVision, to in their fields, with many ranked among name but a few, are also making a the fastest-growing companies in Europe.78 mark in their fields. Examples include Bulpros Consulting (Bulgaria), Infinum (Croatia), STRV (the Czech Republic), Supercharge and Attrecto (Hungary), TRADITIONAL Tooploox, CodiLime, and Miquido (Poland) INCUMBENTS and Trencadis, Tremend, Accesa IT Large incumbents Consulting, and Qualitance from more traditional industries are ADOPTING (Romania). beginning to follow suit. The financial ser- vices sector has been at the forefront of this DIGITAL development. Recently, for example, Moneta Bank in the Czech Republic set a target of 40 percent of its core products to be distributed online or via various digital channels by 2020.80 Other examples in CEE include Santander Bank, which has used the power of advanced analytics to improve the potential assessment of its corporate clients. PKP Energetyka, the electricity distributor for the Polish railway network, implemented field-force automation technology to monitor and measure the execution of maintenance tasks in real time. In Hungary, a global automotive supplier operating in CEE for more than 20 years has embarked on an Industry 4.0 transformation program driven by widespread automation, machine connectivity, and advanced analytics; in some areas the company has realized productivity improvements of 30 percent.81 And Żabka, the Polish convenience store chain, has recently unveiled a “store of tomorrow” concept, using AI and automation tech- nology for improved customer service.82

40 The rise of Digital Challengers The rise of Digital Challengers 41 1 DIGITIZATION ENABLER Increase the adoption of digital tools by CEE’s small, medium, and large enterprises

KEY ENABLERS OF DIGITIZATION With the help of digital tools, businesses can enhance their performance through boosting their Several areas exist where Digital Challengers need for digitization, where closing the gap to Digital revenue growth capabilities as well as increasing their efficiency through better resource allocation. By to make improvements in order to fully tap the Frontrunners would have a major positive impact on benchmarking the CEE region against Digital Frontrunners, we look at five dimensions for companies region’s potential. We identify seven “key enablers” the digital economy of CEE. to achieve such benefits. REGIONAL AVERAGES, LARGE COMPANIES VS. SMALL AND MEDIUM-SIZE ENTERPRISES (SMEs) % of companies Digital Frontrunners, average Digital Challengers, average

... using social media for branding and ... selling online, 2017 ... participating in cross-border marketing, 2017 e-commerce sales (within the EU), 74% 2017 7 50% 43% 51% 29% 21% 25% key enablers of digitization 31% 9% 14% 19% for Digital Challengers 7% Improve and ... paying to advertise on the internet, Share of enterprise turnover ... participating in cross-border Increase standardize CEE’s 2016 from selling online, 2017 e-commerce sales (outside the EU), the adoption of 43% 2017 ICT regulatory environ- 32% 26% digital tools by CEE’s SALES GENERATION 14% 15% ment to ensure investment 34% 21% small, medium, 24% 5% attractiveness and 9% 11% and large 3% easy scalability enterprises SMEs Large enterprises SMEs Large enterprises SMEs Large enterprises Increase across the Foster the adoption of region CONNECTING IN E-COMMERCE INTERNATIONAL entrepreneurship digital skills and take- REAL TIME SALES OVERALL E-COMMERCE in CEE to stimulate up of internet services the startup by CEE’s general ecosystem population Increase Digital-tool adoption: Proxy metrics Develop, participation in implement, and lifelong learning among ADVANCED ANALYTICS STREAMLINING AND 1 promote e-government individuals as well as the 7 FOR DECISION MAKING AUTOMATING PROCESSES solutions in CEE’s provision of formal ... analyzing big data, 2016 ... sending e-invoices suitable for public sectors digital training by automated processing in B2B, 2016 companies 53% in CEE 37% 32% Leverage 13% 34% 22% and grow CEE’s 17% 9% 2 ICT specialist 6 pool ... utilizing cloud computing tools, ... using software solutions like customer 2016 relationship management (CRM) systems, 2017 63% 66% 35% 36% Legal, political, 31% 48% 3 5 and business 13% 20%

environment OPTIMIZATION OPERATIONS SMEs Large enterprises SMEs Large enterprises

SOURCE: Eurostat

In terms of leveraging digital tools to connect with average. CEE enterprises are also relatively less inclined 4 customers, CEE enterprises lag Digital Frontrunners. to use online channels for cross-border sales. Clear gaps are visible, especially for SMEs when looking Gaps can also be seen in proxy metrics measuring the Soft infrastructure Innovation at the use of the internet for online advertising, including degree to which businesses streamline and automate social media for branding and marketing. In terms of their processes in CEE. Talent leveraging digital tools for revenue growth, enterprises of Finally, a significantly smaller share of both SMEs and large all sizes in CEE exhibit low adoption rates, with the share enterprises in CEE leverage cloud-computing technologies of enterprise selling online below the Digtal Frontrunner as well as digital solutions for analyzing big data.

42 The rise of Digital Challengers The rise of Digital Challengers 43 DIGITIZATION ENABLER 2 Increase the adoption of digital skills and take-up of internet services by CEE’s general population

We consider the widespread adoption of digital skills among the general population a key enabler Take-up of internet services is also clearly lower in Digital Challenger markets than in Digital for digitization in CEE. It is an area where Digital Frontrunners excel, with clear gaps for Digital Frontrunners. Closing this gap in terms of demand and supply of products and services available online Challengers to close. will be an important driver for the growth of e-commerce in the region.

DIGITAL TOOLS AND SKILLS PERSPECTIVE Digital Challengers (avg.) TAKE-UP OF INTERNET SERVICES PERSPECTIVE Digital Frontrunners (avg.) % of population aged 16–74 (2017) ... Basic digital skills

% of population aged 16–74 (2017) ... Gap to Digital Frontrunners Digital Challengers differ ... who have used online banking Looking at the adoption ... with at least basic digital skills ... using the Internet in the last significantly from Digital Average of various internet 12 months Frontrunners in terms of Digital services in CEE, the 80 70 93 basic digital skills, with a Frontrunners gaps are even bigger −33% 77 −17% 47 gap of around 33%. 61 −52% than for digital skills. 57 56 51 For instance, the share The vast majority of the Digital 40 39 38 39 of Digital Challengers population in CEE uses 33 Challengers who have used online the internet. However, banking is only half internet penetration, at 7 5 the share of Digital 77%, is still clearly below LV CZ LT SK PL SI HU HR RO BG Frontrunners who ... looking online for information ... sending/receiving email the Digital Frontrunners have done so. Similar about goods and services benchmark. gaps can be seen in 80 −29% 87 −29% Gaps are also visible in ... who have used online travel and accomodation services other proxy measures, 57 62 other proxy mertrics for such as the share Digital 54 basic digital skills, such Frontrunners of people having as using the internet as 48 used online travel 39 −55% a source of information 35 Digital and accommodation 23 23 24 about goods and 18 18 17 Challengers services (−55%), services or sending/ 12 11 participating in online receiveing email (−29%). social or professional CZ SI SK PL HU LT LV HR RO BG Advanced digital skills networks (−25%), or using health and care % of population aged 16–74 (2017) ... services provided online ... participating in online social or professional networks (−50%). ... with above basic digital skills ... who have written a computer Looking at advanced program digital skills, the gap to −25% Digital Digital Frontrunners is 66 71 Frontrunners 43 9.4 even larger. The share of 60 −44% −64% 59 54 Digital 52 50 50 49 53 24 people with above-basic 48 46 Challengers 3.4 digital skills is almost twice as large compared to the CEE region. Looking at proxy metrics, such as the share of HU LV SK LT RO PL BG CZ HR SI ... with software skills for content ... have uploaded self-created content individuals having written manipulation to any website to be shared a computer program or having software skills for ... who have used health and care services provided online 53 −28% 41 −25% content manipulation – all 38 31 indicate that this is an −50% Digital area for improvement. 27 31 Frontrunners 22 19 16 15 Digital 14 14 11 16 10 7 Challengers Eurostat; Digital Economy and Eurostat; Digital Economy and Society Index, 2017 SI HR LT SK CZ PL LV RO BG HU Society Index, 2017

44 The rise of Digital Challengers The rise of Digital Challengers 45 DIGITIZATION ENABLER CASE STUDIES 3 Develop, implement, and promote e-government solutions in CEE’s public sectors

Digitizing public services has various benefits for citizens, businesses, and the government itself. Digital government services can significantly reduce the administrative burden on citizens and firms. It also increases transparency about decisions and thus reduces the risk of corruption. eGovernment in Estonia

Estonia has one of the most advanced e-governments in the world. E-GOVERNMENT PENETRATION AND UPTAKE On average, Digital Indeed, e-government has become the country’s trademark. Frontrunners lead the Impact of e-government in Estonia way in both penetration Digital Challengers of digitization in the Digital Frontrunners public sector and 99% 96% 2% EU Big 5 uptake of digitization by of public services of people file of GDP – the equivalent society. Close to 80% available online their tax returns value of savings of the population in electronically achieved Uptake: Individuals accessing public services online, these countries access % of individuals aged 16–74 public services online. 100% Among Digital Challengers, Latvia is eDelivery Slovenia Supreme Court 90% DK well above average

FI SE in terms of both The Slovenian Supreme Court has succeeded in digitizing the 80% NL penetration and uptake, process of notifying participants of judicial proceedings, which has LU EE Digital Frontrunners with levels on par with speeded up the process, saved staff from mundane tasks, and average 70% Digital Frontrunners. generated savings of over €4.5M per year. FR LV Slovenia, the Czech 60% Republic, and Slovakia, EU Big 5 BE DE TendersForAll – eProcurement tool in Croatia, Slovakia, and average and Poland are in the UK 50% middle of the spectrum, Slovenia ES LT HU SK SI CZ while Romania and 40% Digital Challengers Bulgaria have the The Ministries of Economy for Slovenia and Croatia and average furthest to go, with the Ministry of Interior in Slovakia joined forces to establish HR penetration rates below 30% PL TendersForAll, an automated translated eProcurement tool, 25%. enabling businesses to find relevant tendering information. It is a IT 20% BG platform that grants access to cross-border information on recently open public procurement tenders in each nation’s respective language. 10% RO

0% 30% 35% 40% 45% 50% 55% 60% 65% 70% 75% 80% 85% e-Gov training for Italian public-sector employees

Penetration: Government Digitization Index The Italian Union of Chambers of Commerce – Unioncamere – has launched an e-Gov training and certification scheme for staff at local chambers of commerce. This scheme develops employees’ ability to plan, develop, and operate electronic services.

SOURCE: e-estonia.com; Ministry SOURCE: Eurostat; Digital of Public Administration of Economy and Society Index, 2017 Slovenia, McKinsey & Company

46 The rise of Digital Challengers The rise of Digital Challengers 47 DIGITIZATION ENABLER CASE STUDIES 4 Leverage and grow CEE’s ICT specialist pool

Having a large pool of information and communications technology (ICT) specialists enables the digitization of both private and public sectors. ICT specialists are the driving force behind the digitization and automation of back-end processes, developing next-generation customer experience solutions and building data-driven insights. Developers and engineers who are up-to-date with the latest technology trends also form the technological and creative backbone of startups. IT for SHE in Poland

IT for SHE is a program launched in Poland that aims to increase the participation of women in the high-tech industry, by helping SHARE OF ICT SPECIALISTS, 2016 talented female students from IT faculties to enter the labor market. % of employed population (avg.) In 2017, the program won the Digital Skills for Women and Girls category at the European Digital Skills Awards. Entire population Outliers below Digital Challengers (15–74) Markets close to Digital Challengers

Average for Digital 4.8 A large gap exists Frontrunners between Digital 3.5 3.5 3.6 CodeCool in Hungary −41% 3.3 Challengers and Digital Average 2.9 for Digital 2.9 2.5 2.6 2.6 Frontrunners in terms Challengers CodeCool is a developer sourcing partner for large IT companies, 2.2 of the share of the 1.9 operating in Hungary and Poland. It supports companies in need population employed in of ICT talent by offering 18 months full-time, postpaid, practice- the ICT sector. oriented training with job guarantees for students and junior sourcing for companies. RO LV LT BG PL SK HR SI CZ HU The school, financed with angel investment, is currently running in three cities in Europe: Budapest (HUN), Miskolc (HUN), and Krakow (POL). It has currently a capacity of 500+ students per year and aims to scale up to 20 schools and 10,000 students per year.

15 years old 34 years old 74 years old

5.1 4.8 −15% This difference is mainly Make IT Work in Netherlands 4.3 −53% driven by significant 2.3 underrepresentation As in many other countries, employers in the Netherlands struggle of ICT specialists in to find employees with high-level IT skills. the older population At the same time, university graduates in non-IT subjects often in Digital Challenger find it difficult to pursue a career linked to their studies. countries. Young population Older population The Make IT Work program provides accelerated retraining to (15-34) (34-74) graduates who want to switch to an IT career. The program offers students an 11-month course to become cybersecurity experts, Digital Frontrunners software engineers, software engineers for media, or business Digital Challengers data analysts. SOURCE: Eurostat; Digital Economy and Society Index, SOURCE: www.itforshe.pl/en; 2017; UNESCO Institute for European Commission; www.code- Statistics cool.cm; www.it-omscholing.nl

48 The rise of Digital Challengers The rise of Digital Challengers 49 DIGITIZATION ENABLER CASE STUDIES 5 Increase participation in lifelong learning among individuals as well as the provision of formal digital training by companies in CEE

As we have explored in Chapter 2, with the progressive adoption of automation technologies, most SkillsFuture in Singapore industries will experience a growing shift in their demand for skills. Higher cognitive skills, social and emotional skills, and technology skills are the categories that will grow in importance. The labor market In response to changes in the labor market, the government of Singapore will have to adjust to meet this demand. In this context, reskilling efforts, including the promotion of has developed an initiative called SkillsFuture. The program aims to promote lifelong learning and formal employee training provision by companies, will be key. mastery and recognition of skills and foster a culture of lifelong learning.

All citizens over 25 years of age receive an opening credit of approximately Outliers above Digital Frontrunners average €300 from the government to be spent on courses provided by Markets close to Digital Challengers average recommended partners. One of the program areas targets citizens aged Outliers below Digital Challengers average 40 and above.

Impact of SkillsFuture ADULT PARTICIPATION RATE IN EDUCATION AND TRAINING IN THE The degree to which LAST 12 MONTHS, 2016 Digital Challengers 268,000 18,000 4,600 % of 25–64 years old embrace training for Singaporeans Number of courses Singaporeans partici- No 3 DC DF adults is very varied. took courses with Singaporeans can pated in the SkillsFuture SkillsFuture in 2017 spend their credit on for Digital Workplace With the exception course in 2017 56 Average for of Hungary, all Digital 54 Digital Frontrunners Challengers have 48 46 46 46 −33% lower adult learning Average for 36 participation rates than 32 Digital Challengers Unionlearn in the United Kingdom 28 Digital Frontrunners. 26 25 Unionlearn facilitates a network of “Union Learning Representatives” in firms across the United Kingdom. Union Learning Representatives are 7 trained to identify the skills needed in their workplaces and to help their colleagues access relevant resources and training. To assess employees’ HU LV CZ SK SI HR LT PL BG RO digital skills, Unionlearn also provides an online “Skillcheck” that helps identify potential gaps. Employees can then visit one of the 150 union-led learning centers and attend skills-training sessions as necessary.

Impact of Unionlearn FIRMS PROVIDING TRAINING TO DEVELOP EMPLOYEES’ ICT SKILLS, When it comes to 2017 training in ICT skills for 89,000 £12.30 77% % of firms, 2017 their employees, the learners received return on every £1 of employers say that training in skills invested in Unionlearn Unionlearn has had a gap is even bigger. between 2014 training courses, positive effect on their Almost twice as many and 2017 thanks to increased workplace Average for firms, relatively, in Digital productivity, etc. 27 29 Digital Frontrunners 23 23 Frontrunner countries −48% National Skills Strategy in Ireland 17 17 as in Digital Challengers Average for 15 12 11 Digital Challengers provide training to 10 9 4 employees to develop In 2015, the Department of Education and Skills in Ireland developed a their ICT skills. new National Skills Strategy 2025: Ireland’s Future. SI CZ HR HU SK PL LT LV BG RO The strategy was developed in the context of significant reform in the SOURCE: www.skillsfuture.sg/; www.unionlearn.org.uk; education and training sector to ensure a more dynamic, responsive, www.education.ie/en/ SOURCE: Eurostat; Digital Schools-Colleges/Services/ and high-quality system that provides all learners with the knowledge Economy and Society Index, 2017 National-Skills-Strategy and skills they need to participate fully in society and the economy.

50 The rise of Digital Challengers The rise of Digital Challengers 51 DIGITIZATION ENABLER ANALYSIS: WHAT IS THE IMPACT OF STARTUPS ON THE ECONOMY? 6 Foster entrepreneurship in CEE to stimulate the startup ecosystem

We analyze the state of the ecosystem for startups in Digital Challengers compared with Digital Startups contribute to the economy in three ways: they increase innovation, they lead to the Frontrunners. Our focus is on five areas: the entrepreneurial talent base, the startup community, development of large-scale enterprises, and they create jobs. Innovation is a major long-term driver of early-stage startups, growth-phase startups, and enterprises having achieved significant scale. Digital economic growth. For historical reasons, Digital Challengers have fewer large-scale private enterprises Challengers have a large entrepreneurial talent pool, but their entrepreneurial environment and than Digital Frontrunners. However, this gap is closing, thanks to digitization. capabilities could be improved and there are gaps in funding.

EARLY STAGE STARTUPS In 2013–2015, Digital STARTUPS VS. TRADITIONAL FIRMS European startups are Challengers produced Annual revenue, € million oriented toward interna- Outliers below Digital Challengers average nearly one million graduates tional markets. Markets close to Digital Challengers average in science, technology, On average, they gener- engineering, and mathematics ate 55% of their revenue (STEM subjects) – double Poland Czech Republic outside their domestic the number for Digital 79 markets. Digitization Global Entrepreneurship Index Frontrunners. In both regions, Average for −4% p.a. +94% p.a. +554% p.a. allows startups to rep- 0.66 IT graduates make up Digital Frontrunners licate digital assets and 0.54 0.51 0.50 around the same share of all 0.45 0.43 −41% Average for Digital reach a global consumer 0.40 0.38 0.36 graduates. Digital Challengers 0.34 0.39 Challengers 0.28 thus have access to a large base (see examples of technical talent pool. two fast growing start- ups from CEE that have Global Entrepreneurship Index SI LT PL SK CZ LV RO HU HR BG −3% p.a. scores in Digital Challengers become global in scale). are almost half those of Although only 34 of the Digital Frontrunners. This is 1,000 fastest-growing Number of startups per million citizens, 2018 partly driven by the lack of firms in Europe are from Average for 215 entrepreneurial tradition and the Digital Challenger coun- Digital Frontrunners risk-averse cultures. 3,865 3,104 118 3,276 367 336 3 700 tries, 90% of them are 124 121 digital natives.80 x4 Digital Frontrunners have four 2014 2017 2014 2017 82 2011 2016 2011 2016 57 Average for times as many startups per 42 38 58 37 29 28 27 Digital Challengers capita as Digital Challengers. Traditional Startup: Traditional Startup: The startup ecosystem enterprise: Online currency enterprise: Local Online travel LT LV SI HR BG CZ HU RO SK PL here lacks practical startup Top 3 bank exchange company airline company agency capabilities, with few successful ex-founders who could become serial entrepreneurs and fund new ventures. SHARE OF YOUNG SMEs IN SHARE OF YOUNG SMEs IN Young small and STARTUPS FUNDING IN CEE VS. EU, 2017 TOTAL EMPLOYMENT NEW JOB CREATION medium-size enterprises (SMEs) contribute Gap in VC investment as share of GDP, by stage (relative gaps between the Although some early money is disproportionally to job CEE region to the EU average at each stage) available, there are not enough creation: Across 17 Later- attractive projects to fund. As OECD countries, they Seed Startup stage a result, Digital Challengers account for 16 percent of Total investment, % of GDP stage stage venture Exit see significantly less inflow overall employment but of private capital. Average 16% 41% create 40 percent of new venture capital investment as jobs. Additionally, creating

CEE a share of GDP is less than 0.0097 one high-tech job can one-fifth of that for Digital lead to the creation of x5.0 x1.7 x6.1 x7.3 x20 Frontrunners. more than four additional non-high-tech jobs in the EU Biggest gap is at more same region. 0.049 advanced investment stages SOURCE: Eurostat, Global and exits Entrepreneurship and Development Institute, NOTE: Young SMEs: companies with less than 250 employees and operating for no longer than 5 years SOURCE: European Startup Funderbeam, Dealroom, Angel. Monitor; European Commission; co, Invest Europe, Pitchbook Financial Times

52 The rise of Digital Challengers The rise of Digital Challengers 53 DIGITIZATION ENABLER 7 Improve and standardize CEE’s ICT regulatory environment to ensure investment attractiveness and easy scalability across the region

The World Trade Organization (WTO) indicates that the digitization of trade can be expected to Outliers better than the Digital Frontrunners average magnify the importance of formal and informal institutional factors for comparative advantage. The Markets close to Digital Challengers average ability of countries to enforce contracts, ensure data privacy, and follow pro-ICT regulations will grow Outliers worse than the Digital Challengers average in importance. Robust protection of intellectual-property (IP) rights will be particularly important, since technology patents, a source of competitive strength, often represent a large portion of assets for technology enterprises. STARTING A BUSINESS, 2016

WORLD ECONOMIC FORUM NETWORK READINESS INDEX Number of procedures to start a business Synthetic score, 1-7 (where 1 corresponds to a very bad assessment, 8 7 corresponds to a very good assessment) 7 6 Average for Digital 5 −17% 4.6 Challengers Digital Frontrunners (avg.) Digital Challengers (avg.) 4 4 4 4 3.8 Average for 2 2 Digital Frontrunners Importance of ICTs to government vision CZ HR SK RO BG HU LV PL LT SI

7 Number of days to start a business 6 30 The overall 5 4.82 attractiveness of the 4 18 3.54 Intellectual-property Government success 15 −38% Average for Digital business environment 3 12 12 in ICT promotion 11.5 Challengers protection 5.83 8 in CEE indicates room 3.99 2 6 6 5 4 7.1 Average for for improvement Digital Frontrunners 1 compared with Digital 3.73 4.98 PL BG CZ HR SK RO SI LV HU LT Frontrunners. Looking at proxy metrics, such as the number of 2.98 ENFORCING CONTRACTS, 2016 days and procedures 4.27 3.86 needed to start a 5.29 Number of procedures to enforce a contract business or to enforce 38 38 Average for Digital 34 34 −9% a contract, CEE 33 33 32 31 33 Challengers 27 27 markets underperform 30 Average for Laws relating to Government Digital Frontrunners Digital Frontrunners. ICTs procurement of advanced tech

BG HR HU RO PL SK SI LT CZ LV In investigating the friendliness of the regulatory regime toward ICT in CEE, we see gaps with Digital Frontrunners. On average, laws related to the use of ICTs (e.g., electronic commerce, digital signatures, Number of days to enforce a contract consumer protection) are considered to be less well developed. In terms of a clear implementation plan for 1,160 utilizing ICTs to their country’s overall competitiveness (importance of ICTs to government vision), CEE also lags Digital Frontrunners. The same can be said of government purchasing decisions fostering innovation, as 705 Average for Digital 685 611 −29% well as the promotion of the use of information and communication technologies. Finally, the protection of 572 564 597 Challengers 512 469 intellectual property is also deemed weaker in CEE. 395 300 422 Average for Digital Frontrunners

SI SK PL CZ HR BG RO LV HU LT

SOURCE: World Bank, World SOURCE: World Bank, World Economic Forum Economic Forum

54 The rise of Digital Challengers The rise of Digital Challengers 55 Chapter 4

Collaboration across CEE is key

CEE countries need to reinvent their growth models for the future. A number of factors suggest that they could greatly benefit from cooperation in the area of digitization:

Digital Challengers share a similar starting point in their overall economic and digital development.

Capturing regional scale effects, not just within CEE but within the larger European digital economy, will be crucial for Digital Challengers to achieve their full digitization potential.

Digital Challengers face common challenges such as a “brain drain” and the need to transform the skills of the workforce. These challenges may inhibit their digitization efforts if they are not addressed in a coordinated manner across the region.

Different CEE countries have strengths in different areas of digitization, so the region would benefit from sharing best practices.

56 The rise of Digital Challengers The rise of Digital Challengers 57 To maximize their potential in the area of the digital a high degree of openness. The trade ratio to GDP in of the 12th-largest economy globally),84 all enter- People in Digital Frontrunner countries spend the economy, we believe that CEE markets should work both groups is comparable (128 percent for Digital prises in the region, including small and medium- most online in Europe, but this is still around 33 per- together as a group. In this chapter we examine the Frontrunners,82 137 percent for Digital Challengers) and sized enterprises (SMEs) and startups, would ben- cent less than in the United States. People in Digital reasons why. significantly higher than in the EU Big 5 (67 percent). efit if they could scale up across the region quickly Challenger countries exhibit a particularly low pro- This indicates that market openness is crucial for both and cheaply. Online e-commerce platforms can pensity for online spending, at around 15 percent of A SIMILAR STARTING POINT Digital Challengers and Digital Frontrunners. Digitization go a long way to help companies expand beyond the US level.85 As we saw in Chapter 1, despite progress in recent can enable greater integration into international value their domestic markets, as we explore in Chapter 5. years, Digital Challengers still operate at a fraction chains, for example by creating incentives for invest- But capturing regional scale effects by using digital A significant factor behind these figures is the low of their full digital potential. However, the fact that ments in Industry 4.0, which will boost local manufac- channels remains an elusive goal – not just in CEE, degree of cross-border e-commerce in Europe. they share a similar level of digitization suggests that turing capabilities. It is therefore in their common inter- but across the wider European region. Less than ten percent of firms in the European they could learn from one another, for example with est to abolish restrictions on digital solutions that pre- Union engage in cross-border sales or purchases respect to regulatory policy and investing in digital.81 vent these linkages from operating to their full extent.83 Digital Challengers share a number (Exhibit 18). On the consumer side, only one in five of other characteristics that, inter- Europeans buy goods or services outside their Digital Challengers share a number of other charac- Finally, Digital Frontrunners and Digital Challengers home market – and one in ten, in the case of people teristics that, interestingly, are also shared by Digital have fewer digital trade restrictions than the EU Big 5 estingly, are also shared by Digital in Digital Challenger countries. Frontrunners. First, they are all relatively small econo- (see Exhibit 17). This, combined with the already high Frontrunners. mies. Thus, the average market in both groups is just level of market openness in the region, indicates What lies behind these low levels of cross-border 13–20 percent of the size of the average EU Big 5 mar- that Digital Challengers are well positioned to boost “ That Europe’s digital economy has untapped scale e-commerce in Europe? One reason is the strong ket in terms of population, and 5–14 percent in terms their global competitiveness in the area of trade by effects is clear from the fact that, despite being barriers that exist for consumers and businesses of G D P. increasing digitization. one of the largest markets globally in terms of total – barriers such as websites in foreign languages, online retailing, Europe is still relatively underdevel- longer delivery times, and higher delivery and Second, unlike the big Western EU economies with CAPTURING REGIONAL SCALE EFFECTS oped in terms of e-commerce spending per capita. return costs. All these elements tend to feed con- their large internal markets, both Digital Challengers Given the combined size of the ten countries in CEE The average European spends €310 online a year sumer insecurities. Digital solutions are available, and Digital Frontrunners rely heavily on trade and exhibit (representing 100 million people and the equivalent – just 30 percent of the average for US citizens. such as online translation services, chatbots and

Exhibit 17. Exhibit 18. DigitalDigital Challengers, likelike DigitalDigital Frontrunners, Frontrunners, are are not less as restrictive restrictive inin termsterms ofof digitaldigital trade thanas some the EUWestern Big 5. Cross-border e-commerce activity is low in Europe, particularly in Digital Challenger countries. European benchmarks Cross-border e-commerce activity is low in Europe – less than 10% of enterprises in the EU participate in cross-border e-commerce and only 1 out of 5 Europeans purchases goods or services online cross-border Market digitization (based on Eurostat's DESI index) vs. restrictions on digital trade % of EU enterprises conducting domestic and % of population conducting e-commerce Digital Challengers High cross-border sales online purchases by region, 2017 Digital Frontrunners EU Big 5 Digital Frontrunners Domestic sales Overall Cross-border average Sales to other EU markets Sales to non-EU markets EU 20 57 19

EU Big 5 average Digital 15 Digital Challengers 73 32 average Frontrunners 10 EU Big 5 63 20

Digital Economy and Society Index (DESI) 5

Low High Digital 0 Challengers 38 8 2011 2013 2015 2017 Digital Trade Restrictiveness Index

SOURCE: European Centre for International Political Economy; Eurostat SOURCE: Eurostat

58 The rise of Digital Challengers The rise of Digital Challengers 59

The emigration rate in CEE is very high compared to Digital Frontrunners, especially for highly skilled individuals and this has been growing in magnitude for a long period ExhibitThe emigration 19: rate in CEE is very high compared to Digital Frontrunners, especially for highly skilled electronically streamlined customs procedures. But CEE is still trailing digitally more advanced econo- Theindividuals brain drain and thisis a hasproblem been forgrowing Digital in Challengers magnitude –for cooperation a long period could benefit all countries.89 European firms still often need to navigate complex mies in terms of the importance of ICT to govern- legal landscapes in different countries, resulting in ment vision and the ICT-friendliness of regulatory % of population with higher education living in another higher administrative costs. regimes. The Index also indicates that intellectual EU country Annual net emigration from Digital Challengers, property (IP) protection laws, crucial for foreign Size of bubble = number of people, 2017 thousands of people1 Rather than developing solutions in digital investment, are considered weaker in most 14 450 13 CEE countries than elsewhere.87 The shared inter- 400 isolation, Digital Challengers could 12 est of Digital Challengers in improved regulatory RO replicate strategies already tested 11 350 conditions for the digital economy is firmly rooted 10 elsewhere. 300 in trade and economic integration, especially where 9 In response to this challenge, European pol- investors could have reason to worry about regu- 8 BU LT 250 7 icy makers have rightly postulated the need for SK HR “ lations restricting (or not protecting) the output of 200 Emigration trends 6 LV vary between Digital fewer regulatory barriers in the digital economy. their investments. Moreover, regulatory standard- 5 HU PL 150 Challengers, some According to a European Commission study, for a ization could play an important role in unlocking 4 countries show 3 100 a decline in net migration (e.g., basket of 100 goods, consumers could save €745 regional scale effects, enabling enterprises to scale CZ Digital Frontrunners 2 SI Czech Republic, Hungary, (equal to 16 percent of their total expenditure) if up seamlessly across CEE markets. 50 Romania), others an increase 1 Digital Frontrunners excl. Luxembourg and Ireland (e.g., Bulgaria, Poland) they made their purchases in different countries 0 0 around the European Union.86 In most cases, bar- Another key issue affecting most Digital Challengers 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 2000 2016 riers impede these transactions. The European is the problem of the “brain drain,” or talent leakage, Emigration rate, % of total population living in another EU country Commission’s flagship digital policy initiative – the to Western Europe. If left unaddressed, this could Digital Single Market (DSM) – aims to address this form a major impediment to the development of SOURCE: Eurostat; OECD issue by ensuring that citizens and businesses are the digital economy. As we saw in Chapters 2 and able to access online goods and services seam- 3, although CEE countries have a similar propor- lessly, whatever their nationality and wherever they tion of STEM graduates to EU benchmarks, their income tax rates and subsidized housing. In Chapter make sense for Digital Challengers to share best live. labor markets suffer from high vacancy rates and 5, we explore, with a number of case studies, some practices within the group. Leveraging the strengths low shares of ICT employment. CEE companies are options for cooperation in this space among Digital of neighboring countries could limit the risk of harm- Given CEE’s close economic integration with the experiencing more and more difficulty finding highly Challengers. ful competition and help create centers of excel- European and global economies, Digital Challengers skilled workers. This is at least partially driven by the lence. It would also encourage regional coordination have a particular interest in unlocking these scale brain drain, which has affected most CEE markets A related problem is the need for the labor force and planning: Rather than developing solutions in effects. Indeed, the similarities between Digital throughout the last decade. As shown in Exhibit 19, to transition to new jobs. In the long run, all Digital isolation, Digital Challengers could replicate strate- Challengers and Digital Frontrunners suggest that it overall emigration rates from Digital Challengers far Challengers will have to face this issue. As with gies already tested elsewhere. For instance, Slovenia might be advantageous for the two groups to form outstrip emigration rates from Digital Frontrunners, the brain drain, there could be scope for coop- and the Czech Republic are at the forefront of the a common voice in support of corresponding policy and net emigration is increasing year on year over eration between markets here. For instance, pool- adoption of digital tools among enterprises, while measures. year. Furthermore, most Digital Challengers have ing resources to establish common job platforms Lithuania and Latvia boast the highest number of higher emigration rates for the highly skilled popula- could create network effects across the region in startups per capita and have wide experience digi- COMMON CHALLENGES tion than for the overall population.88 the form of improved worker-job matching. As we tizing utilities.90 Hungary, for its part, leads the way Besides collaborating to ensure progress on digi- saw in Chapter 2, the magnitude and speed of labor- in terms of the share of workers with ICT skills in the tization and unlock regional scale effects, Digital To ensure the right talent pool in the future labor market transitions are likely to differ between Digital labor market and the prevalence of adult training. Challengers should work together to address other market, countries would be well advised to address Challenger markets due to their varied sectoral com- challenges impeding the digital economy’s growth. this issue. One country doing that effectively is position, so the different countries could support There is also a case to be made for collaboration In the short term, Digital Challengers may want to China. The “Stimulating China” program is a com- one another by lessening the associated shocks. We between regions or cities. Given the high levels of explore further pro-digital regulatory reform and prehensive and particularly successful set of mea- explore this topic further in Chapter 5. digital inequality within Digital Challengers, the best- standardization. We saw above that CEE markets sures to encourage emigrants to return by introduc- performing clusters, such as large metropolitan have fewer digital trade restrictions than some ing preferential policies for their families, providing SHARING BEST PRACTICES areas, could connect to exchange best practices. Western EU markets; however, room for improve- job search support and encouraging local govern- No single Digital Challenger stands out across all The same would be possible for regions on the other ment remains. Furthermore, according to the World ments to compete for talented Chinese émigrés. enablers of digitization (see Chapter 3). Most have end of the scale, sharing experiences as they intro- Economic Forum’s Networked Readiness Index, Other countries employ measures such as lower advantages in specific fields, however, so it would duce measures promoting digitization.

60 The rise of Digital Challengers The rise of Digital Challengers 61 Chapter 6

Implications for policy makers, business leaders, and individuals

To capture the benefits of digitization, policy makers, business leaders, and individuals need to work together. Policy makers could do the following: Build skill sets for the future, including updating youth education, promoting lifelong learning and counteracting the brain drain. Support technology adoption by the public sector. Support technology adoption by the private sector. Strengthen regional cross-border digital collaboration. Improve the ecosystem for startups. Business leaders could do the following: Adapt business models to meet the demands of the digital economy. Leverage digital tools for revenue growth, including boosting export capabilities, as well as for optimizing the bottom line. Prepare talent strategies for the future, including updating the approach to recruiting and actively driving “reskilling” and “upskilling.” Leverage contractors and freelancers to fill talent gaps using digital platforms. Embrace a pro-digital organizational culture. Individuals can prepare for the advent of the digital economy by investing in lifelong learning to improve their skill sets and take advantage of digital tools in all aspects of their lives.

62 The rise of Digital Challengers The rise of Digital Challengers 63 If CEE is to fully leverage its digital potential, policy from transitioning the labor force to new jobs and and techniques using digital technology, improving In higher education even more could be done to makers, business leaders and individuals alike all the need to improve workers’ skills, as we saw in students’ skills working with information and digital promote STEM subjects, especially given the rela- could have a role to play in speeding up the digi- Chapter 2. technology, and developing computational thinking tively low share of ICT professionals in the labor tization process and ensuring that it progresses among students.92 market (see Chapter 3). Closing the gender gap smoothly. We look at the options for action by each One solution to the challenges would be to cre- may also be an area of focus. Overall, female stu- of these stakeholder groups below. ate national reskilling programs. Such programs Policy makers could identify labor dents outnumber male students across Europe, already exist in some countries, such as Singapore needs better by working with the pri- but not in STEM subjects. The gender gap is even IMPLICATIONS FOR POLICY MAKERS (see Chapter 3). Many governments in Europe have vate sector, for example by deploy- more pronounced for ICT (Exhibit 20). Closing this also developed national skill strategies in the con- ing targeted analytics and “digital gap would be a big step towards strengthening the Build skill sets for the future and capture the text of the growing influence of the digital economy matching” platforms. pool of ICT specialists in the labor market. benefits of independent work platforms (see pages 66–67).91 In CEE, examples include We believe that one of the most important things Slovenia’s “National Skills Strategy”, developed in “ Programs such as these must consider many differ- Exhibit 20. for governments going forward will be to help pre- partnership with the OECD, and the Czech “Digital ent issues. The best programs diagnose the coun- The gender gap in STEM subjects is substantial pare the labor market for challenges related to Education Strategy.” The latter focuses on identi- try’s current position (the role of the education sys- forThe Digital gender Challengers, gap for graduates but lower in STEM than for subjects Digital in automation. This is driven by the risks stemming fying steps for introducing new teaching methods tem in the skills and talent development process, Frontrunners.Digital Challenger94 countries is substantial – but the makeup of the labor market, domestic trends, smaller than in Digital Frontrunner countries global shifts), identify roles for education and train- Share of female graduates by region and degree, 2016, % of total graduates Box 4. ing providers, employers, public bodies and individ- Options for policy makers: Build skill set for the future (potential actions). uals, and define priority actions for these players. It All subjects STEM subjects ICT subjects is also advisable to outline how the implementation Develop • Diagnose the state of the current workforce and forecast the necessary shift in skill sets 57 a wide- for the future, e.g., develop a labor market model, identify sector shifts, and understand will be monitored and assessed. Digital 40 ranging the gap between current and future skills. Challengers −61% reskilling • Search for relevant solutions and benchmarks, e.g., look at the experiences of other 22 strategy markets such as Denmark, Canada, and Singapore. With technological advances rapidly affecting the • Commit to the program and measure the effectiveness of actions, e.g., measure changes way we work, education systems would have to in employment rates and wages, hold educators responsible for the outcomes of reskilling programs. be adjusted if they are to effectively prepare the next generation for the challenges of tomorrow’s Update • Ensure standard digital infrastructure, integrate digital tools and resources in schools (e.g., youth online courses, virtual reality, gamification), and equip teachers with the necessary skills. labor market. Ensuring standard digital infrastruc- 55 education • Update the curricula of pre-university schools, e.g., increase focus on skills such as Digital ture across educational institutions would be key, 30 programming, entrepreneurship and initiative-taking, leadership and managing others, Frontrunners −65% and communication skills. as would supporting teachers in this transformation 19 • Promote specialization in STEM subjects to build an ICT talent base, focusing especially process. Teachers can integrate digital tools into on enabling women to study technology in order to close the gender gap. their teaching through online courses, virtual reality Build skill • Cooperate with the private sector to create practical education programs and support sets for the apprenticeships. and gamification, for example. Using hybrid person- future Promote • Create an ecosystem that helps adults reskill and upskill: build motivation to learn among led but technology-intensive education models has lifelong adults, offer practical training and/or incentives, provide support during the transition been proven to improve pupil performance com- 53 learning and period and assist in job seeking. 93 EU Big 5 33 mid-career • Support new types of education credentials, e.g., digital programs. pared to traditional methods. −67% 18 training • Increase accessibility of education by improving people’s English-language skills, enabling them to access global knowledge resources. As we saw in Chapter 2, pre-university curricula Actively • Keep ICT specialists from leaving the country, e.g., encourage universities to collaborate may need to be adapted for the future, increasing counteract with the private sector to provide high-quality internships as part of degree programs or their focus on those skills that will grow in impor- talent immediately after graduation. leakage • Attract ICT specialists who have left back to the country, e.g., provide scholarships for tance in the labor market. Technical skills such as young people studying abroad in exchange for a commitment to come back and work in the home country. programming will be important, as will “social entre- SOURCE: Eurostat; McKinsey analysis • Attract additional ICT specialists from around the globe, e.g., work with the private sector preneurship” and communication skills. Schools to determine the demand for highly skilled workers and simplify the migration process could be encouraged to try incorporating new 1 For Italy and the Netherlands, data taken for 2014 for such individuals. SOURCE: Eurostat, McKinsey analysis teaching methods and technology into the curricu- Having said that, it is worth noting that Digital • Carry out research to understand the size and growth of the gig economy. Leverage lum on a trial-and-error basis. On pages 66–67 we Challengers actually perform better than Digital independent • Consider updating policies supporting the gig economy and worker protection initiatives. work look at a number of examples of innovative pro- Frontrunners on gender. Countries such as Poland platforms grams in this area. have made significant strides in this area with

64 The rise of Digital Challengers The rise of Digital Challengers 65 Build skill sets for the future: Selected case studies

DEVELOP A WIDE-RANGING RESKILLING STRATEGY ACTIVELY COUNTERACT BRAIN DRAIN

The Canadian government has linked The Hungarian Academy of Scienc- National up with the private sector to both es launched the Lendület funding Germany skills strategy Czech Republic United Kingdom Canada determine the demand for highly Hungary scheme for 2018–2023, aiming to “Re-imagiing Slovenia – devel- Digital Education Digital skills and Simplified migration skilled workers and, at the same Lendulet funding attract internationally acclaimed sci- work white-paper, oped in partnership Strategy 2020 inclusion strategy process time, radically simplify the migra- scheme entists and highly talented young Work 4.0” with the OECD tion processes for incomers. Work researchers by either hiring them permits can be granted in just two from abroad or keeping them in weeks. Hungary.

PROMOTE LIFELONG LEARNING AND MID-CAREER TRAINING Kazakhstan’s Bolashak Scholarship has already helped more than 13,000 Kazakhstani students graduate from universities abroad, mainly (more than 86%) institutions in the United States, Cana- Aj Ty v IT’s aim is to educate more As part of the eSkills for Jobs Bul- Kazakhstan da, the United Kingdom and Ireland, and Continental Europe. In exchange, the students commit girls in ICT and to acquaint garia pilot, all labor offices­ Bolashak to returning to the Kazakhstani labor market to work in their degree field for a period of five years them with the career possibili- throughout Bulgaria provide in- Scholarship – in the process, spreading the knowhow they have gained abroad. Bulgaria Slovakia ties for women in the ICT sector. formation about all current Aj Ty v IT The portal informs girls, their par- Rails Girls Sofia training sessions and courses­ ents, and the public about the in the field of information and importance and positive impact of communication technologies, having women in IT. Girls can also conducted by the leading compa- find information and sign up for events nies in the sector. UPDATE YOUTH EDUCATION FOR THE FUTURE and workshops that are happening in their region.

Udacity offers massive online open As part of the “Released from Theory” courses (MOOCs), including its competition, high-school participants Opening Opportunities is a mentor The northern branch of Medidia International “Nanodegree” program, designed Poland engage in social project work meant program, in which IT experts men- municipal library and the nongovern- to teach programming skills (with Romania MOOCs – Udacity “Zwolnieni z Teorii” to teach them practical skills for the tor teams of high school pupils in mental organization BiblioVoluntarii a certification scheme) needed to workplace, such as teamwork and Opening Romania Nanodegrees competition computer science, product deve­ run several programs to increase qualify for an entry-level IT position. effective communication. Opportunities lopment, and team work in less Just Learn IT the digital literacy of people with mentor program -developed regions in Roma- disadvantaged backgrounds in nia. The project includes training the region. This included projects for mentors as well as students and for job seekers to reintegrate into the showcasing technology in public spac- labor market by acquiring new skills and A flagship project of the Technology in Augmented Class! – Augmented Reality es such as libraries. At the end of the mentoring abilities; juniors learning basic computer skills; Education Foundation, “Skool,” pro- in Education universalizes access to period, seven teams are selected by a jury and and youth, adults, seniors, and female oncology vides free technology training for augmented-reality technology, allow- the finalists pitch their computer science pro­ patients learning to access the internet, use mod- Hungary 10- to 16-year-old girls, focusing Spain ing teachers and pupils to leverage jects in Bucharest. ern devices, and make electronic transactions. Skool on topics such as robotics, devel- Augmented Class this fun medium in presentations and opment of mobile applications, projects. This allows them to exercise computer graphics and animation, their imaginations and build their own and web design. augmented-reality content. Skills Norway is a national agency The Digital Academy is a project that focusing on (among other things) educates and inspires women and improving basic skills in the adult girls to pursue opportunities in Norway Czech Republic The Irish Digital Schools of Distinction program is an award and benchmarking system for Irish pri- population in the areas of literacy, tech and computing fields such as Skills Norway – Czechitas – Digital mary schools, coordinated by Dublin West Education Centre. The DSoD scheme was formally numeracy, oral communication, programming, web development, Digidel program Academy launched by the Minister for Education and Skills in September 2013, and by 2017 approximate- and the use of ICT. As part of its graphic design, digital marketing, Ireland ly 60% of Irish primary schools have registered for inclusion in the scheme. The scheme offers Digidel 2017 program, it support- and data analytics and IT security. It Digital Schools of (among others): ed groups that do not use ICT as part is a requalification course and a men- Distinction of their everyday life and helped them toring program for future data analysts • A clear and structured road map by which to assess progress in integrating the use of digital acquire the skills needed to master these tech- (20% of them mothers after maternity leave, tools in schools; nologies. The main target groups are people 20% fresh university graduates) with no require- • A national benchmarking system to enable the government to assess and monitor the prog- older than 65 and immigrants from non-West- ments on previous experience/knowledge. The ress of schools in this area; ern countries. goal is to find jobs for the participants in cooper- • A network of excellence, enabling the dissemination and sharing of good practice between ation with local companies. schools at all stages of development.

SOURCE: European Comission – Digital Single Market model projects (see more at SOURCE: European Comission – Digital Single Market model projects (see more at https://ec.europa.eu/digital-single-market/en/projects/); McKinsey research https://ec.europa.eu/digital-single-market/en/projects/); McKinsey research

66 The rise of Digital Challengers The rise of Digital Challengers 67 initiatives such as “Girls at Polytechnics,” a large- study, available via Internet platforms, incorporating Additionally, policy makers could identify labor needs Emphasizing these advantages could attract foreign scale project encouraging female high-school stu- videos, notes, and interactive quizzes and tests.96 better by working with the private sector, for example ICT specialists to come and work in CEE and in this dents to study STEM subjects. Poland boasts a very Leading universities around the globe have begun by deploying targeted analytics and “digital match- way expand the talent pool. high female share of graduates in STEM subjects: 44 offering courses of this type as part of a general ing” platforms. We explore a number of such pro- percent, significantly higher than the OECD average move towards “blended learning,” combining digital grams on pages 66–67. Support technology adoption by the public of 31 percent.95 On pages 66–67 we look at a num- media with traditional, campus-based teaching. For sector ber of other, similar programs taking place in CEE. these institutions, MOOCs represent new revenue Finally, Digital Challengers should try to stem the Digitizing public services is a win-win strategy: It has streams, with certificates with the university’s brand outflow of talent to Western Europe. Rather than the potential for significant cost savings for the gov- on them being highly valued.97 Higher education fighting the trend for young people to pursue ernment combined with increased convenience for Pre-university curricula may institutions in CEE could explore the possibility of higher education abroad, CEE governments could citizens and businesses thanks to reduced bureau- need to be adapted for the future, introducing such courses, too. encourage them to come back again after gradua- cracy. When setting out on this journey, govern- increasing their focus on those tion. Another way of encouraging people to remain ments may want to set up a dedicated taskforce with skills that will grow in importance To help adults adjust to the new demands of the dig- in their home markets, especially those who tend a strong mandate to push forward the digital agenda in the labor market. ital economy, policy makers could consider creating to emigrate at very early stages of their careers, both in the public sector and the wider economy. an ecosystem that supports reskilling and upskill- is to provide high-quality internships with a guar- Although many CEE countries already have such “ Tomorrow’s labor market will require more flexibility ing. It is important to build motivation for learning antee of employment on graduation. We explore units in place, there is still potential across the region from the education system. This may mean shorter among adults, for instance through campaigns and some examples from around the world of programs to draw inspiration from other markets. periods of study, potentially combined with work, peer support groups. Extra focus could be placed fighting talent leakage on pages 66–67. Digital in the form of training courses or “microdegrees.” on motivating those groups in most need and those Challengers can also leverage their inherent assets, A possible priority initiative when digitizing the public In addition to full degrees, or even instead of them, with the biggest skills gaps, namely workers with such as lower living costs and vibrant labor markets. sector is for policy makers to provide digital tools it might be possible for people to take intensive below-median income, employees of SMEs, the sil- courses in one or two selected components – for ver workforce and workers in sectors most prone Box 6. example, programming in one or two specific lan- to automation. Structural measures could be imple- Implications for policy makers: Strengthen cross-border digital collaboration. guages. Technology itself could play a role here, with mented, such as further support in cooperation Create a strong • Establish a coalition favoring pro-digital legislative measures at the European level, solutions such as “massive open online courses” with employers and labor unions – childcare, trans- digital pillar strengthening the voice of individual countries in EU policy discussions. (MOOCs): courses or subjects from various fields of portation, funding/tuition scholarships and the like. within regional • Assemble working groups at relevant levels to develop a pipeline of priority collaboration collaboration areas, e.g., representatives from digitization ministries at national level, platforms (e.g., private-sector leaders. 3SI, V4, B9) • Facilitate the sharing of best practices and experience in the region; disseminate what has worked well regarding regulatory policy and investment. Box 5. Implications for policy makers: Support technology adoption. Ensure stan- • Cooperate to abolish barriers to the full functioning of the Digital Single Market such Digitize • Ensure strong support from the government to drive digitization, e.g., set up a dedicated dardized, flexible as geo-blocking, unjustified data localization practices, regulatory barriers. • Support the standardization and free flow of cross-border nonpersonal data in the the public task force/ministry charged with tackling regulatory barriers to new business models and digital policy public sector, as well as the technological interoperability of digital infrastructures, sector stimulating growth of the digital economy. solutions across e.g., 5G networks. • Speed up the development of online public services, e.g., promote integrated online public- the region • Establish common security models and cybersecurity standards. service platforms and online signatures. Strengthen • Support the adoption of online public services, e.g., launch educational campaigns, promote cross- • Facilitate cross-border digital infrastructure projects that close the gaps across the online solutions during offline interactions, and decrease adoption barriers by creating simple Implement border region, e.g., fiber optics, 5G technology, strategic e-commerce logistic centers, user interfaces. cross-border digital complementary energy infrastructures. • Develop digital skills among public-sector employees. collabora- projects facilitat- • Establish common platforms for cross-border public-sector services, including • Digitize back-end government processes, focusing on the most labor-intensive and tion ing the digitiza- cross-border integration of eID systems, increasing their effectiveness and reducing expensive processes first. tion of the region Support administrative burdens for enterprises. An example of cross-border collaboration • Unleash big data capabilities by standardizing government data and opening it up to third- in this space is the Nordic Council’s efforts to integrate electronic authentication technology party collaborators (researchers, businesses, startups, etc.) so they can build applications systems. adoption on top of it. • Strengthen cross-border industry cooperation over research and education • Invest in Internet of Things (IoT) infrastructure in the public sector, e.g., support smart city and supporting joint technology initiatives such as autonomous transportation, smart human health solutions strongly that strongly leverage public data and resources. cities, human health solutions. An example of cross-border collaboration here is the Franco-German alliance in artificial intelligence.

Support • Promote the benefits of digital transformation, focusing on SMEs and major sectors that lag Cooperate over • Improve cross-border freedom of movement, skills accreditation, and worker technology a long way behind. the management safeguard procedures. adoption at • Create incentives for companies, especially SMEs, to use digital tools, e.g. make business- of social change • Join forces to tackle talent pool issues such as the brain drain and the need for more companies to-government interactions digital by default. as a result of ICT and digital skills at all educational levels, e.g., initiate a joint promotional effort • Leverage external funding, e.g., from the EU, to finance the most promising initiatives changes in the marketing the region as a digital hub to attract talent and investments. supporting the development of the digital economy. labor market

68 The rise of Digital Challengers The rise of Digital Challengers 69 Support technology adoption in the public and private sector: Selected case studies

PUBLIC SECTOR DIGITIZATION (SEE ALSO PAGE 47 IN CHAPTER 3) PUBLIC SECTOR-LED INITIATIVES PROMOTING PRIVATE SECTOR DIGITIZATION

Transport for London, the government body responsible for the The project is implemented by the Latvian Information and Communication United Latvia transportation system in the UK capital, installed 50 innovative self- Technology Association (LIKTA) in cooperation with the Latvian Central Kingdom service ticket machines, replacing traditional ticket offices, and SME training Finance and Contracting Agency and the Ministry of Economy of Latvia. Transport for simultaneously embarked on a three-year learning program to reskill for digital tech- The project provides digital-skills training for managers and employees London: nologies and inno- Digital skills in the and train 5,000 employees and managers in new customer service of small and medium-size enterprises (SMEs) in Latvia, as well as well vation develop- public sector skills, such as operating tablet computers as part of on-platform individual entrepreneurs. The aim is to have higher productivity and customer interactions. ment competitiveness in the SME sector and contribute to the goals of the Digital Single Market in Latvia. The project started in December 2016, and by the end of October 2017, over 400 companies had been already involved in the project, with more than 900 training programs organized.

NGO Online is the first digital school for NGOs in Romania. Implemented As an example of an effective public-private partnership, the Italian by Asociatia Techsoup Romania, it consists of webinars and online government cooperated with Google, leveraging EU funding in its Crescere Italy Romania and offline free learning activities for NGO employees and volunteers. in Digitale initiative. The program offers free training on digital skills to J NGO Online in NGO Online offers the most complex curriculum of its type to date Crescere SMEs and young people not working or studying. The most promising Romania and was the first step in building a sustainable learning environment in Digitale participants are then sponsored during a six-month paid internship as for Romanian NGOs, reaching an extensive audience of more than initiative “digitizers,” that is, people in charge of implementing digital tools within an 2,600 NGOs in Romania. The project was implemented in 13 months in organization. This is a win-win situation, empowering young people to kick- 2015–2016. start their careers and SMEs to become more digital, at little cost.

Digiboost was a funding campaign, launched by the Finnish Funding Agency for Innovation, targeting Finnish SMEs and midcaps in any industry sector. The Finland Konto Bariery, a nonprofit organization in the Czech Republic, and main purpose was to provide an easy way to take the first step into the world the Ministry of Regional Development of the Czech Republic, are Digiboost funding of digital by employing digitization experts. The agency covered half of the using building accessibility data to create a web application, called campaign for SMEs Czech Republic digital experts’ salary for one year. The Digiboost campaign was launched mapybezbarier.cz. This web application provides users with a map and midcaps Mapy bez barier in late 2015, and due to popularity exceeded its original budget of €10 million containing information on the accessibility of various buildings in the by more than 10%. Since then it has been incorporated as part of the Kiito Czech Republic. This can create a better user experience and social funding service and helps SMEs and midcaps enter international markets. benefit for disabled people.

The Swedish government has launched the Digilyft initiative, a program that aims to motivate SMEs in the manufacturing industry to adopt digital processes. Sweden The US government uses the website Challenge.gov to stage problem- Digilyft solving contests on issues such as accelerating the deployment of United solar energy. States Challenge.gov In Slovenia, e-invoicing has been mandatory since 2015 for business- Slovenia/ to-public-sector transactions. Croatia’s Ministry of Economy, Croatia Entrepreneurship,and Crafts also recently embarked on introducing E-invoices in e-invoicing to the country on a national scale. Slovenia and Croatia

SOURCE: European Comission – Digital Single Market model projects (see more at SOURCE: European Comission – Digital Single Market model projects (see more at https://ec.europa.eu/digital-single-market/en/projects/); McKinsey research https://ec.europa.eu/digital-single-market/en/projects/); McKinsey research

70 The rise of Digital Challengers The rise of Digital Challengers 71 such as online signatures and online public-service aimed at promoting the adoption of technology, Box 7. Digital Frontrunners: Digital cross-border collaboration platforms. Globally, solutions such as these have policy makers could create incentives for compa- Example of collaboration platforms proven to increase user satisfaction with interactions nies (especially SMEs) to embrace digitization by in Europe – example initiative. with the government.98 Once the technology is in making interactions with public administration digi- place, government can encourage uptake by means tal by default. Digital Challengers could also look of broad promotional campaigns, including offline for external funds, potentially from the European The initiative establishes cooperation between member states across three sessions on the benefits of switching to e-services. Union, for supporting digitization within the region. Nordic Council digital priorities: On pages 70–71 we explore a number of examples – Digital North Government would be also well advised to digitize of public sector-led initiatives promoting private initiative Increase digitization in both government their behind-the-scenes processes, as the poten- sector digitization. and society; tial for productivity gains here is significant. Training Improve the competitiveness of enterprises through public-sector employees in digital skills so as to Strengthen cross-border digital collaboration initiatives on innovation; ensure a smooth transition to the new ways of work- While established political and business collabo- Enhance digital surface models (DSMs) in the region. ing would also be important. On pages 70–71 we ration platforms already exist in CEE – the “Three explore a number of related case studies from CEE Seas Initiative,” for example – they often lack work- and elsewhere. ing groups at relevant levels developing a pipeline The Digital 9 initiative has so far focused its discussions on of priority collaboration initiatives. Given that such the free flow of data, geo-blocking, and business taxes. Digital 9 One of the biggest levers for digitizing the public sec- exercises are in place in other policy areas, such as Initiative Another focus of the group is the possibility of creating a separate tor is the Internet of Things (IoT). A number of IoT ver- defense, digital matters could follow suit and play a digital single market for member countries, so as to be better able to 99 ticals, such as smart cites and human health, need more central role going forward. take advantage of their advances and facilitate cooperation. to leverage public data and resources to unlock the full value of solutions. Areas such as defense, social A strong “digital pillar” within collaboration platforms welfare, public safety, healthcare, and fraud preven- could also lead to a better understanding of the tion can make use of predictive and advanced ana- common needs and goals of Digital Challengers. lytics based on big data. Internal teams, universi- Initiatives involving multiple countries can be a bet- First steps toward digital ties, businesses, and other institutions should work ter motivator for engaging in policy discussions together to create data-based solutions (see pages that might otherwise be omitted from the region’s collaboration in CEE 70–71). Increasing the standardization and transpar- agenda. They can also act as a catalyst for strength- ency of data across multiple layers of administra- ening the voice of members of the platform within tion will be key to ensuring scale effects for these the European Union or European Economic Area. In 2016, at the Budapest Regional Digital Summit, solutions. This is particularly true for legislative decisions at the the V4 signed the Memorandum of Understanding Memorandum for Regional Cooperation in the Areas of Innovation EU level, which will ensure consistent implementa- of Understanding and Startups, establishing cooperation with regard to Support technology adoption by the private tion of Digital Single Market proposals and shape at 2016 Regional promoting the expansion of startups. One of its main sector the digital agenda of the European Union over the Digital Summit in projects includes We4Startups, a platform to connect As we saw in Chapter 3, the adoption of digital coming decades. Budapest startups with investors and policy makers. tools by both large companies and SMEs in Digital Challenger countries shows significant room for Finally, a digital pillar within collaboration plat- improvement compared to Digital Frontrunners. forms could facilitate the sharing of best prac- Policy makers would therefore be well advised to tices between member states, exploiting the The Warsaw declaration at the Central Eastern Europe support the digital transformation of the private advantages of specific countries. This would Innovators Summit in March 2017 was another related Warsaw sector as well as the public sector. Areas such also increase the efficiency of cooperation initiative. The declaration expressed the V4’s desire to declaration as retail and manufacturing, which make large with Digital Frontrunners, which have cooperate in the following areas: cybersecurity, innova- at 2017 CEE contributions to GDP but trail global digitization begun forming their own cross-border tion, 5G mobile services, supporting SMEs, increasing ICT and digital skills at all levels of education, supporting Innovators benchmarks, should be the priority here. There collaboration platforms – with some regional Industry 4.0 projects, acting against unjustified Summit are many ways in which government could sup- Digital Challengers already fol- barriers to the free flow of data, and improving data pri- port enterprises in these sectors along their digi- lowing in their footsteps (see vacy and protection. tization journey. In addition to targeted programs page 73).

72 The rise of Digital Challengers The rise of Digital Challengers 73 Digital Challengers could also use a strong digital- China have taken the lead, although a number of Box 8. collaboration pillar to remove obstacles to the full EU markets follow close behind. Cross-border sci- Implications for policy makers: Improve the ecosystem for startups. functioning of the Digital Single Market at a national entific research and educational partnerships have Improve the • Embed entrepreneurship in formal education, especially in STEM subjects. level, tackling issues such as geo-blocking, unjusti- emerged, such as the recent Franco-German alli- entrepreneurial • Link entrepreneurial education to startups, accelerators, incubators, and business talent pool angels. fied data localization practices and other regulatory ance in AI, which aims to establish a new institute • Expand the entrepreneurial talent pool by attracting talent from outside the region. barriers. Policy makers in CEE could enhance the of AI. Small countries would struggle to achieve this potential scale effects for e-commerce players and on their own; pooling resources makes it possible. Strengthen • Position startup hubs high on the municipal governments’ agendas and actively IoT solutions by supporting standardization and the Digital Challengers could come together to support the position of communicate the importance of startups. major CEE cities • Create physical startup clusters where they can cooperate at scale, e.g., Station F in free flow of cross-border non-personal data in the joint technology initiatives in areas such as autono- Improve the as startup hubs, Paris, Blk 71 in Singapore. ecosystem public sector. They could likewise ensure the tech- mous transportation, smart cities and healthcare. tailored to local for startups • Support the creation of testing grounds for new business models, e.g., implement nological interoperability of digital infrastructures Significantly, in April 2018 a number of CEE markets needs regulatory sandboxes enabling entrepreneurs to try out their innovations in real market conditions. such as 5G networks. With the rise of global cyber- signed the European Declaration on Cooperation on threats, there is also a strong argument for common Artificial Intelligence – a promising platform for iden- Increase access • Simplify business angel investing, e.g., with standardized, easily available forms and security models and cybersecurity standards to tifying concrete initiatives in the future. to capital corporations with low capital requirements. ensure that there are no weak links in the region.100 • Provide additional incentives for business angels and serial entrepreneurs, e.g., tax Finally, to help manage the transition of workers breaks. • Simplify procedures for obtaining and reporting public/European Union fund. As we have seen in previous chapters, Digital to different labor pools, Digital Challengers should Challengers boast a relatively good ICT infrastruc- improve cross-border freedom of movement by set- ture. However, governments could close the gaps ting up joint job-seeking platforms, improving skills entrepreneurship into such degrees. The curriculum remain in Digital Challenger countries, and inves- that exist across the region by facilitating cross-bor- accreditation and ensuring procedures that safe- could include practical knowledge about setting up tors more willing to invest there, if major cities in the der digital infrastructure projects in areas such as guard workers. They could also launch joint efforts a company, accounting, business model design, region had a reputation for supporting entrepreneur- fiber optics, 5G technology, strategic e-commerce to market the region as a digital hub, combating the marketing, pitching ideas to investors, and so on. ship. Digital Challengers could build on the example logistics centers, and complementary energy infra- brain drain and at the same time attracting new tal- This would be even more effective if closely linked to of Berlin, one of the top global startup hubs despite structures. Another area for collaboration might be ent and investments. business incubators, business angels, serial entre- not being an international business or financial establishing common platforms for cross-border preneurs and accelerators. In the United States, for center.106 public-sector services, including cross-border inte- Improve the ecosystem for startups example, “MIT Startup Exchange” is a program pro- gration of e-ID systems, increasing the effectiveness moting partnerships between startups and industry. Another simple step would be to provide entre- of such systems, enhancing public procurement Improve the entrepreneurial talent pool The program also includes workshops and facilitates preneurs with locations where they can work practices, and lightening the administrative burden As we saw in Chapter 3, Digital Challengers score networking between startups and executives.103 and interact with other entrepreneurs and inves- on companies. A good example of such a collabo- low in the Global Entrepreneurship Index. This is tors. Examples of such initiatives include BLK71 ration effort can be found in Finland and Estonia, mainly due to the lack of an entrepreneurial tradi- Policy makers can also expand the entrepreneurial in Singapore (a former industrial quarter), Station which initiated an automated inter-government tion and the fact that local cultures are generally talent pool by attracting creative, entrepreneurial F in Paris (a refurbished railroad station) and the electronic information exchange process, providing risk-averse. To address this challenge, policy mak- individuals from abroad, as discussed earlier in this Google Campuses in several European countries, information about citizens moving from one coun- ers should strive to develop an entrepreneurial tal- chapter. Some countries are already doing this – for including Warsaw. These sites house hundreds of try to the other, deaths, marriages, name changes ent pool by embedding entrepreneurship firmly in example, Canada, with its “Startup Visa Program.” startups, accelerators and early-stage funds, and and so on. This helped both governments by lower- formal education. For high-school students, for Under the Program people from all around the world allow entrepreneurs to meet, exchange ideas, and ing the reporting burden on consulates, develop- example, this could take the form of short projects can immigrate to Canada if their business idea is cooperate. ing communication links and improving encryption or boot camps. To take an example from Western supported by one of the designated organizations solutions.101 Similarly, in CEE, Slovenia, Croatia and Europe, the French “Option Startup” is a two- to (venture capital funds, angel investor groups, and Creating testing grounds for new business mod- Slovakia established “TendersForAll,” an e-pro- four-day event at which students can interact with business incubators).104 In Europe, the Netherlands els would also boost the attractiveness of Digital curement tool featuring automatic translations (see startups, incubators, and accelerators and partici- has a similar scheme.105 Digital Challengers could Challengers for digital entrepreneurs. This could be Chapter 3). pate in workshops on entrepreneurship in different consider implementing similar schemes, especially done by means of “regulatory sandboxes,” for exam- sectors.102 targeting entrepreneurial talent from neighboring ple, enabling entrepreneurs to try out their innova- As we saw in Chapter 1, countries around the non-EU countries. tions in real-life market conditions. Some CEE coun- world are busy drawing up artificial intelligence In higher education, policy makers should strive tries are already doing this; for example, the Bank (AI) strategies and investing resources in develop- to build closer links between STEM and business Strengthen major cities as startup hubs of Lithuania is introducing a regulatory and techno- ing capabilities in this area. The United States and degree students, or incorporate the subject of Entrepreneurial talent would be more willing to logical sandbox platform for blockchain solutions.107

74 The rise of Digital Challengers The rise of Digital Challengers 75 Poland’s Financial Oversight Commission has also scheme in the United Kingdom is another example, Taking advantage of digital platforms providing Companies would be well advised to investigate the recently announced the launch of a virtual regulatory providing for less capital gain tax when the entrepre- access to millions of users gives established players potential for forming strategic alliances with innova- sandbox as an intermediary pilot solution for fintech neur sells their business.110 the ability to cross-sell and add new business lines at tive organizations changing the face of their mar- players in the country.108 almost negligible marginal costs. Banks in CEE have kets. In this way they can create new competen- IMPLICATIONS FOR BUSINESS LEADERS started expanding into services such as accounts- cies within their own organizations. Many examples Companies would be well advised to receivable management, factoring, accounting and can be seen in CEE, such as the recent partnership investigate the potential for forming Adopt business models to meet the demands of cash-flow analysis for SMEs. Other ventures include between mBank and the transaction platform Allegro the digital economy joining forces with healthcare providers and health in Poland. The cooperation has resulted in a new strategic alliances with innovative CEE is still just starting out on its digitization journey. insurance companies to provide a consolidated billing creditworthiness assessment model for the plat- organizations changing the face of The majority of executives in the region were trained platform that makes it easier for consumers to pay for form’s merchants; using data such as the merchant’s their markets. in the running of business models based upon physi- medical expenses. On page 80–81 we explore some revenues, the bank is able to assess their financial “ cal assets, which require significant resources to examples. potential and draw up a loan offer. Improve access to capital build and then scale up. Now, digitization is poised to Improved access to early-stage venture capital change the rules of the game, introducing a world in Box 9. would help create a more robust ecosystem for start- which value creation is driven primarily by intangible Implications for business leaders. ups in CEE. Venture capital funds focusing on CEE assets and digital networks able to achieve exponen- Adapt your • Anticipate and, if necessary, prepare for digital disruption to demand for your product, e.g., unbundle and say that the availability of funding for existing startups tial growth shortly after creation. With the dawning business tailor your product or turn it into a service. • Anticipate and, if necessary, prepare for how digital disruption will change supply in your market, e.g., is not an issue, but they simply do not see enough of this new era, companies should adapt their exist- model to analyze the possibility of new, online players and anticipate changes in the value-chain structure caused meet the investment opportunities there. Angel investing and ing business models, assess why and how a mar- by automation. demands of seed capital, combined with the actions mentioned ket might be disrupted through digitization and then • Investigate the potential for forming strategic alliances with innovative organizations and enterprises the digital changing the face of the market (e.g. startups) to create new competencies in your organization. above, could increase the number of startups in the decide whether they can take advantage of it – or, economy ecosystem. alternatively, consider withdrawing. Thinking about Use digital tools • Connect in real time with your customers, leveraging social media and online digital disruption in the context of a supply-and- for revenue advertising in a targeted way to enable appropriate performance measurements. Simplifying investments by business angels would demand framework can be helpful, as laid out in the growth, includ- • Use the internet to increase your revenue growth capabilities by utilizing e-commerce, Actively increase the number of this type of investor. Business McKinsey Quarterly article “The economic essentials ing boosting e.g., build an online presence for your organization, develop your own e-commerce adopt your export platform or make use of multi-vendor e-commerce platform. 111 angels form a critical part of the ecosystem: Often, of digital strategy.” technology capabilities • Leverage own or external e-commerce platforms to boost your export capabilities and they not only provide the initial source of funding and tap into global demand pools for your products and services. innovation but also act as coaches and mentors to inexperi- On the demand side, digitization can disrupt the to close the Use digital tools • Streamline and automate internal operations where possible, e.g., implementing enced entrepreneurs. Creating standardized, easily- way in which products and services are consumed. gap to digital to optimize your e-invoicing suitable for automated processing, adopting resource management leaders bottom line software tools, focusing on the most labor-intensive, expensive processes first. available forms (such as term sheets) and enabling Companies may want to think about unbundling or • Leverage the power of big data and cloud computing for improved decision making low-capital corporations would improve the situation re-bundling products and services in new ways, and process optimization. • Build cybersecurity capabilities to ensure competitive dynamics and customer trust. significantly. much as streaming services have done with music. On the supply side, e-commerce can make domes- Update your • Put more focus on assessing candidates’ skills, e.g., through open competitions, Another important step would be to create incentives tic markets accessible to foreign players and reveal approach to games, hackathons. recruiting future • Develop a talent pipeline to shift from reactive to proactive recruiting, e.g., offer for investment and re-investment in the startup eco- sources of supply that were previously unknown or employees workshops and apprenticeships to help candidates build the desired skills. system. Today, for many CEE-based startups, reach- uneconomical to draw upon. The dynamics of both • Leverage contractors or freelancers to fill talent gaps, using digital platforms to optimize Invest in the search effort. ing Series A, B, or later funding stages often means sides creates an opportunity for companies to play human capital leaving the region to improve their access to foreign the role of “market maker,” especially if a company Create reskilling • Enable reskilling and upskilling opportunities, e.g., provide practical in-house training, offer financial support, create opportunities for formal and informal knowledge sharing. investors. Investors (business angels, venture capital can find a way to connect consumers and customers and upskilling opportunities funds, large corporations) need to be attracted to the by lowering transaction costs while reducing infor- for current region, building trust and interest abroad. This could mation asymmetry. Headline-making companies of employees

be achieved by means of tax incentive schemes, this type that have emerged in recent years include • Start the change from the top, fostering understanding and conviction among employees on the benefits such as the United Kingdom’s Enterprise Investment TransferWise and Airbnb. of digital: ensure the leadership and middle management act as role models in terms of their use of digital Scheme (EIS) and Seed Enterprise Investment tools. Embrace a • Support employees in developing their skills and knowledge, e.g., encourage employees to cultivate Scheme (SEIS). These schemes provide for income Beside these newcomers, established organizations pro-digital their curiosity about creating opportunities in combining emerging technologies with innovative services, culture tax relief on investments and exemption on capital are also beginning to find ways to adjust their busi- implement reinforcement mechanisms. • Prioritize agility and learning over forecasting and planning. gains that are reinvested.109 The Entrepreneurs’ Relief ness models to capture new growth opportunities. • Form strong digital collaborations within trade associations, focusing particularly on SMEs.

76 The rise of Digital Challengers The rise of Digital Challengers 77 Use digital tools for revenue growth, including to leverage such tools for reaching their customers previously had to grow to a substantial size before It is worth noting that the vast majority of CEE boosting your export capabilities online in a targeted and measurable way. they could afford the resources needed to export enterprises engaged in online sales do so primarily Companies should incorporate new digital solutions their goods or services. Now, digitization has dra- through their own website or application. And while into their operations on an ongoing basis in order to Having established an effective online presence, matically reduced the minimum scale required to e-commerce marketplaces are in general used less maximize revenue growth. In Chapter 3 we explored companies should then leverage e-commerce solu- do business across borders. Small businesses or often by companies in CEE, such platforms are more the degree to which CEE firms engage with cus- tions for additional revenue generation. Again, we “micro-multinationals” are able to sell their products important for SMEs than for large enterprises (see tomers directly and in real time via the internet, saw in Chapter 3 that both large and small compa- globally without the need for investments in a sub- Exhibit 22). enabling them to learn more about their customers nies in CEE lag behind their Digital Frontrunner peers stantial physical presence abroad, either through and so shape their offering for specific target seg- here. The gaps are particularly large for SMEs, with their own website or by joining major e-commerce In Chapter 3 we saw that the share of CEE compa- ments. We found that a gap existed between Digital only one in seven SMEs in the CEE region selling marketplaces to connect with customers and sup- nies participating in cross-border e-commerce sales Challengers and Digital Frontrunners. An effective, their products or services online in 2017, compared pliers anywhere in the world.113 is still very low. To demonstrate the potential ben- mobile-ready online presence is one of the most to one in five SMEs in Digital Frontrunner markets. efits, we look at a number of SMEs from the region important assets for engaging with customers in Automating and streamlining core successfully expanding into global markets through today’s market. Here, SMEs in Digital Challenger Digitization has removed many of the barriers that online channels on pages 80–81. markets especially have ground to make up: While once prevented enterprises, especially SMEs, from business processes drives down the majority (68 percent) already have some form reaching customers abroad. New technologies are costs, but it also gives companies Use digital tools to improve your bottom line of online presence, they still lag behind their Digital poised to decrease the importance of distance. greater flexibility to respond to and In Chapter 3 we also identified gaps between Frontrunner counterparts, 85 percent of which have Solutions such as AI applications for optimized route anticipate customer demand. Digital Challengers and Digital Frontrunners in the a website. A passive company webpage is no lon- planning, 3D printing and cross-border payment “ degree to which they leverage digital solutions ger sufficient, either – companies need a respon- systems will likely lead to a decline in logistics and Already, we can see that e-commerce solutions to optimize operating efficiency. Automating and sive social media presence and perhaps even their customs costs. Moreover, the benefits arising from enable increased exports for small companies in streamlining core business processes drives down own e-commerce platform. We also saw that a sig- these solutions could be disproportionately large for CEE. The share of small firms engaged in export costs, but it also gives companies greater flexibility nificantly smaller share of CEE firms leverage social SMEs.112 Since small firms trade in smaller quanti- tends to be above-average among companies to respond to and anticipate customer demand. media for branding and marketing, and a smaller ties, fixed trade costs such as logistics tend to weigh with online sales. Interestingly, this tendency does Automation can deliver significant value not asso- share pay for online advertising. Companies in more heavily on them, as they make up a larger not hold for medium and large enterprises (see ciated with labor substitution, helping compa- Digital Challenger markets would be well advised share of the unit cost of the goods sold. Companies Exhibit 21). nies improve their industrial operations, optimize

Exhibit 21. Exhibit 22. Online platforms enable small enterprises in CEE to achieve above-average export participation. While company websites and apps are the primary online sales channel for all companies in CEE, SMEs use e-commerce marketplaces more often than large companies. Enterprises with online sales Enterprises overall

% of CEE enterprises exporting to other EU countries, % of CEE enterprises exporting outside of the EU, 2015 2015 −41% −7% Share of CEE enterprises with online sales −11% %, 2017 61 56 +65% 57 Small (10-50 employees) 89 46 −35% Selling through 40 41 their own website Medium (50-250 employees) 92 -5% 33 or app 31 +64% Large (+250 employees) 94 24 20 20

12 Small (10-50 employees) 30 Selling through e-commerce Medium (50-250 employees) 29 +25% marketplaces Small Medium Large Small Medium Large Large (+250 employees) 24 (10-50 (50-250 (+250 (10-50 (50-250 (+250 employees) employees) employees) employees) employees) employees) SOURCE: Eurostat; McKinsey analysis SOURCE: Eurostat; McKinsey analysis

78 The rise of Digital Challengers The rise of Digital Challengers 79 Actively adopt technology and innovation to close the gap to digital leaders: Selected case studies

CEE SMES AND MIDCAPS LEVERAGING DIGITAL TECHNOLOGIES TO ACCESS GLOBAL BUSINESS MODEL EXPANSION USING DIGITAL TECHNOLOGIES MARKETS

Scania has launched a number of complementary services around trucks, Allterco Robotics is a Bulgarian manufacturer of Home Automation and Wearable using digital solutions, leveraging the increasing availability of sensor data. devices, such as the GPS/GSM watch tracker for kids, MyKi, as well as a device Scania: helping pet owners monitor their pets’ location at all times. The company complementary Offerings of digital services include (among others): Bulgaria has utilized its own online sales platform to expand internationally, including truck services and Scania Tachograph Services: complete digitization of tachograph, Allterco Robotics markets such as Romania, Serbia, Macedonia, Croatia. products online access, automatic evaluation Scania Watch: smart watch allowing live access to various driving parameters Driver Coaching: online access to driving parameters, allowing telephone-based coaching of drivers, e.g., regarding fuel-efficient driving

Deeper is a Lithuania-based SME providing smart sonar devices for anglers. The company has utilized its own online shopping platform, as well as major external e-commerce platforms to reach clients in more than 50 countries, Lithuania enabling avid anglers from Sydney to Singapore, Michigan to Manchester Deeper to experience a completely new way of fishing. John Deere developed an extended product environment for fleet optimiza- tion based on the use of sensors tracking various machine parameters. John Deere: The information is combined with historical and real-time data regarding They make weather prediction, soil conditions, crop features, and many other data sets. tractors, right? The information is presented on an online platform as well as a mobile app in order to help farmers figure out which crops to plant where and Funtronic is a Polish company that started its business operations in 2014. It when, when and where to plow, where the best return will be made with the is a producer and distributor of the Funtronic Floor, an interactive projection crops, and even which path to follow when plowing. system aimed to be an innovative teaching aid and rehabilitation tool. Utiliz- Poland ing a distributor network, locally tailored websites, and large e-commerce Funtronic platforms, the company is providing its product to Poland and over 20 foreign markets, including Germany, the Netherlands, the United Arab Emir- ates, United Kingdom, and the United States.

Ping An, a giant Chinese insurer with more than one million employees and E-obuwie.pl is an example of a traditional business idea (footwear sales) agents, has expanded its reach to offer healthcare consultations, auto achieving significant scale thanks to global expansion by means of online sales, real estate listings, and banking services to more than 350 mil- platforms. The company, launched in 2006 with the intent on operating as Ping An: Poland Ecosystem lion online customers through a single customer portal called the One a network of stationary footwear stores in Zielona Gora, has since become E-obuwie orchestrator Account. This new activity also generates customer traffic for Ping one of the largest platforms in the region for online sales of shoes, hand- An’s core services. bags, and other accessories. The company today operates in multiple markets, including (among others) the Czech Republic, Germany, Hungary, Italy, Poland, Sweden, Ukraine, and the United Kingdom.

SOURCE: Mckinsey research; company websites SOURCE: European Comission – Digital Single Market model projects (see more at https://ec.europa.eu/digital-single-market/en/projects/); McKinsey research, company websites

80 The rise of Digital Challengers The rise of Digital Challengers 81 knowledge work, better understand forces of feasibility assessment of an automation-enabled pro- Update your approach to recruiting training efforts in some European countries, and both nature, and increase the scale and speed of dis- cess transformation. We see numerous successful Recruiting – a core element of any talent strategy – these groups have potentially important roles to play covery in areas such as R&D.114 cases of automation already being deployed today is a high-stakes game. Most companies review an in addressing shortages of skills and retraining work- around the world, such as Rio Tinto’s automated haul average of 250 résumés for each position they fill.123 ers. In Sweden, for example, “job security boards” One of the first applications of digitization, imple- trucks116 and Google’s DeepMind machine-learning Hiring executive search firms is expensive. Moreover, funded by companies and unions coach people who mented by many businesses at the end of the last solution, which cuts data-center energy consump- up to 80 percent of employee turnover is the result of lose their jobs and can also provide them with tempo- century, was the digitization of paper documents. tion by 40 percent.117 bad hiring decisions.124 rary financial support, transition services, and retrain- Today, invoices can not only be digitized but also ing so they can quickly find a new job. We explore a processed electronically, streamlining the adminis- Finally, companies in CEE would be well advised These facts, combined with the projected shifts number of approaches taken by companies on pages trative and accounting processes. Digital Challengers to explore the potential for leveraging big data for in the labor market, paint a challenging picture for 84–85. trail behind Digital Frontrunners in terms of the share improved decision-making. A wide range of areas recruiters. Companies can unlock significant value of companies sending e-invoices for automatic pro- of application exist, from internal processes (pro- by taking advantage of digital tools that enable more Leverage contractors and freelancers to fill cessing to their business partners (not individual duction, maintenance) and pricing to analyzing effective identification of their desired skill sets, such talent gaps customers) and the government. Slovenia is a posi- customer interactions. In Chapter 3 we saw that as online talent portals, social media tools, and With the advent of a “gig economy,”126 companies tive outlier in CEE and indeed one of the leaders Digital Challengers are not yet fully leveraging this sophisticated algorithms to reduce human biases become more agile, efficient and productive by in Europe as a whole, with 78 percent of its large opportunity.118 in the hiring process. Many companies still rely on focusing on hiring the best talent exactly when it is enterprises and 56 percent of its SMEs sending traditional data when assessing prospective employ- needed. Digitization fits in well with this as it tends e-invoices. This is the result of policies encourag- Prepare talent strategies for the future ees, such as the candidate’s school, academic to break down jobs into discrete tasks that are then ing e-invoicing, such as those explored earlier in this To remain competitive in an era of automation, record and previous employers. But these can be easier to outsource. One solution for businesses is chapter. companies will need qualified experts to help them crude indicators of actual performance. For example, to create mix-and-match project teams that combine implement technological innovations. This will not be Catalyte, which evaluated hundreds of thousands of traditional full-time workers in the office, part-time Automation and streamlining can also be achieved possible without the help of interdisciplinary employ- IT systems managers, found that there was no sta- workers working remotely, and temporary workers by leveraging enterprise resource planning (ERP) ees who, thanks to their combination of hard and tistically significant correlation between a candidate’s who can help meet spikes in demand or perform and customer relationship management (CRM) soft- soft skills, can ensure the organization’s success college degree and their success in the position.125 specialized functions.127 ware. Take-up for such programs is lower for Digital in a rapidly changing business environment.119 The Using sophisticated algorithms to assess innate Challengers than for Digital Frontrunners. book Talent Wins, coauthored by Dominic Barton, skills and IT knowledge, the company now hires a Small businesses and startups stand to gain the former Global Managing Partner of McKinsey & wide range of people, regardless of their educational most from the ability to call in specialized help on an The McKinsey Global Institute report A future that Company, argues that businesses should elevate credentials. as-needed basis. The availability of freelance labor works: automation, employment, and productivity human resources to the same level as finance.120 has vastly reduced the cost and lowered the barriers 128 examines many other cases of automation driving Implementing new ways to manage talent can help Companies can unlock significant to starting a business. With the help of platforms performance gains in workplace settings. Examples companies stay competitive and create value by vari- such as Freelancer.pl, companies can quickly find include inventory tracking, no-stop checkouts and ous means, as we discuss below. value by taking advantage of digi- any external experts they need. automated shopping carts. These solutions lead to tal tools that enable more effective an improved customer experience, greater space In a survey of companies carried out by McKinsey in identification of their desired skill Earlier in this chapter we saw examples of how productivity and lower working capital needs – late 2017, 76 percent of managers in Europe felt that sets. companies, especially SMEs, can invest in contrac- resulting in a return on investment (ROI) estimated at their workforce had skill gaps related to automation tors who can support their digital transformation 115 “ 14 percent on average. and digitization; addressing this gap was considered Reskill and upskill your employees efforts, be it by helping them establish an online at least a “top-ten priority” for management.121 The Organizations could consider building motivation presence or build online marketing and e-com- To assess where the greatest potential for automa- first step for ensuring competitiveness in an era of for reskilling among their employees. For example, merce capabilities. Companies in CEE would be tion lies within their organizations, business leaders automation is to identify the types of skills needed they can offer career planning support programs, well advised to identify actors in the overall digitiza- can consider conducting a thorough examination of and the future employment structure. The second development guidance systems and training on work tion support ecosystem, such as public-sector or their company’s activities and drawing up a “heat step should be to map the current skills of employ- performance assessment and promotion mecha- NGO-driven programs. Importantly, however, they map” of areas with potential. Once these areas have ees against future needs, so as to identify any gaps. nisms. Firms can create opportunities both in-house should carry out a cost-benefit analysis in each case been identified, they can then be re-imagined taking It will be important for firms to draw up information and externally, for instance partnering with univer- to check whether it is more economical to keep jobs full advantage of automation technology, rather than about which positions will require which skills, and sities and educators to build skills that are directly in-house or outsource them, taking into account the simply automating individual activities within current to establish a talent management system within the applicable in the workplace. Trade associations and institutional knowledge and experience that long- processes. This could be followed by a benefits and company.122 labor unions have traditionally played a central role in term workers provide.129

82 The rise of Digital Challengers The rise of Digital Challengers 83 Invest in human capital: Selected case studies

AT&T: UP- AND RESKILLING AT SCALE WITH A BLENDED APPROACH CONTINENTAL LAUNCHED A BIG DATA SELF-SERVICE PROJECT TO QUALIFY NON-IT EMPLOYEES World’s biggest telecommunications company has ~270,000 employees. COMPANY New company landscape requires new skills in cloud-based computing, coding, COMPANY Continental is a global automotive supplier with more than 200,000 employees in 56 countries. data science, and other technical capabilities.

The company launched a number of initiatives aimed at closing the skills gap, Enormous data volumes are used for daily decision making, but there was a gap between available big including the following: APPROACH data technologies and the practice of many end users. • Offering partnerships with universities like Georgia Tech and Udacity, APPROACH A big data analytics self-service project was initiated to teach non-IT colleagues from functions such as and reduced tuition fees at 32 universities. purchasing, logistics, and HR, how to perform big data analysis in the context of their daily work and to • Initiating an online community, in which employees share their extend their digital mind-set, including the following: training success both internally and externally. • Special training on advanced data-science software for interested users (based on a pull principle) • Offering an internal job marketplace to view demand for without programming knowledge or data-science background; various jobs. Employees train themselves accordingly to • Function-related examples to demonstrate analytical methods and address frequent questions; meet requirements, with links on job postings taking them to • Easy to consume and easy to schedule training cycles. A typical training wave consisted of a three- corresponding certified trainings. hour module per week over five consecutive weeks; In the context of the above project, dedicated data scientists and experts remained responsible for Between 2013 and 2017, the company spent $250 mil- complex problems. lion on employee education and professional develop- RESULT ment programs and more than $30 million on tuition assistance annually. The company won the German Digital Leader Award 2017 in the Empower People category with the RESULT Retrained employees filled half of all technology above project. management positions in the first half of 2016. The company reduced its product-develop- ment cycle time by 40% and accelerated KEY Everyday data-processing challenges often do not require advanced analytics but can be solved by time to revenue by 32%. TAKE - end users with the right tools and skills themselves. AWAYS Using real data problems to train non-IT users optimizes learning speed and skill development. Internal talent can be up- and re- KEY skilled at scale to tackle digital skill TAKE - shortages. AWAYS REVERSE-MENTORING PROGRAM AT NESTLE TO TEACH EXECUTIVES AND Companies can collaborate MANAGERS MILLENNIAL THINKING with various partners (e.g., universities) for successful Nestlé is the world’s largest food and beverage company with around 328,000 employees. skilling programs. COMPANY It markets more than 2,000 brands and is present in 191 countries. Reskill In 2013, the company launched a digital transformation. and upskill your One of the measures of Nestlé’s digital transformation is the reverse-mentoring program: employees • The program aims at closing the knowledge gap of people from the top and senior management APPROACH regarding digital skills like social media. • Young employees as well as external digital natives with rich digital experience become mentors for managers and executives. • Mentees are coached, e.g., in dealing with new trending topics in social media and mobile communication, such as Snapchat or Instagram, but also in digital techniques like mobile marketing. • Mentoring takes place e.g., in one-to-one conversations or in a speed-dating format.

50 Nestlé senior executives and board members participated in the program by mid 2017. RESULT Both sides, mentors and mentees, confirmed benefits from the intergenerational approach.

KEY Turnaround in the transfer of knowledge is a lever for digital transformation. TAKE - Internal and external digital natives are valuable teachers for experienced employees. AWAYS

84 The rise of Digital Challengers SOURCE: Mckinsey research; company websites The rise of Digital Challengers 85 Embrace a pro-digital culture Box 10. mechanical to organic set-ups. “Agility” has acquired Implications for individuals in the labor market and in everyday life. Companies are by and large aware that digital trans- a specific meaning in management terms: It refers formation needs active support from management. to the ability of an organization to adapt quickly in Invest in • Continuously update your digital skills and actively learn how to work with new technology. This must go beyond the CEO. Indeed, companies order to succeed in a changing, ambiguous, and lifelong • Invest in skills that are hard to automate, e.g., focus on developing social and emotional skills, Prepare for learning teamwork, creativity. 131 the digital might consider appointing a Chief Digital Officer often turbulent environment. In the management • Use digital tools and resources to access global knowledge. economy (CDO) to drive the digital agenda within the organi- literature, this has come to include different types and take • Be prepared to change sector or occupation. zation from the outset. of teams and organizational units, known as “chap- advantage Seize op- portunities • Leverage digital platforms to find freelance jobs, sell goods, gain additional sources of ters,” “guilds,” “squads,” and “tribes,” and also dif- of digital tools in all to work in income, e.g., a content creator tapping into global audiences by using online video-streaming platforms. Small businesses and startups stand ferent modes of working, such as “sprints.” In place aspects of the digital to gain the most from the ability of silo-like departments governed by hierarchies, your life economy • Take advantage of falling entry barriers and access to capital to become an entrepreneur. • Build a personal presence online, e.g., utilize professional networking and recruitment to call in specialized help on an as- organizations now see themselves shifting toward a platforms, use personal websites to market your own brand. more flexible system in which individuals move fluidly needed basis. Learning • Access to global knowledge pools and free online resources. between different teams and projects.132 • Access to digital credentials, e.g., mass online open courses (MOOCs). Top managers are well advised to also promote “ understanding of the transformation process. They IMPLICATIONS FOR INDIVIDUALS Working • Easier job seeking thanks to digital platforms and online presence. need to help their employees develop new skills and As we saw in Chapter 4, digitization is already • Additional opportunities for earning, e.g., independent work, selling goods, renting out digital knowledge. At the same time, they should affecting the lives of individuals in a variety of ways. unused assets. • Targeted access to international markets, lower barriers to finding customers and partners. implement reinforcement mechanisms, such as Consumers first felt its impact in the form of broader

rewarding employees who lead the way in adopting product and service offerings, increased ability to Living and • Optimized experience (time savings, simplified usage, less cost and waste) through smart digital solutions. take advantage of consumer surplus opportuni- commuting homes, smart cities, and IoT solutions. Take • Benefits of GPS technology, e.g., route planning, location and contact finding. ties and other benefits (see Box 10). Workers, on advantage In addition, top managers could emphasize agil- the other hand, are feeling its impact on the labor of digital in everyday life Managing • Time savings thanks to online banking. ity and learning over forecasting and planning. A market. They will need to invest in lifelong learning, (examples finances • Access to online comparison platforms for financial products. McKinsey study that looked at capital expenditure acquiring the digital skills required to respond to of benefits • Easier access to funding (e.g., supporting NGOs) and receiving donations. allocations between business units at more than the changes. They will also need to be more flex- in selected areas) 1,600 companies found that the current year’s allo- ible: The traditional career path of joining a com- Shopping • 24/7 access to global markets, products, and services. cations were 90 percent correlated with the previous pany, rising up through the ranks and staying with • Gaining the consumer surplus through price comparison websites and other customers’ opinions. year’s allocations. Firms that allocated capital more the firm for decades may soon be a thing of the

flexibly, however, grew faster and achieved higher past. Workers will face more uncertainty and more Communi- • Connecting with people all over the world through instant communication and collaboration returns to shareholders.130 Just as “lean manage- frequent transitions between jobs. However, those cating platforms and social chat rooms. ment” was the major trend in the 1970s, “agility” who successfully adapt to these new conditions will • Using the internet as a way to express yourself, e.g., social platforms, blogs, vlogs. has become the core management topic in recent enjoy a greater range of options and flexible forms Entertain- • Access to platforms where arts, entertainment, and other resources can be shared and years as companies have sought to transition from of employment. ment exchanged.

86 The rise of Digital Challengers The rise of Digital Challengers 87 Closing remarks About the authors

After almost three decades of outstanding eco- In 2017 they recorded their highest levels of GDP nomic growth, CEE has reached a critical stage in growth in more than a decade.133 At the same time, its development. The region is still only halfway along their private sectors are thriving.134 This positive the road to success. If the countries of the region environment gives new digital initiatives a head- want to be as prosperous as the most advanced start. And history shows that booms do not last economies, they need to take full advantage of the forever. digital revolution. Second, we stand on the eve of a Fourth Industrial Jurica Novak Marcin Purta Tomasz Marciniak We believe that Digital Challengers can only cap- Revolution, driven by automation, robotics, and AI. Managing Partner in Managing Partner Partner ture the full potential of the digital transformation by New technology will fundamentally transform the Central Europe in Poland cooperating closely with one another. Together they economy and the labor market. It will boost pro- Advises clients in banking, Expert with 20 years of Leader of the Strategy and represent more than one hundred million people, ductivity and growth, but it will also present seri- telco, consumer goods, experience in strategic Corporate Finance Practice, and their total GDP of €1.4 trillion make them the ous challenges. Our analysis shows that up to 51 private equity, insurance, and consulting, advising clients on and the Banking and equivalent of the twelfth-largest economy in the percent of workplace activities in CEE today – the other industries primarily on growth strategies based on Insurance Practice in Poland world. Moreover, they find themselves in similar eco- equivalent of around 21 million jobs – could poten- strategy, digital, corporate advanced analytics and digital as well as the Electric Power nomic situations and facing similar challenges, such tially be automated by 2030 (depending on the finance, and governance. innovations in sectors such and Natural Gas Practice in as the brain drain. economy, regulation, and the labor market) using as TMT, retail, energy, and Central and Eastern Europe. technology that already exists today. Immediate logistics. Digital Challengers should work together to develop action is needed to capture the productivity oppor- digital policies and cross-border projects. The tunity and address the challenges that it creates. region’s states, together with other countries inter- ested in digitization, could form a coalition at a Third, we have arrived at a point in history where European level to ensure that their digital interests the global rules of the digital game are rapidly crys- are heard and the Digital Single Market implemented. tallizing and new ecosystems are being created. Companies, countries, and regions have realized this Digitization is poised to become the new engine of and are busy shaping their long-term digital strat- economic growth. For Digital Challengers, we estimate egies. Digital Challengers cannot risk missing the Karol Ignatowicz Kacper Rozenbaum Kasper Yearwood that it could mean an additional €200 billion in GDP. boat. They need to work together to develop a clear CEE countries are uniquely positioned to capture this digital agenda and a toolkit for navigating the digital Local Engagement Consultant opportunity. However, they need to act, they need to transformation that lies ahead. We believe that this is Partner Manager act together, and they need to act now. the only way for CEE to develop its digital economy Advises clients in TMT, Advises clients in energy, Advises clients in retail, effectively, safeguard its digital interests, and ensure retail, basic materials and telecommunications and energy, and finance on Why this sense of urgency? First, the economies continued prosperity growth for the region’s popula- other industries primarily on technology on topics of strategy, topics of strategy, digital of the Digital Challengers are currently booming. tion over the coming decades. strategy, digital transformation, turnarounds, and digital transformations, and advanced analytics. turnarounds and operational transformations. improvements topics.

The authors of the report would like to thank to dozens of McKinsey colleagues who greatly contributed to this report, among them (in alphabetical order): Graham Ackerman, Maria Ballaun, Tim Beacom, Norbert Biedrzycki, Ola Bojarowska, Tomislav Brezinscak, Adam Chrzanowski, Mateusz Falkowski, Adrian Grad, Jerzy Gut-Mostowy, András Havas, Joanna Iszkowska, Levente Jánoskuti, András Kadocsa, Daniel Kałuża, Tomas Karakolev, Viktor Kozma, Krzysztof Kwiatkowski, Lucie Markova, Márta Matécsa, Małgorzata Leśniewska, Joanna Ostrowska, Péter Puskás, Helena Sarkanova, Dan Svoboda, Michal Skalsky, Daniel Spiridon, Jakub Stefański, Anna Szucs, Milena Tkaczyk, Katarzyna Tłuścik, Daniela Tudor, Roxana Turcanu, Robert Wielogórski, Mateusz Zawisza, Jan Zieliński and Arkadiusz Żarowski.

88 The rise of Digital Challengers The rise of Digital Challengers 89 Methodology appendix Endnotes

All calculations were performed using real values for GDP, • Baseline growth. In this basic scenario for 2025, we 1 Real growth in 2010 constant euro volumes. Source: digital equipment (e.g., computers, smartphones, e-commerce, and consumer offline spending on digital assume that the digital economy continues growing at Eurostat smartwatches) equipment. We used a fixed exchange rate from 2016 for the historical growth rate for 2012–2016. 2 McKinsey Global Institute, A new dawn: Reigniting 20 McKinsey Global Institute, Digital America: A tale of the growth in Central and Eastern Europe, December 2013 haves and have-mores, December 2015 all the years analyzed. 3 Based on the OECD Better Life Index 21 This sector was chosen as the global digital frontier (i.e. • E-commerce and offline spending. In this accelera- 4 Total fixed assets (gross) per worker in million euros, the most digitized sector) by previous MGI research. Digitization Index tion scenario for 2025, we assume fixed growth of based on 2010 volumes. Source: Eurostat For more information, see McKinsey Global Institute, 5 Source: Eurostat Digital America: A Tale of the Haves and Have-mores, One of the goals of the Digitization Index is to find the e-commerce and consumer offline spending based 6 Measured as GDP per hour worked. This was €33 in CEE December 2015 level of digital penetration across sectors by calculating on the historical weighted-average growth trend for (2017) – 37 percent less than the EU Big 5 and 47 percent 22 UK, Germany, France less than in Northern Europe (Belgium, Denmark, 23 According to IHS Economics the gap between the “digital frontier” (the world’s most the CEE region between 2012 and 2016. Estonia, Finland, Ireland, Luxembourg, the Netherlands, 24 Productivity growth captured by increase of traditional advanced digital sector, which we consider to be repre- Norway and Sweden). Calculated in euro for current ICT usage (software, hardware, telecommunications) sented by the ICT sector in the United States) and other • Digitization potential in the public and private sec- prices and purchasing power parities (PPP, the rates of to the level of Sweden (in terms of its share of sectoral currency conversion that equalize the purchasing power GDP), treated as a Digital Frontrunner benchmark tors. In the final impact scenario, we assume that the parts of the economy. The Digitization Index presents a of different currencies by eliminating differences in price 25 McKinsey Global Institute defines the Internet of Things view across sectors of how corporations invest in ICT (a Digitization Index in CEE will reach the level found in levels between countries). Source: OECD as sensors and actuators connected by networks to the Digital Frontrunner Sweden. We use Sweden as 7 Source: World Bank computing systems, which can monitor or manage the proxy for ICT spending, calculated as the value of the ICT 8 For more insights, see: McKinsey & Company, Digitally- health and actions of connected objects and machines sector less consumer spending on communication ser- a benchmark because of its digital maturity and its enabled automation and artificial intelligence: Shaping 26 McKinsey Global Institute, Unlocking the potential of the vices and equipment) and how they digitize their internal inspiring digital growth in recent years. To assess the the future of work in Europe’s digital front-runners, Internet of Things, June 2015 October 2017 27 McKinsey Global Institute, Artificial intelligence the next potential impact, we first analyze productivity and processes. It uses eight indicators to capture different 9 Measured as the sum of the information and digital frontier, June 2017 ways in which companies are digitizing. For instance, digitization levels in CEE. We then calculate the digi- communication technology (ICT) sector, the market 28 Economic Graph Team, LinkedIn’s 2017 U.S. Emerging tization potential in CEE based on the Swedish sec- value of e-commerce and offline consumer spending on Jobs Report, Dec 2017 digital assets include spending on computers, software digital equipment 29 Ingrid Lunden, UiPath confirms $153M at $1.1B valuation and telecommunications equipment, and the stock of ICT tors’ productivity rates, incorporating digitization mul- 10 Based on data published by VISA and Mastercard from Accel, CapitalG and KP for its “software robots”, assets. Workforce, on the other hand, is calculated on a tipliers. Finally, we estimate the potential productivity 11 For more insights, see: McKinsey & Company, Digitally- TechCrunch, March 6, 2018 enabled automation and artificial intelligence: Shaping 30 Website of the Amazon Development Center in Gdansk, growth in the CEE economy caused by traditional ICT per-worker spending basis. We measure this by aggregat- the future of work in Europe’s digital front-runners, www.gdansk-amazon.com ing digitization scores across sectors, which can easily be growth compared to the productivity baseline for each October 2017. 31 Michał Duszczyk, “Globalni giganci tworzą innowacje country. 12 In real terms in Euro. 9 CEE countries excluding w Polsce. Przyszła pora na TCL,” Rzeczpospolita, compared between European countries and the United Romania. Source: Eurostat 02.09.2018 States. 13 Real total capital stock per worked in million euros, 32 McKinsey Global Institute, A future that works: Internet of Things, big data and AI use cases based on 2010 volumes. Source: Eurostat. Automation, employment, and productivity, January 14 Source: Eurostat 2017 To calculate digitization scores, we weight the Digitization We assess how the Internet of Things (IOT) can create 15 On average 1,786 in CEE (defined as the Czech 33 Based on the Total Economy Database by The Index for the economic size of the sector. This enables us value by analyzing more than 150 IoT use cases across Republic, Hungary, Latvia, Lithuania, Poland, Slovakia, Conference Board to measure the distance of each sector from the global the global economy. Based on our prioritization, we exam- Slovenia) in 2017, 12 percent above EU BIG 5 level. 34 McKinsey analysis based on data from the Total ine the 57 of these use cases that promise to deliver the Source: OECD Economy Database by The Conference Board digital frontier, namely the ICT sector in the United States. 16 Measure as GDP per hour worked in 2017 in CEE at 35 The European Reshoring Monitor https://reshoring. This sector was chosen as the global digital frontier as greatest value. We use bottom-up modeling to assess €33, 37 percent below EU BIG 5 and 47 percent below eurofound.europa.eu/ Northern European countries (Belgium, Denmark, 36 Jonathan Bush, “How AI is taking the scut work out of previous MGI research138 shows that it is the most digi- the potential benefits that these use cases can generate, Estonia, Finland, Ireland, Luxembourg, Netherlands, healthcare,” Harvard Business Review, March 2018 tized sector in the world across comparable groups of including productivity improvements, time savings, and Norway, Sweden). Calculated in Euro in current prices 37 Neil Buckley, James Shotter, Andrew Byrne, “Labour metrics. improved asset utilization. We also include an approxi- and current Purchasing Power Parities (PPPs – the rates shortages put central European growth under threat,” mate economic value for reduced disease, accidents, and of currency conversion that equalize the purchasing Financial Times, June 2017 power of different currencies by eliminating the 38 Based on data from Eurostat The digital economy deaths. differences in price levels between countries). Source: 39 Job vacancy rate = number of job vacancies/(number of Definitions of the size of the digital economy vary signifi- OECD occupied posts + number of job vacancies) Automation potential 17 For example, as measured by European Commission’s 40 Based on the adoption of many different types of cantly. At one end of the spectrum, it is often defined sim- latest Digital Economy and Society Index (DESI) https:// technology in the twentieth century. See McKinsey ply as the value of the ICT sector.139 At the other extreme, To understand the impact of automation on the labor market, ec.europa.eu/digital-single-market/en/desi Global Institute, Jobs lost, jobs gained: Workforce institutions such as the IMF use studies140 define it as the McKinsey Global Institute analyzed around 800 different 18 On the one hand, some experts put forward a narrow transitions in a time of automation, November 2017 definition of digital economy limited to online platforms 41 Based on Eurostat data all digital activities in all sectors of the economy. In our occupations and more than 2,000 work activities. Each of and the activities on these platforms, focusing purely 42 McKinsey & Company, Digitally-enabled automation report we use the latter definition, ensuring that the digital the activities was assigned a combination of 18 predefined on the Internet and Communication Technologies (ICT) and artificial intelligence: Shaping the future of work in performance capabilities (for example, fine motor skills, sen- sector. On the other, broader definitions include all Europe’s digital frontrunners, October 2017 economy in our definition is quantifiable and comparable activities that use digital data – following this logic, the 43 McKinsey Global Institute, Skill shift: Automation and the between countries. sory perception, natural language understanding). Its auto- digital economy could constitute a major part of most future of the workforce, May 2018 mation potential based on technologies available today was industries, ranging from agriculture and arts to research 44 Based on difference between hours worked per type & development. See for example: International Monetary of skill in 2016 and forecast hours worked in 2030. Impact scenarios then estimated. By aggregating the automation potential of Fund Staff Report, Measuring the Digital Economy, Numbers may not sum due to rounding. Western We postulate three sources of digital economy activities and their share in total working hours, we can esti- February 2018 Europe: Austria, Belgium, Denmark, Finland, France, growth: mate the potential for each occupation and industry. 19 Digital economy is calculated as sum of sectors Germany, Greece, Italy, Netherlands, Norway, Spain, ICT, e-commerce and consumer spending on Sweden, Switzerland, United Kingdom

90 The rise of Digital Challengers The rise of Digital Challengers 91 45 World Economic Forum, The 3 key skill sets for the 77 McKinsey & Company, Transforming our jobs: 100 Kosciuszko Institute, “The Digital 3 Seas Initiative: a Call for “Maximizing your return on people,” Harvard Business workers of 2030, June 2018 automation in Hungary, May 2018 a Cyber Upgrade of Regional Cooperation”, March 2018 Review, March 2007 46 UNESCO, Digital skills critical for jobs and social 78 AntyWeb.pl, “Żabka zaprezentowała swój sklep 101 Maria Sangder, Arto Smolander, Juhani Korhonen, Olli- 125 Susan Lund, James Manyika, and Kelsey Robinson, inclusion, March 2018 przyszłości”, September 2018 Pekka Rissanen, “Cross-border Information Exchange “Managing talent in a digital age”, McKinsey Quarterly, 47 European Commission, New Skills Agenda for Europe, 79 The Global Entrepreneurship Index is an annual index that and Digital Services Between Governments”, Finnish March 2016 June 2016 measures the health of the entrepreneurship ecosystems Ministry of Finance, April 2016 126 A gig economy is where companies prefer to hire 48 Programme for International Student Assessment, in each of 137 countries. It then ranks the performance 102 More information available online at: http://www. independent contractors for temporary, flexible jobs as OECD of these against each other. The GEDI methodology optionstartup.paris/presentation/ freelancers instead of full-time employees 49 Based on Western Europe: Austria, Belgium, Denmark, collects data on the entrepreneurial attitudes, abilities and 103 More information available online at: https://innovation. 127 See Aaron De Smet, Susan Lund, and William Finland, France, Germany, Greece, Italy, Netherlands, aspirations of the local population and then weights these mit.edu/resource/startup-exchange/ Schaninger, “Organizing for the future,” McKinsey Norway, Spain, Sweden, Switzerland, United Kingdom. against the prevailing social and economic ‘infrastructure’ 104 More information available online at: https://www. Quarterly, January 2016, and A labor market that works: The assessment of current education focus is based on – this includes aspects such as broadband connectivity canada.ca/en/immigration-refugees-citizenship/ Connecting talent with opportunity in the digital age, performance indicators associated with skills, Digital services/immigrate-canada/start-visa.html McKinsey Global Institute, June 2015 and the transport links to external markets. Challengers vs. Digital Frontrunners. Indicators include 105 More information available online at: https://business. 128 Andrew Burke, “The entrepreneurship enabling role of 80 For more information, see https://ig.ft.com/ft-1000/2018/ proficiency levels and enrollment rates gov.nl/coming-to-the-netherlands/permits-and-visa/ freelancers: Theory with evidence from the construction 81 European Centre for International Political Economy, 50 Based on Eurostat data startup-visa/ industry,” International Review of Entrepreneurship, New Coalitions for Europe’s Digital Future – Building 51 McKinsey Global Institute, Connecting talent with 106 More information available online at: https://www. Volume 9, Number 3, 2011 Capacity, Improving Performance, 2017 opportunity in the digital age, June 2015 mckinsey.com/industries/public-sector/our-insights/ 129 James Manyika, Susan Lund, Jacques Bughin, Kelsey 82 Excluding Luxembourg, an outlier with a trade ratio to 52 McKinsey Global Institute, A new dawn: Reigniting scaling-a-startup-community-an-interview-with-berlins- Robinson, Jan Mischke, Deepa Mahajan, Independent GDP of more than 400% Growth in Central and Eastern Europe, 2013 mayor#0 work: choice, necessity, and the gig economy, McKinsey 83 European Centre for International Political Economy, 53 World Bank, McKinsey analysis 107 More information available online at: https://www.lb.lt/ Global Institute, October 2016 New Coalitions for Europe’s Digital Future – Building 54 Labor cost index (compensation of employees plus en/news/the-bank-of-lithuania-to-launch-blockchain- 130 Stephen Hall, Dan Lovallo, and Reinier Musters, How Capacity, Improving Performance, 2017 taxes less subsidies) sandbox-platform-service to put your money where your strategy is, McKinsey 84 Calculated for 2017 GDP data in USD. Source: World 55 World Bank Group, Global Investment Competitiveness 108 KNF announcement from May 9, 2018 Quarterly, March 2012 Bank Report 2018 109 OECD, “New Approaches to SME and Entrepreneurship 131 Wouter Aghina, Aaron De Smet, Monica Murarka, Luke 85 Based on Euromonitor data, B2C Internet retailing per 56 United Nations Conference on Trade and Development, Financing: Broadening the Range of Instruments”, OECD Collins, The keys to organizational agility, McKinsey & capita 2017 World Investment Report 2017 Publishing, Paris, 2015 Company, December 2015 86 European Centre for International Political Economy, 57 Based on data published by Mastercard and Visa 110 More information available online at: https://www.gov. 132 Management literature on the theme of agility New Coalitions for Europe’s Digital Future – Building 58 For more information, see http://www.oecd.org/pisa/ uk/entrepreneurs-relief abounds. See, for example, The five trademarks of Capacity, Improving Performance, 2017 59 McKinsey & Company, How the world’s most improved 111 For details of our supply-and-demand guide to digital agile organizations, McKinsey & Company, January 87 World Economic Forum, Global Information Technology school systems keep getting better, 2010 disruption, see McKinsey Quarterly, “The economic 2018; Leadership & organization blog, “Getting agile Report, 2016 60 McKinsey & Company, Productivity for better essentials of digital strategy”, March 2016 right in your organization”, McKinsey & Company blog 88 Based on Eurostat and OECD data government services, 2018 112 World Trade Organization, World Trade Report 2018: post by Aaron De Smet, February 5, 2018; Jeff Boss, 89 Migration rates only include citizens of the reporting 61 For more information, see https://www.ef.pl/epi/ The future of world trade: How digital technologies are “5 reasons why this CEO leverages cross functional country. Some values missing for Bulgaria, Croatia, 62 See, for example, UK Commission for Employment and transforming global commerce, October 2018 teams for better business performance”, Forbes, Latvia, Romania and Slovakia; these values are Skills, The supply and Demand for High-Level STEM 113 Ibid. February 13, 2017; Aaron De Smet, Susan Lund, Bill estimated on the basis of the average for the rest of CEE Skills, 2013 114 McKinsey Global Institute, A future that works: Schaninger, “Organizing for the future”, McKinsey 90 For instance, in Lithuania, major utility companies have 63 European Parliament, Policy Department: Economic and automation, employment, and productivity, January 2017 Quarterly, January 2016; Judith Heerwagen, Kevin been investing significantly in innovative technology. Scientific Policy, Encouraging STEM studies for the labor 115 Ibid. Kelly, Kevin Kampschroer, “The changing nature of Vilnius is a case in point, where between 2002 and 2017 market, 2015 116 “Productivity improvements in a changing world”, organizations, work, and workplace”, WBDG, May 10, the city’s heating system was upgraded with highly 64 Based on data from Eurostat presentation by Michael Gollschewski, Managing 2016; Linda Holbeche, “The agile organization: How to modern technologies 65 HackerRank, “Which Country Would Win in the Director of Pilbara Mines, Rio Tinto, July 13, 2015 build an innovative, sustainable and resilient business”, 91 See, for example, the following national skills strategies: Programming Olympics?”, August 2016 117 Rich Evans and Jim Gao, “DeepMind AI reduces energy London, Kogan Page, 2015; Pamela Meyer, “The agility Ireland (National Skills Strategy 2025, Germany 66 NBC News, “Hello World! Poland Wins First Computer used for cooling Google data centers by 40 percent”, shift: Creating agile and effective leaders, teams, and (Re-imagining Work White Paper, 2017, United Kingdom Coding Championship”, June 2014 Google blog post, July 20, 2016 organizations”, New York, Bibliomotion, 2015; Daryl (Digital skills and inclusion – giving everyone access to 67 McKinsey Global Institute, Digital globalization: The new 118 Based on Eurostat data Kulak and Hong Li, “The journey to enterprise agility: the digital skills they need) era of global flows, 2016 119 Amy Edmondson, Bror Saxberg, “Putting lifelong Systems thinking and organizational legacy”, Cham, 92 Ministry of Education, Youth and Sport of the Czech 68 World Economic Forum, Globalization isn’t in retreat. It’s learning on the CEO agenda,” McKinsey Quarterly, Switzerland, Springer, 2017 Republic, Strategie digitálního vzdělávání do roku 2020, just gone digital, February 2017 September 2017 133 Average real GDP growth rate in local currency for Digital October 2014 69 World Bank, Exploring the Relationship Between 120 Dominic Barton, Dennis Carey, Ram Charan, “Talent Challengers was 4.3 percent (2017). Source: Eurostat 93 Anu Madgavkar, Shirish Sankhe, Empowering teachers Broadband and Economic Growth, 2016 Wins: The New Playbook for Putting People First,” 134 The gross operating rate (gross operating surplus/ and trainers through technology, January 2015 70 European Commission, Broadband Coverage in Europe Harvard Business Review Press, March 2018 turnover) of CEE enterprises was 10.3 percent in 2016, 94 For Italy and the Netherlands data taken for 2014 2017 121 Pablo Illanes, Susan Lund, Mona Mourshed, Scott its highest level since 2008 and higher than the EU Big 95 Fundacja Edukacyjna Perspektywy, “Kobiety na 71 Based on Eurostat’s price index of twelve representative Rutherford, Magnus Tyreman, “Retraining and reskilling 5’s level of 9.5 percent. Source: Eurostat politechnikach 2018”, March 2018 broadband baskets as a percentage of household workers in the age of automation,” McKinsey Quarterly, 135 McKinsey Global Institute, Digital America: A tale of the 96 Monika Hamori, “Can MOOCs Solve Your Training income January 2018 haves and have-mores, December 2015 Problem?” Harvard Business Review, January 2018 72 M. Mandel, E. Long, The App Economy in Europe: 122 Richard Benson-Armer, Silke-Susann Otto, Nick van 136 OECD report, “Digital Economy Data Highlights”, 2016 97 Andre Dua, College for all”, McKinsey & Company, May Leading Countries and Cities, Progressive Policy Dam, “Do your training efforts drive performance?” 137 International Monetary Fund Staff Report, Measuring the 2013 Institute, 2017 McKinsey Quarterly, January 2015 Digital Economy, February 2018 98 Aamer Baig, Andre Dua, and Vivian Riefberg, “Putting 73 The 2018 FT 1000: the complete list of Europe’s fastest- 123 John Sullivan, “Why you can’t get a job: Recruiting 138 McKinsey Global Institute, Digital America: A tale of the citizens first: How to improve citizens’ experience and growing companies explained by the numbers,” ERE Recruiting Intelligence, haves and have-mores, December 2015 satisfaction with government services,” November 2014, 74 Ibid. May 20, 2013 139 OECD report, Digital Economy Data Highlights, 2016 McKinsey.com 75 GamesIndustry.Biz, “Romanian government boosts 124 Nicole Torres, “It’s better to avoid a toxic employee 140 International Monetary Fund Staff Report, Measuring the 99 Fredrik Erixon and Dr. Philipp Lamprecht, “New games industry with €94 million tech fund”, October 2018 than to hire a superstar,” Harvard Business Review, Digital Economy, February 2018 Coalitions for Europe’s Digital Future – Building 76 Gigabit Magazine, “MONETA Money Bank: digitally December 9, 2015; Laurie Bassi and Daniel McMurrer, Capacity, Improving Performance”, European Centre for transforming in the evolving banking sector”, October International Political Economy, October 2017 2018

92 The rise of Digital Challengers The rise of Digital Challengers 93 Digital McKinsey 2018 Copyright © McKinsey & Company

94 The rise of Digital Challengers Digital McKinsey 00.00.17 Copyright © McKinsey & Company www.mckinsey.com