Europe stands at a productivity crossroads. Without decisive action, the region risks falling behind for decades, but there is a clear path forward. This productivity transformation is not just about efficiency: it’s essential for meeting sustainability goals, staying competitive in rapidly changing markets, and securing Europe’s long-term prosperity.
In this episode of McKinsey Talks Operations, host Christian Johnson is joined by McKinsey Partner Jan Mischke from the McKinsey Global Institute (MGI), McKinsey’s business and economics research arm based in Zurich, and Senior Partner Ruth Heuss, coleader of the firm’s global Operations Practice, based in McKinsey’s Berlin office.
Christian Johnson: I’d like to start with a very basic question, which is, why is the topic of rewiring so important in Europe right now?
Jan Mischke: I think in the end, it’s about productivity, and that is really what drives long-term prosperity. While it’s always been important, at this point it’s also unusually urgent. Europe has essentially been hit by multiple shocks simultaneously. This includes the energy shock following the war in Ukraine, the technology shock coming mostly from the US, and the competition shock coming primarily from China, alongside slower-moving demographic and aging shocks.
If you combine those, that means productivity is the only way forward. It is an urgent way forward for Europe to regain competitiveness but also maintain—or regain—strategic autonomy in the world.
Christian Johnson: Ruth, could you tell us how some of these pressures are playing out in your clients in Europe right now?
Ruth Heuss: As Jan said, there are multiple forces at work. If you turn to the operations arena, I think two or three things are really obvious.
Number one, if you look at global supply chains, they’re under huge distress because of the geopolitical space, the tariffs, and all the regulations. So, to some extent, regaining visibility over where parts actually come from and how you can respond is very important. Equally important is the agility required if something happens, so you can move more quickly from solution A to solution B.
I think another area where this is absolutely obvious is in the product development process, particularly in many of the areas where we have had historical strengths, such as automotive and machinery. We’re seeing that the Chinese players—and, to a certain extent, the US-based players—are starting from a clean sheet of paper when it comes to processes.
[Players in those countries] got going much faster [than those in Europe] because we follow a lot of rules, regulations, and safety procedures, which are there because over the past decades there were a lot of incidents. But we haven’t sufficiently revisited those processes to review what really matters, what doesn’t, and how we can become faster again.
Christian Johnson: Developing a faster metabolism, if you will?
Ruth Heuss: The third thing to highlight is that, in Europe, we’ve traditionally viewed manufacturing as highly productive because we rely on automation and machinery to produce goods with fewer human working hours by leveraging technology. The reality over the past decade, based on our research at the Global Lighthouse Network—which is a network of the best manufacturing plants in the world—is that many of those lighthouses are now in Asia, not only in China but across the region more broadly.
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We often assume that production there relies a lot on low-cost labor, but the opposite is true. The sites there are already leveraging digital tools like gen AI, robots, and autonomous vehicles in their production process—often to a much greater extent than we are in Europe.
Christian Johnson: So if I can follow up on that, how are these forces playing out at the company level? What do you hear from the senior executives about how they’re experiencing these forces?
Ruth Heuss: When I look at the companies I’m working with, many of them are in the automotive industry. They’re scratching their heads around speed and cost positions. So the competition in China—but including Tesla—is much faster in go-to-market execution.
In particular, the Chinese are really ruthless in cost cutting. They do a 5 to 10 percent cost reduction every year. By comparison, that’s something we used to do over five to seven years. And the Chinese players are now coming to Europe with very competitive products, not only in terms of cost but also in technology. So it’s really, really a difficult position for Europe.
Christian Johnson: So China is no longer just the low-cost option? That raises the competitive pressure, right?
Ruth Heuss: The European market is still benefiting from strong brand perception, as consumers are very slow to switch brands due to concerns about quality and safety.
But if you look ten years ahead—and if the Chinese products don’t experience any major recalls or problems with safety—I think we’ll see much more adoption, especially in these times when consumers aren’t willing to spend as much.
Christian Johnson: Jan, tell us about some of the constraints that European companies are currently facing and how those are affecting productivity.
Jan Mischke: A lot has been said about the bottlenecks and issues that are serving as strong headwinds for European firms in their pursuit of innovation and productivity. The ones that are coming out front and center usually have to do with scaling or the issue of fragmentation across European markets.
There’s some research suggesting that the barriers to trade between European countries are sometimes higher than the barriers to trade with the US for each individual country, which would be quite extreme. That matters, particularly in advanced industries where you want to scale your innovation, your intangibles, your software, and your R&D across as many customers as possible.
Christian Johnson: Could AI provide a way to overcome these barriers to scale? Ruth, how do your European clients today think about AI?
Ruth Heuss: Our research shows that 80 percent of companies are experimenting with AI, gen AI, agents, and the like. But only 20 percent of them currently admit they’re seeing material improvements in their operations as a result.
The companies experimenting typically take one of two different routes. One is a very structured, strategic approach that goes through the whole company, prioritizes use cases, sets up an infrastructure backbone, and then allows people to go after the change based on their priorities.
The second approach we see is very much an end-to-end process or functional view on things, where particular processes of functions are being prioritized. For example, the end-to-end supply chain: I say end to end because it starts with understanding the customer and ends with delivering to the customer.
Christian Johnson: What sorts of impact do companies see by taking this end-to-end view?
Ruth Heuss: What’s interesting is that we’re seeing not just cost improvements. For example, in end-to-end supply chain transformation, we also see [customer loyalty] scores increase, as customers are more satisfied with the quality of the delivery, the range of options, and with delivery times.
So there are many improvements that a company can achieve by rewiring its functions. That said, we’re just seeing the start of the journey, not just because companies are only getting started, but also because the technology is evolving so quickly.
Christian Johnson: How do you see this at a European scale? If you’re looking at research across the continent, what are some of the big changes that you think need to happen for companies to start making these sorts of transformations?
Jan Mischke: If you look at our research on productivity at the firm level, it is striking how few firms can actually move the needle and make a real difference. So, while many wait and hope for the best on regulatory change and reform, each executive is best placed to act right now in any way they can. To give you some statistics, when we looked at samples covering about 15 percent of the German economy, 13 firms accounted for two-thirds of the productivity growth. In the much larger US market, a similarly sized sample showed that only 42 firms drove comparable impact.
Every CEO, and of course the teams around them, can become standouts and can really move the needle for their entire country—or even for their entire continent—in a meaningful way. What it takes are big, bold moves. These moves can focus on cost and efficiency, but often they combine multiple levers, such as supply chain improvements, enhancing customer value, reshaping business and operating models, or scaling differently and shifting product portfolios.
Christian Johnson: For companies that are currently behind or feeling the pressure, what are the most important internal changes needed to meet this challenge? What does the journey look like from start to finish?
Ruth Heuss: First, there needs to be an impulse from the leadership team—a commitment to embrace these technologies. In Europe, there is often a fear that this will only lead to job losses.
The opposite is often true. For example, when companies leverage gen AI in call centers, demand can increase. Previously, you had call centers that didn’t perform well, so people wouldn’t call because they knew that they wouldn’t be helpful. Suddenly, when you improve the quality in the call center, you see an increase in inbound calls. So it’s very important that you start from the top and explain how these technologies can help companies to survive and thrive in the markets.
The second piece is to approach it very cautiously so that you benefit from the first examples. It’s very easy to leverage ChatGPT for email writing. But at the end of the day, you’re still working as long, but you’ve maybe got five more emails written or read.
It’s very important for every company to figure out where they can genuinely improve productivity and where gains are limited to just 3 to 5 percent of additional performance improvement annually. This creates early success stories that can help the company and, potentially, enable people to better accept and learn how to leverage the technology going forward.
Christian Johnson: Jan, you alluded earlier to how just a few companies are driving major productivity improvements. With the leaders now separating from the laggards, what do these productivity leaders do differently?
Jan Mischke: I would start by noting that the leading firms often do something very different. One approach, if you are, say, a full-assortment retailer, is to improve your operations and become more efficient. That’s necessary, and companies do it all the time. Some that succeed become visible in national statistics for driving productivity and moving the country forward. But it’s an entirely different thing if you do that on an online e-commerce platform along with a digital fulfillment platform. That is inherently more productive as a business model. And that is essentially what drives much of the difference.
That links to a related point: Companies that become standout firms and really drive productivity usually make their very own idiosyncratic choices within their individual sector. In retail, not everyone becomes super productive simply by adding an online channel. While most need to do so, if you’re a full-assortment retailer, it might add cost without actually generating many additional sales.
What matters more is redesigning the operations in your business model to become more efficient and productive. It also matters how you boost the customer value in your specific business model and value proposition, whether through convenience formats or luxury brand positioning. There are many strategic choices and no one-size-fits-all answer.
Christian Johnson: Ruth, you mentioned the Global Lighthouse Network, or GLN, earlier. Could you tell us more about the GLN’s significance for manufacturing, particularly in Europe?
Ruth Heuss: GLN is a network of more than 200 plants that has existed for ten years. We collaborate with the World Economic Forum to identify a few plants every year that are the most advanced in manufacturing and supply chain.
Christian Johnson: Based on your work with the Global Lighthouse Network, these advanced production facilities, and the companies that created them, what are some of the factors that you have seen in those examples or elsewhere of what leaders are doing to create a real strategic distance between themselves and organizations that are followers?
Ruth Heuss: What we have observed in the past two, three, or four years is that gen AI use cases have matured from test cases and proofs of concept to widespread use in the most advanced companies.
The second thing we’re noticing is that the adoption of robots is following the same pattern. At the moment, it’s mostly autonomous vehicles used for delivering supplies in the plant. But we’re already seeing a lot of PoCs [proofs of concept] on humanoids helping in some ways at manufacturing sites. This is like the tip of the iceberg at the very best factories.
I expect that in five to ten years, that will be the standard. But what’s troubling me is that most of those lighthouses are not in Europe. Most of them are in Asia right now. That’s something I did not expect when we started that work.
So, in Europe I think we need to be a bit more innovative and put more trust in technology to lead the productivity game—and not be the last one jumping on the train. Because we simply can’t afford that, given both our age structure and our income structures.
Christian Johnson: Jan, would you like to add to that? Particularly when Ruth speaks about the age structure, some of the demographic challenges, I think that overlaps with some of your research.
Jan Mischke: I would add that, for European firms to regain the lead, there are several avenues to bear in mind. One is to look at where the leading technology, the leading practices, and the most innovative firms are. Today these are often in Asia, in China. So learn from them, work with them, and get those capabilities into Europe.
Essentially, this is similar to how China learned from European firms 20 years ago. Also, playing eternal catch-up will not be enough. To regain leadership, you also need to find new ways and areas to leapfrog and move to the front.
With artificial intelligence, that might include using it in areas that are not yet well established. For example, healthcare in Europe is a strong area. We have strong medtech firms. We have pharma companies using AI to accelerate research and innovate in new drug development. This could prove to be a vertical where Europe could actually move to the front of the pack.
Christian Johnson: Could you give us a concrete example of how agentic AI is already being used?
Ruth Heuss: The most impressive use case I saw recently was an agent, or essentially a squad of agents, that rewrote software code. There was legacy software that almost nobody still understood how to work with—just a few people, most of whom were on the verge of retirement and who could still program in that language.
One of our teams worked with the client and created a squad of around 100 agents. They were organized in teams. The first thing they did was analyze and define the code—to understand what each piece of code did—and then they translated it to a more modern language that the company could work with.
This was done under the supervision of just five to ten humans. Historically, this kind of work would have been outsourced to a service provider company using around 100 people. Instead, 100 AI agents achieved the same result over a few months.
Christian Johnson: Stepping back and thinking very broadly, how optimistic do you feel right now about European businesses making these shifts?
Jan Mischke: It’s maybe too early to be positive, but it is a good time to be optimistic. In the end, firms usually change when they have to—and they have to now. I think they’re also becoming more outspoken about the changes needed in the investment and regulatory environments around them. So that will hopefully also give them some tailwind for the reform agenda to come to fruition.
Christian Johnson: Ruth, what do you think?
Ruth Heuss: I think the one really positive thing is that the leaders I’m talking to have understood the problem. That’s the first step toward change. Now that the problem has been understood, I hope that we see some action going forward. That’s why I’m also optimistic but not yet positive about what has been achieved. I’m optimistic that we are now getting into the journey.
Christian Johnson: To sum up, Europeans’ productivity inflection point is a chance for CEOs to lead their companies in rewiring their operations. By combining technology, people, and a multihorizon agenda, leaders can capture 20 to 40 percent productivity gains that fund innovation and can secure long-term competitiveness. But the first critical question to answer is: Are we scaling tech fast enough? Or are we waiting for proof that others are moving first?
