As the preparations for the United Kingdom to leave the European Union begin to intensify, there has been a significant increase in attention given to its future international trade and investment policy.
It is almost inevitable that Brexit will lead to a marked change to the UK’s current approach to international trade and investment, with the government having an exciting opportunity to construct an independent set of policies.
In a new pamphlet written by Eamonn Ives, a researcher here at the Centre for Policy Studies, we demonstrate the opportunity that Brexit will bring to the all too often-neglected regions in the UK, through international trade and foreign direct investment (FDI).
The UK is one of the most active trading economies in the world in terms of the value of the goods and services it imports and exports. But trade does not occur equally across the whole of the UK. London and the South East dominate both the value of goods and services exported and the number of exporting business by region.
The charts below display this imbalance between London and the South East and the rest of the UK. The two regions account for more than 43 per cent of the UK’s total exports, equating to a disproportionate amount per capita compared to the rest of the UK. Moreover, there is a huge export gap between the two regions and the rest of the UK with them accounting for 43 per cent of all British businesses who sell products abroad.
This is a very real opportunity for the UK to redistribute wealth –and perhaps more importantly industry – within the country.
Value of goods and services exports by UK region
Number of exporting businesses by region (2017)
The disparity between London and the South East extends to Foreign Direct Investment. Since the Department for International Trade began accumulating figures on FDI, these two regions attracted over half of all new FDI projects.
Inward FDI by Region (2015-2018)
Whilst much of this dominance is down to the strength and size of these regions, the government can and must do more to redress this imbalance through a series of pro-market policies. This will increase the overall productivity of the UK, bringing the too often neglected areas up to the level enjoyed by places such as London. This is in stark contrast to the philosophy of the Left, which appears to many to create equality of misery.
As a member of the EU, the UK has been restricted by the need to adhere to a trade policy heavily shaped by rules and regulations from Brussels. Upon leaving the EU, we recommend that the government take the new and inspiring opportunities available and promotes truly open and flexible fair trade.
This needs to take a two-pronged approach. Firstly, through the maintenance of pre-existing free trade deals and preferential agreements that the UK currently enjoys as part of the EU. Since the vote in 2016 the Government has been negotiating with countries such as Israel, Chile and Switzerland to keep existing preferential agreements in place after 31st October. Yet despite this, only 5 of the 29 have been agreed, highlighting the need for the Government to focus on retaining these deals.
Secondly, the UK needs to negotiate new preferential trade agreements with other economies, focusing on the largest economies and emerging ones alike. The CPS has been championing the relationship between Britain and America, as shown in the Margaret Thatcher Conference on this topic earlier this week. This is one of the most crucial relationships post-Brexit and the benefits of getting this right will be felt by every corner of the UK.
Additionally, the CPS has long championed the establishment of free ports in the UK – publishing the seminal paper on the topic by Rishi Sunak MP. Free ports are areas that exist within the geographic boundary of a country but are considered outside of the country for customs purposes. The crux of this is goods are able to enter and exit the free port without facing any import procedures or tariffs. Leaving the EU Customs Union and Single Market, would allow the UK to establish such free ports, something currently prohibited by EU membership, in many of the poorer areas in the UK, creating jobs and fuelling the regional economy. This is a huge opportunity for our country.
Our third recommendation is the establishment of opportunity zones, with the aim of boosting investment to the most economically distressed areas. As with free ports, these are geographic areas which confer tax incentives to encourage individuals to reinvest and retain capital gains within them. The result of this would be an increase in investment in the regions that need it the most, helping to recompense the disparity between them and London and the South East.
The recommendations highlighted in this article are just a handful of our suggestions. We also advocate liberalising immigration policy, reforming regulations to boost export finance and simplifying the administrative procedures face by existing or potential exporters.
When the UK ratifies leaving the EU on 31st October 2019, the nation will have an opportunity like no other in the past 40 years to create its own independent trade policy. Although this will not come without risks, by adopting some of our policies outlines, we are confident that the UK can rebalance the economic disparity across its regions and improve opportunity for all.
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An emotionally-charged campaign to overturn the 2016 referendum result is in full swing. We are told Britain is falling apart; that our economy is in crisis and our international reputation is in tatters. And it’s all down to Brexit. Daily the drip-drip of negative stories dominates insidiously biased media coverage. Terms and phrases such as “falling off the cliff edge”, “crashing out”, “a catastrophe”, “a disaster” have become the staple of the anti-Brexit reaction.
An unholy alliance has sprung up between cosmopolitan, metropolitan liberal elites and the ranting, rabid far-left, best symbolised by David Lammy’s outrageously polarising rhetoric. When the Remain ultras are not smearing millions of British people as racists, they are busy trying to scare millions of British people back into the status quo. Project Fear, however, is really just about that: fear-mongering.
It’s a concerted propaganda effort aimed at demoralising the British public and shaking our confidence in the UK’s ability to make success of Brexit. As all propaganda, it distorts facts by presenting a warped view of reality, devoid of any nuance or reflection. One way it does so is by filtering out real facts that do not fit into the prevailing anti-Brexit narrative of impending economic calamity. What follows are some such facts.
For instance, the news in April that the UK has been ranked as the top investment destination in the world, knocking the US off the top spot for the first time ever, comes simultaneously with the latest record-breaking drop in unemployment – now lowest since records began. As the Eurozone teeters on the edge of another recession, Britain’s growth is sustained, stable and is being achieved alongside record-breaking falls in CO2 emissions – the lowest on record since 1888.
Foreign Direct Investment in the UK is at record high. And as the latest figures from the Office for National Statistics show, the bulk of this new investment is coming from Asia (a 33% increase in 2017). According to Deloitte, the UK attracted more Foreign Direct Investment over the past three years than any other country in Europe, bringing in more capital investment than second- and third-placed Germany and France combined.
It is a similar story with financial services. Since the referendum, London attracted more financial services Foreign Direct Investment projects than eight other global financial centres, securing 55 inbound projects in 2017 – more than double the number of Dublin (26), Paris (26), Frankfurt (24) and New York (20). London is set to become home to the same number of fintech unicorns as San Francisco, attracting more investment in the sector than any other city in Europe. When I asked a banker friend of mine about him relocating to Frankfurt he replied: “You go live in Frankfurt …”.
Back in February, Norway’s sovereign wealth fund, the world’s largest, announced a record-breaking increase in its investment in the UK, raising its “exposure to British companies, property and bonds regardless of the outcome of Brexit negotiations”. This bullish confidence is matched by private investors like Jim Ratcliffe’s Ineos recently announcing a £1 billion injection in British oil and chemical industries.
British exports are going through the roof – the UK is the second fastest-growing goods exporter among the top five economies, just behind China, with our goods exports growing by 3.1% to £10.6bn in the year to January. UK exports of beverages alone, such as Scotch whisky, reached a high of £8.3bn in the year to February 2019, increasing by 7% on the previous year.
It’s worth remembering that the bulk of UK exports go outside the EU – the United States is our largest export market, followed by Germany, France, the Netherlands, Ireland, China and Switzerland, in that order. One of the greatest myths created by Project Fear is that Britain trades with the EU Single Market. In reality, Britain mostly trades with just seven of the other 27 member states of the EU. For example, the UK’s annual exports to the United Arab Emirates are worth more than the UK’s exports to Lithuania, Estonia, Latvia, Slovakia and Hungary combined.
The list of our achievements since 2016 can go on. It should not be surprising that there is little media coverage or discussion of these trends – that wouldn’t fit in with the prevailing anti-Brexit narrative. However, they should not be taken as evidence that Brexit is somehow risk-free. For example, UK’s exports to Poland are worth more than our exports to over 40 non-EU markets combined. And it is clear that some businesses across the economy are more exposed to Brexit-associated risks than others.
Some economic news since 2016 should give us serious cause for concern, but the trends outlined here should give us confidence in the underlying strength and resilience of our economy. I campaigned and voted for Remain in 2016 but, like many former Remainers, I’ve accepted the outcome of the democratic process and came to realise that Brexit is complex and requires a deeper, more nuanced understanding. It is a shame that we’ve failed to acknowledge this complexity in our public debate and this is very much down to Project Fear and the wider campaign to overturn the referendum result. It distorted our collective vision of reality, undermined public faith in democracy and damaged national morale. When Project Fear wins, Britain loses.
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For a long time, it looked as if Brexit was heading towards a definitive resolution. Even when the March deadline seemed to be drifting towards a no-deal scenario, small and medium-sized businesses (SMBs) at least had a deadline to work towards when making preparations for life post-Brexit. But rather than bringing clarity, the prolonged doubt caused by an extension has plunged companies even further into the dark.
The short-term benefit of the delay is that many small businesses will be able to continue with business as usual for a few months more, but planning for 31st October should also be taking place. Of course, this is easier said than done – a general election, referendum or further extensions could yet see the entire process prolonged even further.
How many SMBs will have the resources to hire additional storage space for an open-ended and indefinite period of time to build up stock? How much stockpiling should SMBs do and when should No Deal plans be enacted?
Planning for No Deal
My company started No Deal preparations a little over a year before the 29th March deadline, in early 2018. While many imports and exports like food and medicine have a short shelf life, we are lucky to handle materials that are typically long-lasting, so potential delays at ports are not a huge issue for us, thankfully.
In the first few months of 2019 we took on an additional warehouse to enable us to increase our stockholding of raw materials. Whatever happens, we will still need to carry on supplying our UK customers and it is important that we keep a suitable level of additional stock to sustain their needs.
We are a classic case of a company that primarily imports our raw materials. While some fluctuation in the value of the pound is normal, there is a serious concern that the pound could take a tumble and take a very, very long time to recover. Due to our additional stock we would be able to continue for a few months, but we have finite financial resources. Keeping additional stock is vital to make the transition as smooth as possible, but it needs to be balanced with what is affordable.
Avoiding a skills gap
One tenth of the UK plastic industry’s employees are from the EU. The lack of certainty about the future is already slowing recruitment in the industry. If these people decided to leave to find work in another EU country, it could be a major challenge to replace them. Increases in training and recruitment would become essential, diverting investment that would otherwise be used for research and innovation.
Generally, I think the issues will vary on a sector-by-sector basis. Those looking for workers for packing or warehouse roles may have issues, while those recruiting highly-qualified EU nationals are likely to have fewer issues.
The growth of Technical Foam Services over the last decade would not have been so successful without our EU staff. We want to build on our success by retaining them and helping to improve their skills, while also recruiting new employees from the EU with the same outlook.
80% of our workforce are from the EU, but are UK-based. We are supporting them through the settled and pre-settled status process to secure permanent residency, meaning that our current workforce will not be affected by Brexit.
The importance of monitoring the supply chain
If a company were to begin Brexit contingency planning today, the very first thing to do would be to examine their supply chain closely. Investigate different scenarios to see what the effects are likely to be on existing European trade. Do you need to change the frequency of deliveries or secure stock from other locations? Identify the day-to-day issues and develop a strategy so these issues do not come as a shock.
Perhaps to minimise delays you might want to begin to route your imports and exports through minor ports. It is a small change to make now, but avoiding congestion at somewhere like Dover could prove invaluable further down the line.
The future of British industry
One of the real benefits of a modern SMB is the ability to be dynamic and flexible in ways that larger or older companies may not be able to. By looking ahead and planning in detail, you can make sure that you are looking to adapt to challenges and react quickly should it become necessary.
Ultimately, the fundamentals will not change. You will continue to have clients and suppliers that have the same objectives, Brexit will not change that. By ensuring you have strong relationships and clear communication then you can all work together to find a way around any challenges that may appear.
I get the impression that many small business owners would like to see the whole situation put to bed. But while a second referendum or general election could help to bring about a resolution, it could complicate things even further. It is likely that this limbo will continue for the rest of the year. Things may have changed a lot by then and there could be some difficult periods, but as soon as there is a semblance of stability, British businesses will show their resilience, find their feet and regain their strength.
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Why is it that so many people seem to be inconsolably pessimistic about this country’s future?
Undoubtedly for some, Britain’s exit from the European Union is of great concern, especially those who have been unable to reconcile themselves to the democratic will expressed in the 2016 referendum. They seem to believe that Britain cannot have an optimistic, prosperous and secure future without being subsumed into the supranational entity that the EU represents.
Others believe that the era of globalisation may not work for us or that the challenge of rapidly changing technology is a threat to the social stability and economic predictability that we have taken for granted for many years.
What is this Britain that the pessimists describe or fear? Are we retreating from the world stage, abdicating our international influence or embracing protectionist concepts of economic nationalism? No, we are not.
We are not surrendering our permanent seat on the UN Security Council or leaving the G7 or G20. We are at the very heart of NATO. We remain in the Organization for Security and Cooperation in Europe, the OECD, the World Trade Organization, the International Monetary Fund and the World Bank. We are not abandoning the Commonwealth where we hold a pivotal influence. Our special relationship with the United States holds firm.
Not only do we support the WTO but we will soon take up our independent seat for the first time in over four decades. Yet still the voices of pessimism take on an almost “end of days” tone. Some may think it is irrelevant but I believe it matters because it damages us at home and abroad.
Not only do I believe such pessimism is unfounded and both defeatist and self-defeating, but I believe that there is every reason for the UK to be confident and optimistic about the future. Change is coming a-plenty but it is something we should embrace, not fear.
Let’s start with a reality check about the state of our economy and our comparative international performance. UK unemployment is at a 45-year low. Our rate of 3.9% compares with 7.9% for the Eurozone, 8.8% for France and 14.5% for Spain.
Last year, UK exports of goods and services rose to a new record of £634.1 billion; last year, Britain was the third top global destination and the top European destination for foreign direct investment. As long as we maintain an open, liberal, market economy with relatively benign tax and regulatory environments, our economic fundamentals will remain strong and our country an attractive one. That is why issues such as Brexit are not nearly so worrying to investors as the potential election of a hard Left, anti-wealth, high borrowing and irresponsibly spending Labour government.
The automotive industry is changing in ways that are transforming our understanding of mobility. These changes are facilitated by new technology and driven by consumer demands for a mobility experience that is connected, automated and sustainable. British companies have developed new technical capabilities in the UK automotive supply chain management and many are looking to continental supply chains for growth.
Our tech-based export and investment has proven most resilient to the dampening effects of Brexit and the UK tech ecosystem equips us to play a leading role in the 5G world. 5G will lead to a boom in data use and data use intensity correlates directly with per capita GDP growth. In Europe, the UK is leading the way with substantial investment in 5G testbeds and an extensive network of catapult centres bring industry and academia together to address problems at scale.
All of these things matter because they are an antidote to the corrosive pessimism that masquerades for some as a narrative of contemporary Britain. The examples that I have given represent empirical data rather than downbeat propaganda. There is a world beyond Europe and there will be a time beyond Brexit and we must be ready to face the challenges, accept the challenges and reap the rewards that the coming year will bring.
The lesson from the natural world is that adaptation is necessary for survival. We have the talent, the ingenuity and the experience as an outward-looking nation to navigate the fourth Industrial Revolution as well as, if not better than, many of our competitor nations.
The above is an edited extract from a speech delivered to Politeia.
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How vital is it for the UK to maintain the absolute right to exit the Customs Union? As pro-Brexit MPs have their political will tested to destruction, this question has become the fulcrum of the UK’s attempt to exit the EU.
The answer lies in a painstaking assessment of the UK’s trading performance within the EU. Using Office of National Statistics Data, Part 1 of my analysis showed how the Customs Union accounts for easily the worst-performing element of UK trade. Part 2 analysed the cost — in particular to the UK’s car producers and food consumers. Here I put the UK’s performance inside the Customs Union into global perspective. With multiple, 20-year comparisons — in US–EU trade, intra-EU trade, UK productivity and EU growth — this analysis reveals that the UK’s track record inside the Customs Union has been uniquely poor, by every reasonable measure or comparison. (All data used here is presented and sourced in: UK Trade: Goods & Services and UK’s Top 10 Sectors. Readers are invited to peruse both.)
The UK’s stagnant exports: What’s not to blame
The UK’s poor EU goods-export performance – a growth rate of just 0.22% per year since 1998 – is often attributed to the EU’s own flaccid economic growth. As a root cause, however, this is easy to eliminate by making two comparisons: first by measuring the UK’s performance inside the Customs Union against the exporting prowess of multiple non-EU countries; and second, by analysing how our EU partners have fared with each other over a similar period.
First, the track record of non-EU countries. In April 2017, Michael Burrage compared the growth rate of the UK’s goods exports into the EU with the growth rates achieved by multiple non-EU countries in It’s Quite OK to Walk Away. Using seven international trade databases, Burrage calculated that the growth rate of UK goods exports traded tariff-free into the EU’s Single Market from 1993–2015 was lower than for 35 other countries, many trading under Word Trade Organisation (WTO) terms. In no particular order, the countries that outperformed the UK included: Canada, the United States, Singapore, Brazil, Switzerland, India, Bangladesh, and – just– Australia.
Of the major global economies, only Japan has performed worse.
Second, the record of the UK’s own partners within the EU. What should deeply worry Customs Union supporters is that the UK’s performance inside the Customs Union is uniquely poor even by European standards. According to Eurostat data, the UK’s goods export/import ratio (expressed as a percentage) within the EU has plummeted from 80% in 2003 to just 63% in 2017, far below Germany (now at 124%), France (86%), Italy (112%), Netherlands (113%), and Spain (91%). Incidentally, Ireland’s export–import ration with the EU stands at an impressive 155%.
As shown in Part 1, the UK’s services exports to the EU do not and cannot redress the UK’s resulting trade-in-goods deficit, so long as the UK stays in the Customs Union.
What these comparisons reveal is that the UK’s goods-export performance with the EU since 1998 is uniquely poor, even though the UK’s EU-bound goods exports is precisely the sector the Customs Union is supposed to promote. The UK’s failure cannot be attributed to the EU’s own poor economic performance, since virtually every other major economy in the world has performed better over the past 20 years whether they happen to have been a member of the Customs Union or not. Suppose, then, the UK has just been uniquely unlucky in the range of goods it exports to the EU? Suppose the types of goods the UK makes are flukishly unsuited to the terms of the Customs Union and the tastes of Europe’s consumers?
Uncle Sam thrashes the UK in Europe
Fortunately, we can test this assertion too, because the United States’ own trade with the EU presents an almost heaven-sent comparison. The reason is the near equivalence in the value of the UK’s and US’s goods exports to EU back in 1998, and a startlingly similar range of export products – from aerospace goods and motorbikes to construction-site diggers and whisky.
Back in 1998, US goods exports to the EU were fractionally lower than the UK’s: £91.7 bn to the UK’s £99.9 bn at the prevailing exchange rate (UK Trade: Goods & Services, Tab 3, Section 10). But since then – more precisely, since 2008 – US goods exports have grown far more quickly. Over the entire, two-decade period, US goods exports to the EU have grown at a compound annual growth rate (CAGR) of 2.11% per year — as opposed to the UK’s 0.22% per year (Section 9).
Analysts can never say how the UK’s EU trade would have evolved from 1998 to 2017 if the UK had been outside the Customs Union. But a few deft comparisons – with non-EU countries’ trade, with intra-EU trade, with US trade growth, with the UK’s productivity growth, and with the EU’s own growth rate – reveal that by any reasonable comparison, the Customs Union has failed to deliver value to UK exporters since 1998 (For calculations and sources see UK Trade: Goods & Services).
The result: after 20 years of not being in the Customs Union, nor having a bilateral trade agreement with the EU, nor participating in Single Market rules, the US has comprehensively outstripped the UK as a goods exporter to the EU, with exports worth £219.8 bn in 2017 as opposed to the UK’s £164 bn. From near parity in 1998, US goods exports to the EU have grown almost 2% faster per year than the UK’s and are now 35% more valuable. As far as any analysis ever can, this dramatic divergence in export performance proves that seamless, tariff-free trade with the EU is absolutely not vital to exporters.
So, what is going on? Economists may one day discover that the Customs Union has been positively deleterious to UK producers as opposed to plain unhelpful. For what it’s worth, this author observes that Customs Union confers no commercial advantage in sectors where the UK is highly competitive (aerospace, defence jet engines, pharmaceuticals), and gives EU companies preferential access where the UK typically isn’t (mass-market cars, food, agriculture, machinery). And where the Customs Union provides no advantage, EU customers often procure US goods: EU airlines’ general preference for US-made turbo-jet engines would be a good example (UK’s Top 10 Sectors, Tab 2 (Transport), Section 5).
Nevertheless, the immediate issue is practical: Is the UK’s experience inside the Customs Union sufficiently bad that the absolute right to exit is worth the risks of a unilateral exit from negotiations and trading with the EU on WTO terms? In the global scale of poor trade relationships, does the end result of the UK’s experience in the Customs Union – a steadily deteriorating £95 trade deficit – really matter?
The £95 billion warning sign
The most logical comparison is, again, with the United States. That country, too, runs huge trade deficits in goods, which are partly redressed by surpluses in services. It’s biggest is the (2017) US$337 billion trade deficit with China. Highlighting this deficit formed a major element in Mr Trump’s campaign for the White House. US trade policy aims to reduce it.
So how does the scale of the UK’s deficit with the EU stack up with the US deficit with China? Are they of equal import? Or, to fashion the question more bluntly: should MPs worry that at some point, the UK’s £95 bn deficit with the EU will become an incendiary political issue all of its own?
If you convert the UK’s overall 2017 EU deficit into US dollars (goods plus services) at an exchange rate of $1.35 to £1, the resulting UK–EU deficit is $78.7 billion. But then the US economy is approximately 6‒7 times larger than the UK economy. Taking that into account, the UK has a deficit in comparative terms approximately 47% bigger than the US’s (Tab 3, Section 8).
More generously, you can translate the dollar trade deficit into a deficit per head of population, which gives a UK‒EU deficit of $1,216 per head, as opposed to a US‒China deficit of $1,050 per head. Calculated this way, the UK has a headache that is 16% more painful than the one that helped get Mr Trump elected.
Regardless of how adeptly the UK uses this deficit in future trade negotiations, it will, since it is deteriorating, eventually transmute into a political debate about the impact the Customs Union has on jobs. At that point, proponents of a new UK‒EU customs union – or indeed, any form of apparently seamless trade – are likely to hit extremely choppy political waters.
No, the Customs Union doesn’t create jobs
The reason for caution is the glaring discrepancy between the growth rates of exports and the UK’s own productivity growth rate (UK Trade: Goods & Services, Tab 3, Section 9). Observing that hundreds of thousands of jobs currently depend on trade with the EU is a quite different proposition to saying that membership of the Customs Union and Single Market has created jobs that otherwise wouldn’t exist — or that it isn’t steadily removing them.
The difficulty here is that the UK’s annual goods-export growth rate to EU (0.22%) is far lower than those other metrics which economists would normally expect it to exceed. It is just one-tenth of the UK’s average 1998–2017 GDP growth rate (2%, according to ONS). It is also slower that the Eurozone’s own growth rate, of 1.56% per year (calculated from 1995 – 2018, Section 5).
But the UK’s goods-export growth to EU is also far slower than the UK’s productivity growth rate over the same period ‒ 1.19%, according to ONS ‒ which is the rate at which UK companies and organisations become more efficient each year. This means it is statistically impossible for there to be more people engaged in EU goods-export activities in 2017 than in 1998. Which means, in turn, that the Customs Union cannot – net – have added a single job to the UK economy since 1998. Statistically, there have to be fewer jobs (as measured in value) involved in exporting goods to the EU in 2017 as compared to 1998 — despite the Customs Union.
In contrast, the growth in the UK’s EU trade deficit from -£5.6 bn in 1998 to -£95 in 2017 denotes the creation of hundreds of thousands of jobs in other EU countries, to supply goods to UK markets. This author roughly estimates the number created in EU to supply the UK’s motor market alone since 1998 at just over 40,000 (see Part 2). It is clear that continental Europe benefits greatly from keeping the UK in the Customs Union. What the UK gets out of it is – statistically – a mystery.
Summary – The Customs Union fails to deliver
So: if the Customs Union and Single Market have gently throttled UK export growth over 20 years; if they deliver crushing deficits that the UK’s non-EU trade then has to pay for; if their quality of seamlessness lies principally in helping investment slide overseas; if they force-feed UK households on the most expensive food on earth while offering no reciprocal advantage to any sector of UK trade except financial services, and then only in a limited way; if the reason for stagnant exports can’t easily be attributed to anything other than the Customs Union and Single Market themselves; and if the end result is a deficit 16% worse than the one that helped gain the Presidency for Mr Trump, then the UK’s strategic interest should be crystal clear.
Whatever its theoretical benefits, it has proven to be the wrong customs union for the UK since 1998. It delivers no commercial benefit to the UK’s fastest-growing manufacturing sectors (pharmaceuticals and aerospace); and leaves all the UK’s other major goods-export sectors in a state of either stagnant growth, huge deficits, or both. By any reasonable comparative measure the UK’s performance inside the Customs Union since 1998 is the picture of a failed trading relationship. And yet clinging to that failed relationship may now prevent the UK from liberalising trade with export markets that have grown quickly during the past 20 years – markets that are receptive to UK goods; markets that actually create jobs.
If the price of the UK’s exit from the EU is remaining in the Customs Union, then the cost will be paid by the UK’s manufacturing industry. That’s the lesson of the past 20 years.
In the recent Commons indicative votes on alternative Brexit options, the idea of remaining in the EU’s Customs Union emerged as the most popular future relationship with the EU even though, like every other option, it failed to get a majority. This is of course because it is Labour’s preferred option although Labour, fantastically, supports the idea only if the EU gives the UK a say in determining future EU trade policy (which it won’t).
Labour supporters of the Customs Union rarely say anything much in detail about why they support this option beyond a vague intention to preserve jobs, though what these jobs might be is rarely made clear. In fact, there is little evidence that a customs union would be a good idea for the UK.
The main arguments for a customs union are that it will guarantee tariff- and quota-free access for UK exports to EU markets and that it will avoid UK firms having to bear customs and ‘rules of origin’ costs that they would face in a free trade agreement (the latter involve the costs of ensuring product has enough ‘local’ content to qualify for zero tariffs). On top of this, it is claimed that a customs union solves the problem of the Irish border.
In our view, the purely economic arguments in favour of UK customs union membership with the EU are weak:
- There is not much evidence that a customs union would be more beneficial for UK-EU trade than a standard free trade agreement (FTA). A large-scale academic study from 2006 finds no evidence that customs unions outperform FTAs, while a more recent study even suggests the EU customs union has a smaller trade creating effect than FTAs such as NAFTA (which covers North America).
- Rules of origin costs are often hugely overstated. Claims that rules of origin costs for UK businesses in case of a UK-EU FTA could be as high as 7-8% of trade values are far too high. A careful study by the WTO suggests such costs are less than 1% of trade values, and often negligible.
- Costs of customs processing are also massively exaggerated. Claims by HMRC last year that customs costs could total 1% of UK GDP or 6% of trade values are anything from five to twenty times too high; they are based on dubious calculations and are totally at odds with on-the-ground industry experience.
- A ‘new’ UK-EU customs union would not even remove customs-related costs. Formal customs checks within the EU customs union only ended in the early 1990s due to the Single Market Programme, and still exist in Turkey’s customs union with the EU. Moreover, the documentary requirements associated with trading in a customs union can actually be greater than for trading on WTO rules!
- The UK’s foreign trade structure is not suited to a customs union. Customs union arrangements have some logic where one economy does a very large share of its trade with another. But the EU now represents only around 45% of UK goods exports and this share has been dropping rapidly. Twenty years from now it is likely that the EU will take only around a third of UK goods exports.
- The UK would remain locked into the EU’s highly protectionist agricultural trade system. High EU tariffs on agricultural products represent a heavy ‘tax’ on UK consumers. UK consumers are denied the choice of cheap food from outside the EU and pushed towards consuming expensive products from within it. This cost is high at 0.5-1% of GDP.
Moreover, the strategic/political arguments in favour of a customs union are even less compelling:
- Entering a customs union would make meaningful trade deals with other economies impossible. There could be deals on trade facilitation or deals on services but their scope would be very limited. Why would India or the US be interested in a deal on services (potentially benefitting the UK) when the UK had nothing to offer on the goods side?
- The EU would be able to ‘sell’ access to UK markets with no reciprocal benefits for the UK. Britain would be in the same boat as Turkey: when the EU does trade deals with third parties, these countries gain tariff-free access to Turkish markets but Turkish exporters do not gain automatic reciprocal access to these third countries.
- Britain would have no voice at future WTO discussions about global tariffs. It would simply have to accept whatever the EU agreed.
- The EU would be able to damage UK business using anti-dumping actions. Under a new UK-EU customs union the EU would be in charge of the UK’s ‘trade defence’ measures such as ‘anti-dumping’ actions. The EU could force the UK to impose steep tariffs on goods from third countries, hurting UK businesses and consumers. Worse still, the EU might insist on being able to impose anti-dumping duties on the UK as well – as is the case with Turkey.
- A customs union would not simply cover tariffs and quotas. The EU would also require the UK to follow EU rules in a broad swathe of policy areas including competition policy, environmental policy and social and labour standards – without any say. This would not only be a huge loss of UK sovereignty but also dramatically narrow the UK government’s freedom of action in key economic policy areas.
- A customs union does not solve the Irish border ‘problem’. Customs checks only represent a small element of potential border checks at EU borders today. A bigger issue is product conformity and other single market rules. This is another reason why any customs union would require either effective UK single market membership or border checks between Britain and Northern Ireland and/or Britain and the rest of the EU.
In summary, a customs union arrangement whereby the UK contracted out huge areas of trade and economic policy-making to the EU would be totally unsuitable for an economy like Britain’s.
Customs union arrangements may work well for small economies that do an overwhelming share of their trade with a large neighbour. But the UK is the world’s fifth largest economy, with a diverse pattern of foreign trade and with business and consumer interests that will often diverge from those of the EU.
It is no accident that Canada and Mexico are not interested in joining a customs union with the US, despite their strong trade orientation towards the US. They know that the loss of economic independence involved would be far too great to justify a modest reduction in border frictions. The calculation should be the same for the UK.
Supporters of a customs union have suggested the UK could somehow retain some influence over decision making in such a new UK-EU arrangement. But this looks like a fantasy. It would be legally and politically difficult for the EU to grant any significant decision-making power to the UK. The best the UK could hope for would be some kind of observer status. But the arrangement would remain a thoroughly one-sided one where the UK would have no power either to veto potentially damaging agreements or to push for deals that benefited it.
Entering a new customs union with the EU would be a backward-looking step for the UK, with a massive loss of policy independence and flexibility while leaving businesses and consumers at risk of having damaging decisions imposed on them with no say in how those decisions were taken. It would also give the UK minimal additional policy freedom in the trade and economic policy area. Overall, it is hard to imagine a more sub-optimal policy.
The post A dozen reasons why a UK-EU Customs Union remains a terrible idea appeared first on BrexitCentral.
One way to assess the value of the Customs Union to the UK is to track the trajectory of our principal export sectors over time. Since 1998, the UK’s fastest growing major goods exports (globally) have been pharmaceuticals, transport equipment and motor vehicles — in that order. None owe their commercial success to the Customs Union. Pharmaceuticals are almost free of global tariffs and so are aerospace products, which contribute 92% to the UK’s transport equipment exports.
Meanwhile the UK’s motor vehicle exports to EU peaked in 2007; the UK’s outstanding growth in the vehicles sector is powered purely by global enthusiasm for British motors.
But any meaningful analysis of the impact of the Customs Union has to place UK sectors into proportion – which means ranking them according to two-way trade. Here, there are two easy winners. UK–EU trade in motor vehicles is easily the country’s biggest, worth £67.5 bn in 2017. Next comes trade in food products and agriculture, worth £39.8 bn.
As the leading sectors in UK–EU trade, these pair have three things in common: they enjoy the highest levels of protection of any manufacturing sector in terms of the EU’s external tariffs; they generate the UK’s biggest EU deficits (£28 bn and £19 bn, respectively), and they are both represented by industry bodies that want the UK to maintain seamless trade with the EU.
First, cars. Using a three-year average at the start and end of this period and adjusting for inflation, UK motor-vehicle exports to EU have managed only fractional growth in 20 years: just 0.4% per year since 1998, or 6.7% over the entire two decades. Unnervingly, that growth is concentrated in the first half of the 20-year period. Adjusting for inflation, the value of average exports for 2008‒2017 (£15.03 bn, in 2015 prices) was lower than 1998‒2007 (£15.92 bn). This means by some measures, motor vehicles exports to EU are falling. Zero tariffs; zero market barriers; zero growth.
But here’s the problem: since 1998, imports from the EU have motored along nicely, growing at 3.6% per year. The result is a gigantic £28 billion deficit just in motor vehicles and parts — almost sufficient to write off the UK’s entire surplus in its trade in services.
Meanwhile, in the non-frictionless, non-seamless, non-Customs Union world of non-EU trade, UK exports have leapt ahead by a staggering 7.9% per year. Virtually all of the UK’s growth in motor-vehicle exports since 1998 is attributable to selling premium models to countries outside the EU: principally China and the US, but also ultra-high-end luxury models to the Middle East. The result is that despite being worth just a third of EU exports in 1998, exports to non-EU countries zipped past EU exports in 2012 and are now worth substantially more — £25.3 bn to £19.6 bn in 2017.
And thanks to the iron laws of mathematics, this difference will now accelerate away.
So, for the UK’s most-valuable trading sector, the Customs Union has operated as a one-way street. EU-based car-makers have retained a vice-like grip on the UK’s most-valuable import market with an 83.8% share that has dropped only fractionally since 1998. But there’s no reciprocity. Instead, UK auto manufacturing has relied for growth on global markets, with the result that the EU’s share of UK exports has plummet from 73.5% in 1998 to 44.7% in 2017.
Incidentally, this is easily the fastest switch-around of any major UK export sector, in the sense of exports switching from EU to non-EU countries since 1998. What’s more, the prominence of North America and China as markets for the UK’s premium marques implies that the proportion of the UK’s global motor exports already conducted on WTO terms probably exceeds the 73% average for UK goods.
Thus, the net effect of the Customs Union since 1998 has not been to create a springboard for UK manufacturing into continental Europe. Instead, it has placed a springboard in continental Europe, for overseas car manufacturers to ramp up their exports into the UK. Net investment has drifted from the UK to elsewhere in EU, and the growth in the UK’s auto deficit from £8.1 bn in 1998 to £28 billion deficit in 2017 is the living, haemorrhaging proof of it.
In employment terms, that springboard has bounced, very roughly, the equivalent of 40,000 jobs straight into continental Europe (This calculation is approximate. The UK’s trade deficit with the EU has widened by £17.32 billion (in 2015 prices) from 1998 to 2017. In the US, NBC estimates that wages contribute 10-15% of the cost of the average motor vehicle, and the average salary of a UK car worker, according to Auto Express, is £39,000. Using the lower figure, gives a value equivalent of 44,410 jobs. ).
The lethal aspect to this trend, however, is the way it is now edging into the UK’s premium sector – the power-house of the UK’s non-EU export growth since 1998. Jaguar‒Land Rover has now inaugurated production of its I-Pace and E-Pace models at Magna-Steyr in Graz, Austria, while BMW produces its second-generation Countryman models at VDL Nedcar in the Netherlands. Tellingly, the UK job losses announced by Jaguar-Land Rover in January 2019 followed the opening of a new £1 bn factory at Nitra, Slovakia, an investment decision that predates the UK’s 2016 referendum, and was part-induced by €125 million of EU-approved Slovak state aid.
Thus, for the UK’s biggest traded sector, the theoretical benefits of the UK’s membership of the Customs Union have failed to translate into measurable benefit. The protection of a 9–10% external tariff has not stimulated demand for UK-made vehicles and parts among EU customers over the past 20 years. Nor yet have the supposed obstacles of trading on WTO terms held back British motors from tripling sales (in real terms) since 1998.
The only observable impact of Customs Union membership has been to preserve the UK as a highly lucrative captive market for EU producers, with an 83% share of motoring imports.
Food for thought
Trade isn’t just exports, though. The equally vital role of trade is to secure for UK consumers the best quality goods at the lowest price. And if there’s one sector where this matters more than any other, it’s the UK’s second-biggest EU trade sector: food and agriculture.
At 0.7% of GDP, the UK’s agricultural sector is easily the smallest per head of any major economy in Europe. The UK is, perforce, a massive importer of food and agriculture products — currently to the tune of £42.9 billion per year. And so, even for non-free-traders, this is one area of trade where the interests of UK consumers easily outstrip the interests of UK producers.
Consequently, the UK’s strategic interest should be uncomplicated: to enable UK citizens to buy the cheapest and the best-quality food available on global markets. Yet this is precisely what the Customs Union prevents. By imposing ultra-high tariffs on non-EU food and quotas on imports, the EU forces UK consumers to purchase food from EU producers, who just happen to be the highest-cost food-producers on the planet.
But here’s the kicker: thanks to the Customs Union, the UK’s forced dependency on high-cost food is actually rising (Tab 8, Food, in UK’s Top 10 Sectors). Back in 1998, the EU supplied 67.8% of food products imported into the UK; this has now risen to 76.3%. The balance moderates slightly if you include agricultural produce (e.g. cereal) but agricultural produce is just 23% of the food that the UK imports. Add that to the mix and the UK’s reliance on EU for imports of all food-stuffs is still increasing, and stands at a 69.9%, totalling £30 billion in 2017.
Does this matter? Recent analysis from the Institute for Fiscal Studies by Peter Levell downplays the effect which the removal of tariffs would have on consumer prices, asserting the net effect on average households of the removal of all tariffs would be just 0.7% – 1.2%. The excellent analysis misses three factors, however: the effect of competition, the role of regulation, and the qualitative impact of changed spending habits – especially on less-well-off households.
First, the opening up of a protected or captive market to global prices would instantly stimulate competition, and competition would then become the dominant price-setting factor, not the old tariff differential. If overseas food producers bit straight into EU producers’ market share, EU producers would have to do reduce prices and become more efficient to retain market share (or gain fresh subsidies). There’s no telling how far price reduction would go but the dynamic of fresh competition for market share is the factor that would drive price reduction, not the original tariff advantage.
Second, some tariffs are particularly high, and their removal would disproportionately impact some households’ quality of life. As the IFS itself has itself pointed out, the least-well-off 20% of UK consumers spend more than 20% of their income on food. Imagine, then, the consequence of eliminating the effective 60% EU tariff on beef. Argentinian and Brazilian producers would charge into the UK market, and prices would quickly drop. But the effect would be qualitative. Families – and individuals, more to the point – would change spending habits and start eating high-quality beef, while paying less for the novelty. On them, the effect of tariff-free food would be immense.
Third, creating an open market in UK food stuffs wouldn’t simply be a matter of removing tariffs, but of reforming regulation to ensure it becomes non-discriminatory. And for consumers to benefit, a post-Brexit UK would also need to ensure compliance among trade partners. Analysts need only contemplate the effect – on consumers and UK car production – of the 2015 demise of the Land Rover Defender, when Jaguar Land Rover decided to comply with EU emissions regulations which other European car makers chose to flout. Without re-regulation, and compliance among trade partner, UK markets – especially food markets – will not become genuinely open, and value won’t flow to consumers.
In summary, a practical test of the utility of the Customs Union has to rest principally on the experience of motor vehicles, and food/agriculture. They are the UK’s two largest two-way sector trade with the EU and it’s where protective EU tariffs have the greatest trade-distorting impact.
In both cases, the trade data for 1998–2007 show the effect of the Customs Union is to retain or grow the UK as an essentially captive market, without reciprocal benefit to UK producers (in the case of cars) or UK consumers (in the case of food). And even from UK food producers’ perspective, exports of food products to markets outside the EU have grown faster than inside it (3.5% to 2.7%) despite the high tariffs and regulatory burdens common in trade in food. The rise in salmon sales to Korea following implementation of the 2011 FTA implies that the UK has much to gain from negotiating access to Asian markets – not just for fish, but also cheese and beverages.
I invite you to step through the experience of all the UK’s biggest trades by downloading the spreadsheet The UK’s Top 10 Sectors. The story described above repeats to a greater or lesser extent in each. The UK’s record inside the Customs Union is so unrelentingly poor that it begs a bigger question: do other countries fare any better? Is the UK’s experience just uniquely, inexplicably bad?
To answer that question, in a final instalment I will compare UK performance against other EU countries, non-EU exporters, the US’s and the Eurozone’s own growth rate.
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There’s a difference between what the Customs Union was supposed to achieve in theory and what it’s actually achieved in practice. Thanks to historical trade data published by the UK Office for National Statistics (ONS) in September 2018, we now know the difference is huge. By making multiple comparisons in UK, EU and non-EU trade since 1998, it’s possible to judge the UK’s record inside the Customs Union over the past 20 years, and assess the value of seamless, tariff-free trade with the EU in terms of what it’s actually achieved.
All my data is sourced from ONS September 2018 release unless otherwise stated and compiled in two spreadsheets: UK’s Top Ten Sectors, which analyses each principal UK traded sector in turn, from motor vehicles to beverages; and UK Trade in Goods & Services which directly compares UK’s trade in goods and services. Both cover the period 1998 to 2017 and I would encourage readers to download are inspect them.
Export Growth: 1998 to 2017
For a first-pass assessment of UK’s trade record in the Customs Union, divide all UK exports into four, roughly equal parts: exports of goods to the EU (worth £164 billion in 2017); exports of services to the EU (£117 billion); exports of goods to non-EU countries (£175 billion); and exports of services to non-EU countries (£162 billion). Now, using the historical trade data published by the ONS in September 2018, calculate the average yearly growth rate for each of these four categories from 1998 (or 1999 for the services data) to 2017 (the method used is to take a three-year average at the start and end of the time period, and then adjust for inflation using the ONS’ own import/export deflator).
The results are perverse. The UK’s slowest-growing export trade since 1998 is goods exports to the EU, which have grown by just 0.2% per year since 1998, or 3.7% over 20 years. Yet this is precisely the sector that is supposed to benefit from tariff-free trade within the Customs Union. And even 0.2% is misleading. Most growth occurred pre-2007; adjusting for inflation, average annual exports in 2008‒2017 were actually lower than 1998‒2007 (See Tab 3 in UK Trade in Goods & Services, Section 2, line 77. £144.7 bn as opposed to £145.6 bn in 2015 prices).
Conversely, the UK’s fastest growing exports are services exports outside the EU, unimpacted by either the Customs Union or Single Market regulation. At 5.6% per year over 20 years, these exports have grown so fast in the last 20 years, they are now worth almost as much as UK’s entire goods exports inside the Customs Union.
Next fastest is UK’s services exports to the EU, growing an impressive 5.2% per year. This sector is marginally impacted by the Single Market. A portion of financial services are impacted by EU regulation, although financial services exports contribute just under one-third, or 31% of UK services exports to EU. (Overall, just 11% of UK services exports are financial services exports to the EU – for a breakdown of UK’s services trade see Tab 2, UK Trade in Goods & Services).
Meanwhile UK’s goods exports to countries outside the EU countries – and outside the Customs Union – have grown at a crisp 3.3% per year since 1998. This sector is heavily influenced by the Single Market, whose rules apply to most goods made in UK, but they are conducted outside the Customs Union. And thanks to the trade-database research of Michael Burrage, It’s Quite OK to Walk Away, we can approximately calculate the proportion of UK’s non-EU exports that has been conducted on World Trade Organisation (WTO) terms.
Taking the year 2015, Burrage estimates that 6% of UK’s exports went countries with whom UK enjoys an EU-negotiated free trade agreement (FTA). Another 8% went to European Free Trade Agreement markets. This means, approximately 73% of UK’s exports to non-EU countries was conducted on WTO terms. Much of the rest (principally Switzerland) is with countries that impose near-negligible tariffs on non-food imports.
Consequently, the 3.3% per year growth rate achieved by UK’s non-EU goods exports is a strong and accurate reflection of UK companies’ ability to trade on WTO terms. Since 1998, UK businesses have proved more adept at growing markets outside the Customs Union than in it, despite the tariff and customs barriers they confront in most non-EU trade. Meanwhile, UK businesses have failed to grow markets inside the Customs Union, despite the fact that this trade with the EU is tariff free.
What’s to blame for this discrepancy – or more accurately, what’s not to blame – will be analysed in Part 3 of this analysis, when UK’s export growth is compared to Euro-area growth, intra-EU trade, UK productivity, and EU–US trade over the same period. But in a straightforward assessment of the value of the Customs Union to UK, the data are unforgiving: that part of UK exports that is governed by the Customs Union is easily UK’s worst performing.
The Customs Union: Qui Bono?
Not so with EU imports, however. Back in 1998, UK’s EU goods trade was roughly in balance, -£5.6 bn in current prices). But since then, imports from the EU have grown at a strapping 3.4% per year. The import sectors displaying the fastest growth are motor vehicles, (with imports growing 3.6% p.a., to reach £47.7 bn in 2017), food products (5.3% p.a., to £23.2 bn) and pharmaceuticals (7.3%p.a., to £22 bn), with this last import category showing especially rapid growth since 2011.
So, since 1998, the track record of the Customs Union has been to take a trade relationship that was trim and balanced and turn it into a £95 billion deficit, which is larger – per head – than the US trade deficit with China.
Here again, the ONS November-release trade data helps because we can see to what extent UK’s services trade with the EU will ever balance this equation out. And the answer is: it won’t.
Services exports to EU may be growing nicely (5.2% p.a., as opposed to services imports growth of 3.0% p.a.) but the £36 bn surplus it generates pays for just one-third of UK’s deficit in trade in goods. And since the difference between UK’s goods export‒import growth rate (3%) is wider than the difference in the UK’s services export‒import growth rate (2.2%) it never will – so long as UK maintains its current terms of trade with the EU.
The perverseness of UK’s EU-trade outcomes extends to the deficits UK incurs on those individual trade sectors most impacted by the Customs Union (See Tabs 2-11 of UK’s Top Ten Sectors. Data for each sector is presented in turn, in order of the total value of UK exports. Together, these top ten sectors contribute 80.9% of UK manufacturing exports, or 71.1% of UK goods exports). The UK’s two biggest two-way trade sectors with EU are motor vehicles (worth a combined £67.3 in 2017) and food & agriculture (£39.8 bn). These are also the two sectors where the EU’s common external tariff (CET) exerts the biggest impact on UK trade, and theoretically provides the greatest ‘protection’. Yet these are simultaneously the sectors where UK incurs its biggest deficits (See Tab 1, UK’s Top Ten Sectors. ‘Manufacturing’).
Both of these deficits have increased dramatically since 1998: by £19.2 bn (current prices) for motor vehicles, and £14.1 bn for food & agriculture. These deficits reflect a surge in imports from fellow Customs Union member states, for which no commensurate reciprocal gain or trade-off can be found in any other sector of UK’s goods trade. In other words, there is no trade-off within the Customs Union.
At this point in the analysis, it’s worth stepping through the 20-year trajectories of each of UK’s top ten goods-trade sectors to try to map supposed tariff-free advantage with actual outcome. What you find is either a sizeable and growing deficit: food products (-£14.4bn ); and beverages (-£2bn ); or stagnant growth plus a sizeable deficit: motor vehicles (0.4% p.a., -£28.bn); machinery (-0.1% p.a., -£7.2bn); chemicals (0.7% p.a., -£3.5 bn); computers and electronics (-5.8% p.a., -£11.3 bn); basic metals ( 1.% p.a., -£3.4 bn ); and electrical goods (-0.9% p.a., -£4.4 bn). Since we have now compassed 72% of UK’s goods exports, the obvious verdict is hard to swerve.
Damningly, the only two of UK’s top-ten EU traded sectors that have performed strongly since 1998 derive next-to-zero commercial advantage from the Customs Union. The UK’s second biggest export sector – transport equipment, which is 92% aerospace related (and therefore trades tariff-free) – has climbed a decent 2.7% per year. And UK’s pharmaceuticals exports (up 6.3% p.a. to EU, since 1998) gain minimal competitive advantage because major developed economies abolished tariffs on end-user pharmaceuticals during the Uruguay Round, which concluded in 1993.
So, on the basis of the UK’s own 20-year trade data, there is not one, single major sector of trade in which the Customs Union has delivered clear, demonstrable benefit to UK since 1998. Shown in aggregate, across all UK trade, the failure is stark. What’s troubling – for UK consumers, at least – is that the Customs Union appears to be turning the UK into a series of tightly controlled captive markets for EU producers. To see how, I shall in due course take a detailed look at the 20-year history of UK’s two biggest EU traded sectors — motor vehicles and food.
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There has been much speculation about what the UK and EU will do in the event of No Deal, focused in the UK on the no-deal planning notices emanating from the Department for Exiting the European Union. What little attention has been paid to the Department for International Trade (DIT) has usually taken the form of criticism that crucial deals for the UK’s external trade will be lost because we will have failed to novate or roll over the agreements with a host of countries we have through the EU.
Any DIT announcement of a successful roll over or novation is usually accompanied by howls of derision from various doomsayers who say that this is a small percentage of the number of agreements the UK has through the EU with other countries outside the EU27. Reference is often made to 60 or 70 agreements that fall into this bucket (it is actually around 40 agreements covering around 70 countries).
When it comes to what we might have if we leave with no deal, the analysis is entirely static, assuming that some mythical gate will come down and foreclose all trade if we have not immediately rolled over all agreements, and assuming that whatever we have when we leave will remain the status quo forever from that point. It is also fair to point out that our trading partners have been confused by the UK’s EU negotiating strategy, something on which DIT has no input, and this has led our trading partners to doubt that we will ultimately be in a position to offer deep liberalisation in the future, because we will be locked into the EU Customs Union or have such high regulatory alignment that we will be unable to have the requisite regulatory autonomy to make us relevant to them.
This uncertainty has certainly impacted their negotiating strategy, and made them more determined to extract as much as possible from us now, because they believe our EU strategy will mean we will be unable to negotiate properly in the future. The more that parliamentary voices lobby hard to take No Deal off the table or extend Article 50, the less incentive these countries have to close these agreements with any urgency, so our own lack of discipline is contributing to the issue.
Despite this hostile working environment, DIT has been quietly and successfully rolling over many of these agreements; and with regard to the ones that matter – and that actually impact meaningful amounts of UK trade (as opposed to say agreements with Andorra and San Marino) – progress is relatively good (with a couple of exceptions which I will discuss below), even in the event of the UK leaving the EU without a signed withdrawal agreement.
First of all, some threshold points. It is often assumed that if 1% of our trade is with country X, and country X has a trade deal with the EU, this means that if that EU-X agreement is not rolled over in favour of the UK, then that means all of that 1% of our trade will fall to zero. But this is not how trade works. Clearly for some products, especially agricultural trade where tariffs are high, failure to novate could have a big impact on our exports (assuming the agreement in question lowers agricultural tariffs for country X, not always the case in the EU-X agreements).
But equally, where the tariffs are low, and industrial goods tariffs are very low (Most Favoured Nation rates for industrial goods are on average 3%-4%), then failure to novate will simply mean a marginally higher tariff that may be compensated for by a host of other factors such as currency fluctuations or tax policy. Right now, even in some of the most established agreements, such as NAFTA and the EU-South Korea agreement for example, some traders still choose to pay the MFN rate and do not take the benefit of the preferential rate because proving origin is more hassle than just paying the low MFN rate.
With that caution, let’s look at progress to date. The agreements that we have through the EU (excluding the recently-signed Japan agreement where tariff cuts only commence in January 2020) account for 11% of our total trade. Looking at how much trade is duty free around the world (or duty free under a GSP programme), it would not be surprising if the trade actually affected – in case the agreements are not rolled over – would be approximately half of that. Of these, the Swiss agreement alone – which has been rolled over – is worth 20% of our trade. Other significant agreements here include CETA, covering a further 12% of the trade under these agreements (almost rolled over), and the EU’s agreements with South Korea and Singapore, each covering around 10% of this trade.
Equally it is worth pointing out that 20 of these EU-X agreements account for only 0.8% of total UK trade. Many of the EU-X agreements are Economic Partnership Agreements (EPAs) that are with small developing countries, not critical to UK trade. We would certainly like to replace these arrangements with UK arrangements, but we should take the opportunity of having a different approach to development here. The EU’s approach to development is to charge high tariffs on the products that developing countries produce (often with significant tariff escalation), and to compensate by lowering that rate through its preference programmes such as GSP, and GSP+ which are conditional (and could be lost by the developing country for any number of reasons outside of the control of individual traders and exporters), and to limit the unconditional programmes (Everything But Arms) to only the poorest of the poor.
A smarter approach for all sides is for the UK to actually be genuinely open to the products of these countries, but to compensate them on a one-off basis for the preference erosion that this will cause. We should also eliminate tariff scalation from our schedules so that these countries are incentivised to go up the value chain and garner more value for their producers – a key element of development. Notwithstanding this, the UK and the Eastern and Southern African states have now rolled over their agreement with the EU.
The UK is very close to rolling over the EEA agreements which cover around 2% of UK trade, mostly with Norway, as Liam Fox pointed out in a ministerial statement last week. We have also rolled over a series of nuclear safeguarding agreements. The UK has acceded to the Common Transit Convention. Although the UK is a member of the WTO by right, and does not have to re-accede to it, it does have to accede to the WTO Government Procurement Agreement, and is in the process of doing so. The recently-signed Swiss agreement also contains important cumulation provisions covering goods originating in the EU, EFTA and Turkey. Crucially, goods that would have been considered ‘of community origin’ by either the UK or Switzerland will remain so.
But trade is also more than just about trade agreements. The UK has been able to roll over a number of mutual recognition agreements (MRAs) that are very important to facilitate trade. MRAs make it easier for people to trade and easier to prove that their products satisfy the standards and regulatory requirements of the other party. The UK has already signed MRAs with the US, Australia, Israel and New Zealand. There are sectoral agreements on insurance with the US and Switzerland, on wine with Australia, and the US. A range of air services agreements have been signed with the US, Canada, Switzerland, and Israel to name a few. The UK and New Zealand have rolled over the UK-NZ veterinary agreement. A distilled spirits mutual recognition agreement with the US (with whom there is a rapidly growing whisky trade) has been signed and a similar agreement is due to be signed shortly with Mexico.
It is true that there are issues with the Japanese and South Korean novations, but it is important to understand why this is the case. In the case of Japan, the Japanese recognise that the EU deal is not an ideal agreement in terms of Japanese trade policy. Japan has made concessions on data that do not suit its IP-based economy that relies on data flow. The Japanese would rather have the UK in the CPTPP arrangement rather than simply rolling over the agreement, and that would be in our interests too. They rightly don’t want the new EU-Japan agreement to be the basis for the UK-Japan trading relationship going forward. This is because Japan is particularly concerned about countries like its large neighbour, China, which are increasingly pushing anti-competitive and prescriptive regulations domestically and on the rest of the world. This would stifle their own innovative industries.
Like many global supply chain managers, Japan needs an open trading, pro-competitive regulatory environment. It sees the UK as potentially moving in that direction, and if the UK accedes to the CPTPP, it also sees a possibility that the US will one day return to the TPP fold. If the UK, US and new accession countries like Indonesia and South Korea accede to the CPTPP, then it will command 45% of the world’s GDP, and include the fastest growing countries in the world (compared to the EU27’s 20% assuming static performance over time, whereas it is likely that on current trends the EU27 will decline from this 20% figure).
Indeed, the Japanese may also think that their current negotiating position will prevent a “No Deal” situation arising. There is also a specific nuance with the EU-Japan agreement because it is a new agreement and the tariff cuts are only just starting, and the MFN rate applies to all UK and EU trade until January 2020 anyway. Whatever else is said, the Japanese are committed to a better agreement with the UK than the EU, but only want to go to the Diet for approval once with a better agreement. Other countries have complicated legislative processes too.
In the case of South Korea, they want to see more liberalisation from the UK than they secured from the EU, which is also to be expected. The UK can liberalise more than the EU, but does need a base line from which to operate. It is fair to say that the Koreans have been particularly affected by the confusion in Parliament regarding an extension of Article 50. Why should they negotiate with any urgency, if in fact there is no need to do so?
Additionally, both the Koreans and Japanese have given confused messages – on the one hand seeking more liberalisation either directly or through CPTPP accession, while maintaining that the UK should disturb their UK-EU27 supply chains as little as possible – two inconsistent positions. It would be better for all if these managers of global supply chains took the position that they wanted maximum trade openness between the UK and EU through a comprehensive, advanced FTA consistent with allowing their global trade ambitions of more liberalisation and pro-competitive regulation to be simultaneously fulfilled.
With regard to Turkey, the hysteria is even more divorced from reality. We could never negotiate anything with Turkey until we have actually left because Turkey is in a partial customs union with the EU. Nothing has changed there. It is not news that this particular agreement won’t be rolled over by March 2019.
Of course, if a deal can be agreed, the EU-X deals would continue to apply in their entirety until the end of the transition period. No-one wants a no-deal scenario, but the UK has made sufficient progress on rolling over some of the existing FTAs, MRAs and other sectoral agreements such that leaving without a deal would not be the disaster that some have painted.
We would of course continue this process after we have left the EU, and extend it to include further and deeper liberalisation. However, amendments like Cooper-Boles force other countries to assume that No Deal is in fact off the table, and so there is no point in drawing down political capital with their own legislatures if it not necessary – another example of the UK shooting itself in the foot, but that’s a mistake that is being made by those voices calling for No Deal to be taken off the table or for Article 50 to be extended. It cannot be laid at the door of the DIT. It’s a bit like sending your army into battle, but deliberately taking away its weapons.
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More attention is needed to be given the tariff policy Britain must adopt on leaving the EU on 29th March. It now looks likely that this will have to be without a withdrawal agreement. However, this has the advantage that Britain can shape its tariff policy from day one.
This is a responsibility that British governments have been able to avoid during the period of EU membership. Now they are regaining that responsibility, they must seize it promptly.
Before the end of March, the Government should publish a White Paper explaining that:
- It has sought to negotiate a withdrawal agreement, but unfortunately no acceptable agreement could be reached, so while the UK remains open to agreement, European leaders have ruled out further negotiation. This means the European Treaties cease to apply to the United Kingdom on 29th March 2019. Britain’s trade with the EU will then be governed by the World Trade Organisation agreements, which govern most of Britain’s trade already.
- The WTO agreements are international law and Britain will honour them in full. It expects the EU to do likewise.
- The EU will now be obliged to apply its Common External Tariff (CET) to British exports, treating the UK on equal terms with other third countries, on a Most Favoured Nation (MFN) basis. Tariffs must be accepted as a disadvantage, but it has now become a very minor one: on industrial exports from the UK to the EU, the CET averages about 3%.
- As far as British imports are concerned, Britain will not be obliged to charge import duties; but where it does so, it must charge a rate which treats all WTO members equally. Absent a withdrawal agreement the EU must be treated on the same basis as other WTO members. Britain will inherit tariff bindings, as a result of which its import duties cannot exceed those of the European CET.
- Importantly, however, Britain will be free after 29th March to reduce or eliminate import duties whenever it sees fit (see below).
- Apart from tariffs, the rule of the WTO for all other aspects of trade is non-discrimination. Non-Tariff Barriers are prohibited by the WTO so far as they afford protection to domestic production (GATT Art. III.1). So far as they arise out of the operation of internal laws (industrial safety etc.), all such laws must be applied equally: they must accord imports treatment “no less favourable” than that accorded to products of national origin (GATT Art. III.4). They cannot discriminate against imports from other WTO members.
The White Paper will explain the application of these rules carefully, emphasising that they are tried and tested by many years of practice worldwide. It will emphasise three key facts:
(a) that most of the UK’s trade is already conducted outside Europe, most of it under the WTO rules;
(b) that Britain trades more successfully outside Europe than within it; and
(c) that most of the EU’s trading partners worldwide trade with it under the WTO rules, and do so with success.
FIRST PHASE OF TARIFF POLICY: KEEPING TRADE FLOWING
After 29th March, the immediate priority will be to keep trade flowing in an initially uncertain environment. During this phase, the Government should suspend all import duties from all sources. The WTO rules allow this, provided the suspension is on an MFN basis.
This will mean that no inbound consignments are interrupted for tariff reasons.
SECOND PHASE OF TARIFF POLICY: ELIMINATING HARMFUL IMPORT DUTIES
Then, as it becomes clear that trade is flowing smoothly, import duties would be selectively reinstated, selectively reduced and selectively eliminated. This is the stage at which Britain’s trade policy will begin to take shape. It is important to emphasise that Britain will have no freedom to raise tariffs above their CET level. It will be tied by WTO bindings not to do so. Trade policy will take the form of selective reductions and eliminations of import duty, below their present CET levels – cuts which Britain can now make (and has hitherto been prevented from making) include the following:
- Foodstuffs will be imported free of all duties. Note that this is one of the principal benefits of Brexit. The present CAP duties are very high, often above 50%. Eliminating them would bring major reductions in food prices, to the benefit of families. It would restore the traditional British policy of leaving food untaxed. Many countries in the world are exporters of food. The return of Britain as a buyer of food in world markets will be seen as a major advance towards freer trade from the EU’s protectionism.
- Clothing and footwear. Duties should be cut to a maximum of 5%. Under the EU’s CET, these currently attract duties up to 20%. Again, the UK is a substantial net importer of these items and eliminating duties on them will bring major reductions in prices, to the benefit of families.
- Automotive components, parts and sub-assemblies. Duties should be removed. These currently attract duties of around 5%. Eliminating them will help UK assembly plants relying on supplies from Europe and Japan on a “just-in-time” basis.
- Semiconductors. These attract CET duties of 12%-15%. These should be removed. British IT industries are substantial net importers of semiconductors and are currently burdened by duties intended to protect continental suppliers.
- Other industrial intermediates, materials, components, sub-assemblies etc. Duties should be removed wherever the UK is a substantial net importer.
- Other products of any kind not made in the UK. Duties should be removed.
THIRD PHASE OF TARIFF POLICY: PREPARING FOR FREE TRADE AGREEMENTS
While it is making these unilateral tariff cuts, the UK should also announce its willingness to conclude free trade agreements with any willing partner on a basis of reciprocity, eliminating all import duties in both directions. This should apply to all the UK’s trading partners worldwide, not excluding the EU.
The detail of each negotiation will of course take time to tie down. However, the WTO Agreement allows GATT (Art. XXIV) the formation of interim agreements which can be brought into provisional application, and thus given early effect. In this way, tariffs can be eliminated in advance.
Negotiating priority should be given to:
a) suppliers of products which the UK needs to buy, where the European CET is high and where the British aim is to secure more affordable prices (e.g. foodstuffs from Argentina, New Zealand, clothing and footwear from China and India); and
b) promising markets where import duties against British exports are still high (as with India and China). One may note in passing that the EU comes into neither of these categories: EU duties against British industrial exports will be low (average 3%). A free trade agreement eliminating these will be of modest value and not worth paying too high a negotiating price to obtain. Meanwhile, Britain will have no need for expensive European food once supplies are available duty-free from other more reasonable suppliers.
Thus Britain will make important tariff cuts unilaterally, and others will follow free trade negotiations. Together they will add up to a significant liberalisation and a clear declaration that Britain, on regaining the right to direct its own trade policy, intends to drive it strongly in a liberalising direction. These tariff cuts would establish Britain as once again a beacon of freer trade, to its own benefit and to the benefit of its trading partners worldwide. It is important to send this signal immediately on Britain gaining the freedom to do so.
The post Here is the tariff policy the Government should announce for 29th March appeared first on BrexitCentral.
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