A Bespoke Free Trade Agreement Won't Benefit Many Brits

Post-Brexit UK consumers are likely to pay more for everything from imported produce to automobiles unless the United Kingdom opts for a Customs Union

Published: March 13, 2018

Author: David A. Gantz

Eleven months after UK Prime Minister Theresa May announced the United Kingdom’s intent to withdraw from the European Union (by March 29, 2019), some limited progress has been made toward finalizing the terms of the “divorce.” The nature of the trading relationship that will follow Brexit (and an interim period of about two years) has yet to be officially discussed.

In December 2017, the European Union and the United Kingdom agreed in principle on the following:

  • approximately £50 billion in payments that the United Kingdom will make toward the EU budget during the transition;
  • maintenance (without specifying how) of an open border between Northern Ireland and the Republic of Ireland; and
  • protection of the rights of EU citizens currently living and working in the United Kingdom.

The Irish border is probably the greatest challenge, since there appears to be no legal structure that would effectively maintain Northern Ireland’s presence in a Customs Union and under EU regulatory standards — essential for an open Irish border — while the rest of the United Kingdom is excluded.

To further complicate matters for the UK government, Secretary of State for Exiting the European Union David Davis suggested that the agreement in principle was “much more a statement of intent than a legally enforceable thing,” which irritated the EU ministers enough to defer the beginning of discussions on a new trade relationship from January (as hoped for by the United Kingdom) to March 2018, and to demand a legally binding document as a further precondition for such talks.

As this gaffe suggests, May’s task is made more difficult by disarray within her own minority government. There, rabid “hard” Brexit supporters such as Foreign Secretary Boris Johnson are willing to undercut the prime minister at every turn, Davis seems uncontrollable and Conservative Party members have yet to agree on the details of the United Kingdom’s negotiating position. Time is running short on reaching an agreement on the exceedingly complex task of fashioning a new trade relationship post-March 2019 and during a two-year transition period ending in 2021. Most recently, the British government appears torn between concluding a free trade agreement (FTA) resembling the Canada-European Union (EU) Comprehensive Economic and Trade Agreement (CETA) favoured by the Conservative majority (with zero tariffs but burdensome administrative requirements) and a Customs Union favoured by Labour and a dissident group of Conservatives (with fewer administrative burdens but without the opportunity for third-country FTAs). Perhaps most troubling, it appears impossible to maintain an open border between the Republic of Ireland and Northern Ireland and unrestricted trade between Northern Ireland and the rest of the United Kingdom without some form of Customs Union.

Among other complications is the requirement that the terms of the future trade relationship, whenever agreed upon, receive not only the approval of the European Commission, Council and Parliament, but also the unanimous assent of some 38 national and regional EU Parliaments.

The UK government appears to favour a “bespoke” FTA, combining the best features of CETA and the EU agreements with South Korea and Japan. This is essentially what EU Brexit negotiator Michael Barnier has offered, but such agreements incorporate only limited treatment of financial services, incomplete coverage of agriculture and food products, and dictate a “hard” border between Northern Ireland and Ireland.

Under these circumstances, the best that could be hoped for is an FTA that eliminates tariffs on most non-agricultural products, but does not go significantly beyond World Trade Organization (WTO) rules on trade in services. Moreover, while a “CETA plus” would provide duty-free, quota-free trade in goods with the European Union, it would require burdensome new documentation requirements, compliance with complex rules of origin and customs inspections for exports and imports. This would include the development of a system for assuring that UK exports to the European Union meet current EU regulatory standards (as with autos, chemicals and pharmaceutical products, among others).

The financial and automotive sectors are likely to experience the most serious effects of a delay in establishing future trade relationships for goods and services. Now that it is obvious that UK financial institutions will not enjoy their current “passporting” rights post-Brexit, some financial institutions currently headquartered in London have announced plans to strengthen their presence in Frankfurt, Luxembourg, Dublin or other EU capitals so that they may continue to conduct lucrative business in euro-denominated financial instruments. Once such decisions are made, it will be costly to reverse them, meaning that London will suffer business and personnel losses, even if the eventual terms of a final agreement on services is better for London than currently expected. Estimates for the number of lost financial services positions vary widely but begin at around 10,000.

The situation is also potentially dire for the UK auto assembly industry, which is dominated by Japanese, German and Indian-owned enterprises that are heavily dependent on duty-free parts and components imported from their affiliates and parts producers in other EU nations. Seventy-seven percent of British auto production was exported in 2015, and 57.5 percent of total exports were sent to other EU nations. If applicable in the future, the European Union’s 10 percent Most Favoured Nation tariff on autos imported from outside the European Union would make continued UK production of autos for export to the European Union uneconomical. Under such circumstances, producers will be forced to shift production to other EU nations, significantly reducing UK employment and export revenue.

Even assuming that the auto tariffs will be eliminated in an FTA, many auto producers will face burdensome and expensive documentation to maintain tariff-free trade with the European Union and possible delays in obtaining many of the parts used in auto production. This uncertainty is taking a toll on automotive investment and production in the United Kingdom, both of which have declined in 2017 from 2016 levels.

Other challenges face the European Union both during and after the transition, notably, negotiation of tariff levels with other members of the WTO and the creation of a mammoth new UK bureaucracy. Competition rules, unfair trade practices by foreign nations and greatly expanded customs and immigration requirements would all fall into the bureaucracy’s portfolio.

The United Kingdom will find itself in a similar situation as it begins to negotiate hundreds of bilateral agreements affecting matters as diverse as defence, civil aviation, nuclear power and international trade. Even optimists in the United Kingdom understand that this process will require hundreds of experienced negotiators — which the United Kingdom currently lacks — and 10 to 20 years to complete.

While a pound sterling worth less than the euro, US dollar and Japanese yen will encourage some UK exports, Britain’s consumers are likely to pay more for everything from imported fruits and vegetables to automobiles. This suggests that the foreseeable impact of greater UK sovereignty will be fewer jobs, a lower standard of living for millions of British citizens, and an economic and political shock greater than any experienced since the losses of the British Empire in the years immediately following World War II.

The opinions expressed in this article/multimedia are those of the author(s) and do not necessarily reflect the views of CIGI or its Board of Directors.