No Deal would be better than a Bad Deal

- Monday, 24th April 2017

 

Prospect

 

This article was written for Prospect Magazine.

 

The PM has called this election to strengthen her hand in the Brexit negotiations. How will it do so?

 

The most crucial card in her hand is her statement that "no deal is better than a bad deal". Any business or trade union negotiator knows that you can only obtain a good outcome if you are willing to walk away from a bad one. However, so long as Mrs May has a slender majority in Parliament, the EU27 may calculate that if they pitch the price for leaving so high that she does walk away with no Free Trade Deal, Parliament will send her back mandated to make further concessions.

 

However, if she returns with a healthy majority on a manifesto backing her robust negotiating position neither the Commons nor the Lords could undermine her position. So, the EU will be less likely to overplay their hand.

 

That does not guarantee that they will agree to a Free Trade Deal with us. Undoubtedly the best outcome for both Britain and the EU27 would be a free trade deal continuing zero tariffs and the minimum of new non-tariff barriers. The EU is our biggest market. The UK is also the EU27's biggest market bigger even than the US with whom the EU has laboriously been trying to negotiate a free trade deal. And the EU has a huge surplus on its trade with the UK.

 

However, such a deal is far less likely than most people assume. Not because it would be difficult to negotiate in time. Moving from zero tariffs to zero tariffs is infinitely easier than negotiating removal of tariffs! And we don't have to negotiate convergence of rules and regulations since they start identical just a procedure (required in similar agreements) for dealing with future divergences in rules.

 

For the EU, however, politics trumps economics. It may be more important for the EU to make things difficult for the UK in order to discourage their voters from voting for Eurosceptic parties.

 

So, it is important that we are genuinely prepared to walk away from the negotiations with no Free Trade Deal if they refuse one or demand an impossibly high price in money or concessions. In which case, we will trade with the EU on Most Favoured Nation terms under World Trade Organisation rules. That is a second best, not a disaster as some wish to portray it. We would be trading on the same terms as the EU's most successful trading partners USA, Japan, China, Russia etc.

 

Overall Britain will be better off with this second-best arrangement than if we had remained within the EU.

 

  • The MFN tariffs on our goods would average just 4%. Our current net budgetary contribution to the EU is equivalent to a tariff of 7%. Paying 7% to avoid a tariff of 4% defies logic.
  • Sterling's movement against the Euro means our exporters are 15% more competitive than a year ago, dwarfing a 4% tariff.
  • We can compensate (via increased research grants, marketing support and lower taxes) those experiencing the highest tariffs (like our car manufacturers and farmers) using just some of the 12.3 billion Britain would collect in tariffs on imports from the EU; whereas tariffs on our exports to the EU will be only 6.5 billion.
  • Under WTO rules we can remit tariffs on imported components incorporated into exported goods. That reduces the impact of tariffs on complex supply chains.
  • We can negotiate Free Trade Agreements with the rest of the world with whom we do the majority of our trade. The share of our exports going to the EU is falling fast it was 55% at the start of this century, is now 42% and was expected to fall to 30% by 2030 even if we remained in the EU.
  • We will be able to reduce the burden of EU regulation particularly on the 85% of companies who do not export to the EU.
  • We can abolish the high tariffs we will inherit from the EU on food, clothing and other items which we do not produce helping 'just about managing' households. Instead of UK consumers paying high prices to support uncompetitive EU producers we would be importing these products from developing countries: it is hypocritical to give aid to countries then exclude their products from our market.
  • We will save 200 million net per week when our net budgetary contribution ceases. So, each week's delay costs the UK 200 million.

 

 

Services, particularly financial services, form a major part of Britain's exports. Services do not incur tariffs. However, the City was initially worried about the likely loss of 'passporting' rights permitting companies to trade in other EU countries directly or via a branch without setting up a subsidiary.

 

That is helpful but not a necessity. Financial services trade did, does and will take place without passports.

 

  • The City traded extensively with European customers before passports were introduced.
  • Since their introduction our services exports to the EU have grown less rapidly than to the rest of the world.
  • Most UK financial services exports are outside Europe where passports do not exist.

 

 

Passports are mainly needed for retail business whereas most City business is wholesale, delivered at source.

 

An alternative to passports is an agreement on equivalence. But City firms are increasingly worried that if tied in too tightly to EU regulation the City would be at a disadvantage as the US revises its regulations to become more competitive.

 

It will be more beneficial for the UK to regain the right to regulate itself: not to 'deregulate' an unregulated regime would be as bad as an overregulated one. But we need to ensure our regime remains competitive, trusted and flexible avoiding the rigid regulation which stifled the growth of financial centres on the continent. It is no coincidence that the four great financial centres London, New York, Singapore and Hong Kong all developed on the basis of Common Law and related British institutions, in most cases without being part of a captive continental market.

 

 

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