Mitigating the Economic Disaster that is Brexit

As the United Kingdom (UK) is due to leave the European Union (EU) on March 29, 2019, the rejection of Prime Minister Theresa May’s withdrawal agreement by both the EU and British Parliament has sent Members of Parliament (MPs) scrambling to find a compromise that would minimize damage to the UK economy.

 

On January 15, the British cabinet rejected May’s Brexit deal by an overwhelming 432 to 202, and Labour Party Leader Jeremy Corbyn tabled a vote of “no confidence” shortly after. With MPs of the Labour Party preferring a “soft exit,” where the UK maintains close ties with the EU, and MPs of the Conservative Party preferring a “hard exit,” where the UK breaks away completely from the EU, attempts to draft a replacement resolution are gridlocked. With deadlines drawing nearer and the EU staunch on its position to not compromise the four freedoms of the single market—freedoms of movement of goods, services, people and capital—a no-deal Brexit is a possibility, according to U.K. International Trade Secretary Liam Fox.

 

A no-deal Brexit would strip Britain of all the benefits EU member states enjoy by being in the single market and the customs union and will subject the UK to the World Trade Organization’s rules. Trade between the EU and the UK would no longer be frictionless as tariffs, custom checks and non-tariff barriers are imposed. In such a scenario, the UK could lose $107 billion and face a four percent decline in GDP by 2029, according to the RAND corporation. The UK government forecasts the economy to be 5-10.3 percent smaller in 15 years with a no-deal Brexit while the Bank of England estimates that the value of the British pound could slump by as much as 25 percent. Such is, ultimately, the worst possible scenario.

 

With the uncertainty surrounding Brexit, firms in the UK have taken proactive measures to minimize financial loss. According to ForeignPolicy.com, US banks including JP Morgan, Citigroup and Goldman Sachs have reportedly shifted billions in assets to Germany. Credit Suisse will likely move 250 investment bankers to Germany, Madrid and other EU nations including Luxembourg in the event of a no-deal Brexit. Both Sony and Panasonic intend to move their European headquarters to Amsterdam while British firms remaining in the UK have begun to stockpile supplies in preparation for a no-deal Brexit. According to Honda, tariffs could push up the cost of a UK manufactured automobile by as much as 10 percent.

 

The difficulty in drafting a proposal that satisfies all parties is that both the labour and the conservative MPs seek a withdrawal plan on either extremes—the tories opt for a “hard exit” and the labour party pursues a “soft exit,” while those in between scramble to find common ground.  If a “hard exit” or a no-deal Brexit becomes a reality, the economic damage to the UK economy will be great. Therefore, minimizing the economic damage of Brexit must be a priority for the British Parliament, which requires cross-party cooperation and compromise.

 

The EU favors a scenario similar to the one in place with Canada. In this Brexit, the UK would not participate in the single market through the European Economic Area (EEA) nor the customs union, but would draft a free trade agreement (FTA) with the EU. According to the leaked Whitehall briefing drafted by the Department for Exiting the European Union (DExEU) in January 2018, the UK government predicts that if the UK adopts an average-FTA scenario, the cumulative percent change in GDP would range from -3.1 percent to -6.6 percent. Similar assessments have been made by Her Majesty’s Treasury, which predicts the change in GDP to range between -4.6 and -7.8 percent. The Whitehall Briefing finds an FTA-type agreement to likely cause a five percent decline in sectoral gross valued added (GVA) relative to a “Bremain” situation. Though the economic damage of this scenario is not as great as one where no deal is made, it is still too damaging to be a viable option for the UK to consider.

 

Many MPs find the Canada model to be too “hard” and its economic effects too great. A more “soft” Brexit would see the UK rejoin the European Free Trade Association (EFTA) and participate in the EEA but not the customs union. In this scenario, high customs non-tariff barriers would be put into place, but there would be no tariffs and low “behind and at border non-tariff barriers” on goods traded with the EU. According to the Whitehall Briefing, the country conducts 44 percent of its trade with the EU on average. Consequently, having few barriers to trade is vital for the British economy. The UK will also be exempted from the EU Common Fisheries Policy, which has been a major point of contention, thus satisfying many Brexiteers. However, this exemption would allow for relative labor mobility.

 

In terms of economic impact, an EEA-type scenario will see far less economic damage when compared to an FTA-type scenario as, according to the Whitehall briefing, the cumulative percent change in GDP is predicted to range from -0.6 and -2.6 percent, while HM Treasury predicts it to range from -3.4 and -4.3 percent. The Whitehall briefing also finds the GVA to decline by only 1.5 percent in an EEA scenario. Even then, the UK must seek as many FTAs as possible, with the most important being with the US, which makes up 15 percent of UK trade. Such a scenario would see the impact of Brexit minimized.

 

The greatest challenge in adopting a Norway-style relationship with the EU is the opposition from May, who has already stated her intentions not to remain in the EEA. Other EEA member states, which may be opposed to the UK enjoying the benefits of no-tariffs while maintaining relative autonomy apart from the EU, may also voice their disapproval.

 

Yet, for the UK to emerge from Brexit relatively unscathed, Parliament must seek cross-party cooperation to adopt an EEA-type withdrawal agreement. If not, the UK will face massive inflation, then recession, that could, according to the Bank of England, be worse than the 2008 financial crisis.