Brexit: impact

and options
Peter Holmes

Overall
All we know for sure is that Brexit would create massive uncertainty with short run consequences likely for pound
and investment arguable longer term effects
Need to know counterfactual if not in EU, what then?
We cannot predict consequences of Brexit esp if we dont what regime it will lead to, eg Norway style deal, just
WTO membership, one-off arrangement? Best guesses (forecasts) are of small GDP loss after Brexit then
Either continuing further dynamic losses
Or recovery and accelerated growth as we go our own way
We will lose influence within EU. We gain some sovereignty if we have perfect trade deal but lose sovereignty if
we have trade deal (like Norway or CH) that requires us to accept all EU rules to get market access
Migration: we will gain more control unless we sign Norway/Swiss deal but migration has economic benefits
Politics and history are at the heart of the choice too

Gains from Trade

Economists believe that trade brings prosperity via specialisation and the principle of comparative advantage:
Does it save the university money to get lecturers to do own proof reading?

Make or buy: a decision for every firm

Gains from trade when in the 1960s French industry reduced output of what it was least good at concentration on
strong products brought fastest growth ever 1957-73

UK car industry failed to specialise in what it was best at during 1960s/70s and faded away

Trade creation Diversion

Non tariff barriers
Certainty of market access within EU via EU law
But we must remember there will be Losers as well as winners: most economists believe free trade may need to
be accompanied by policies to support people who lose their jobs

Channels of impact of Brexit

Short run impact when result announced but nature of new deal unknown

Trade impact when deal with EU (FTA or none just WTO), based on historical data on impact of trade barriers on trade flows

Multiplier impact from trade to level of GDP

Gains from budget saving and deregulation

But regulations have benefits as well as costs

IFS says need to see if growth affected. If slower, could create bigger budgetary losses

Impact on FDI?

Growth effects: will Brexit release new dynamism not visible in past trends?

The debate about the economic impact

Immediate impact
June 24th 2016

Adjustment to new deal

June 2018 (?)

Growth post deal

Remain
Consensus

Immediate shock due to

uncertainty
Investment held back
Pound may fall (BofE)
Financial fears
Outcome depends how big
shock is and policy response.

Fall in trade depending on

whether EEA, EU FTA, or just
WTO terms with EU.
Bigger fall in trade and GDP
with more distant links

Very hard to predict

No reason on basis of past
evidence to suppose faster
growth How much can
regulation alter?
Less migration might slow
growth.

Most Brexit

Not denied but said to be brief Vague on details of FTA vs

and limited. Depreciation would WTO only policy (now
make us competitive
preferred). Trade effects very
small, because new favourable
deals easy to get. Any harm
offset quickly by budget saving.

Deregulation, budget savings

and new global trade
orientation increase growth.
Sovereignty regained worth a
lot per se

The debate about the economic impact

Almost all estimates show a small to
medium sized fall in GDP after Brexit:
Most estimates of lost income are small,
but the risk of bigger losses is large
(Economist April 9)
http://www.economist.com/news/britain/2169
6517-most-estimates-lost-income-are-smallrisk-bigger-losses-large-economic

Treasury estimates big losses from WTO only scenario: more distant
relationship estimated to reduce trade and increase uncertainty more
(Treasury April 18 t h 2016 https://www.gov.uk/government/publications/hm-treasury-analysis-the-long-term-economic-impactof-eu-membership-and-the-alternatives)

Latest calculations suggest 1-% short-term cost to GDP, 3-10% longer term
(NIESR http://ner.sagepub.com/content/236/1/2.full.pdf)

IMF Survey June 17 th estimates

Photo

http://www.imf.org/external/pubs/ft/survey/so/2016/car061716a.htm

Long term: UK relative decline halted around time of EU accession. Cause and
effect?
(http://voxeu.org/article/britain-s-eu-membership-new-insight-economic-history)

What is the counterfactual?

We know what UK position relative to EU would be if we remain
We dont know what trading regime would be if we leave
Major uncertainties if we stay in undoubtedly far more if we leave with terms unknown
Results of simulations must depend on what Brexit scenario modelled.

What are the out scenarios?

Out Models:
Norway EEA - accept all Single market rules but no say in setting them ag excluded but
labour movement included
Switzerland Bilateral Agreements includes labour movement but excludes ag and most
services
EU-Turkey Customs Union: Turkey accepts EU rules and external tariffs
EU-Canada FTA (CETA) still being finalised not single market
Ukraine DCFTA?? shows no deal done till its done!
Or just the WTO?
http://openeurope.org.uk/intelligence/britain-and-the-eu/what-if-there-were-a-brexit/

Sovereignty
Cameron competences review broadly found that UK well suited by current balance of competences
UK has opt-outs on most sensitive issues, Schengen, Euro; vetoes in many areas such as Treaty
changes; but UK gains from majority voting in certain areas where it can influence EU policy, eg on trade.
Brexit would mean UK could in principle take back all sovereignty shared with EU
But it would lose influence on EU policy
And would be required to accept all EU single market rules if it wished to have totally free access to
Single market , including free movement of labour

Regulations: what changes possible?

Little change possible if we join EEA
Open Europe estimates costliest 100 EU regulations, including Working Time Directive cost UK 33bn
pa
http://openeurope.org.uk/intelligence/britain-and-the-eu/top-100-eu-rules-cost-britain-33-3bn/
Government Impact Assessments had estimated that there were 59bn benefits from this package
which Open Europe denies
If in Norway relationship we would not be able to repeal EU Single market rules
FT report says Employers are not pushing for EU labour law to be repealed, despite what both sides
say Sarah OConnor FT April 5th
https://next.ft.com/content/7067d5e0-fa4e-11e5-b3f6-11d5706b613b

Budget
UK estimated to pay about 15bn into EU budget and get about 6bn back (350m pw is falseassumes no Thatcher rebate)
But Norway/ Swiss options also entail contribution
Norway pays 656m to the EU but gets back around 100m in science and research grants,
which makes a per capita net contribution of 107.4. In contrast, Britains net contribution of
around 9bn works out as 139 per capita.
http://openeurope.org.uk/today/blog/what-would-a-norway-style-relationship-with-the-eu-entail/
Swiss a bit less
Hence estimates of economic impact include saving of about 30% of budget cost except for WTO-only
relationship
Treasury estimates that GDP loss would lower tax receipts by more

Most migration not from EU

https://www.ons.gov.uk/peoplepopulationandcommunity/populationandmigration/internatio
nalmigration/bulletins/migrationstatisticsquarterlyreport/february2016

Recent migrants pay more taxes than they draw in benefits and services costs.
But Infrastructure underinvestment may create local problems

Little job market effects of migration. Social issues?

The empirical evidence shows that:
Immigrants and native-born workers are not close substitutes on average. This means that UK-born workers
are, on average, cushioned from rises in supply caused by immigration .
The less skilled are closer substitutes for immigrants than the more highly skilled. So any pressures from
increased competition for jobs is more likely to be found among less skilled workers. But these effects are
small
There is no evidence that EU migrants affect the labour market performance of native-born workers.
Counties that experienced the largest rises in immigrants experienced neither larger nor smaller rises in
native-born unemployment.
Again, there is little evidence of a strong correlation between changes in wages of the UK-born (either all or
just the less skilled) and changes in local area immigrant share over this period.
Jonathan Wadsworth Immigration and the UK Labour Market 2015
http://cep.lse.ac.uk/pubs/download/ea019.pdf

What are the actual mechanics of leaving?

UK is member of EU till withdrawal complete

UK formally notifies EU under Article 50 of its intention to leave then 2 years to negotiate a new deal on UK-EU relations.

The Treaties shall cease to apply to the State in question from the date of entry into force of the withdrawal agreement
or, failing that, two years after the notification referred to in paragraph 2, unless the European Council, in agreement with
the Member State concerned, unanimously decides to extend this period.

Not automatically triggered by referendum but delay may not be up to UK.

By unanimity 2yrs can be extended meanwhile UK in EU.

Huge body of national law will need to be revised esp where UK law reflects EU regulations as opposed to directives

2 years of negotiations with EU to decide what out actually implies in terms of trade relations

EU officials insist 50+ EU FTAs with 3rd countries will need to be renegotiated as they will not apply to UK

https://www.gov.uk/government/uploads/system/uploads/attachment_data/file/503830/54538_EU_Series_No2_Print_ready.pdf

Changing UK law
EU Regulations - directly applicable rules
Need to Renationalise 5,896 full EU regulations and 6,399 technical regulations where laws agreed in
Brussels apply directly with no UK law to implement.

EU Directives - agreements that MS will adopt laws

At least 15 per cent of the UK statute book is based on 978 EU directives and 656 related technical
directives.
FT Feb 29 2016
http://www.ft.com/cms/s/0/a697f642-debd-11e5-b072-006d8d362ba3.html#axzz41ZaE7GSj

In: Camerons deal has little impact

UK currently influences EU policy with opt-outs for least palatable: Euro, Schengen etc

UK exempt from ever closer union but could have vetoed

Member State can refuse in-work welfare payments to migrants here for less than 4 years and limit some benefits to
children abroad . Needs Council of Ministers approval lasts 7 years (200m cost saving? )

If 55% of EU parliaments vote against proposed legislation it will be referred to European Council (PMs & Presidents)
hard to see decisions being taken against this much opposition in first place.

Efforts promised to reduce regulatory burdens

UK wont have to pay for Eurozone bailouts; any financial regulation that may affect non Eurozone countries can be referred
to European Council (PMs & Presidents)

Is it legally binding?

Judges can always interpret

http://eulawanalysis.blogspot.co.uk/2016/02/the-draft-ukeu-renegotiation-deal-is-it.html

Out: what is the alternative?

Camerons deal will not change the future very much, so UK-in-EU after June will look much like
pre-June (a scenario itself subject to uncertainty)
But we need to compare UK in-EU with a counterfactual OUT scenario but what?
What kind of relationship would be possible between a non-member UK and the EU?
What kind of relationship is possible with non-EU countries?
Future is inherently uncertain but range of possible outcomes wider if Brexit hence optimistic
and pessimistic scenarios
Trade deal with the EU vs just membership of WTO?
Remain campaign has to compare imperfect present with unspecified Brexit position

What are the out scenarios?

How can the UK stay in the Single Market without being in the EU

Models:
Norway EEA accept all Single market rules but no say in setting them eg excluded but labour
movement inlcuded
Switzerland Bilateral Agreements includes labour movement but excludes ag and most
services
EU-Turkey Customs Union (long-term disappointed applicant)
EU-Canada FTA (CETA) still being finalised
Ukraine DCFTA?? shows no deal done till its done!
Or just the WTO?
http://openeurope.org.uk/intelligence/britain-and-the-eu/what-if-there-were-a-brexit/

What deal with EU could UK expect after Brexit?

Politics would matter

UK bargaining position weakened because EU will want to deter other exits: would UK trade deficit with EU offset?

UK could probably(?) secure EEA style deal. But not Swiss bilaterals: EU already cooling on Switzerland deal.

Brexiters hope for unspecified special deal

UK would lose all influence over EU rule setting

But UK would have to accept many (most?) EU rules and regulations to secure wholly barrier free entry for its goods and
services, including labour movement

It would see financial service rules in EU set by others

Would the UK be able to sign better agreements (eg. UKTTIP) than the EU?

Wolfgang Schuble warns UK of tough Brexit negotiations

FT April 16 https://next.ft.com/content/4a365a04-03fe-11e6-9b51-0fb5e65703ce

EEA European Economic Area

EEA is a free trade agreement between the EU and Liechtenstein, Norway, and Iceland
ESA and EFTA Court oversee state rules
Requires free movement of goods, services, capital & people with the EU including Schengen
agreement in exchange for access to EU Internal Market.
EEA members must apply all EU economic regulations, including social acquis, (except ag & fish
rules, EMU) with no say in their design
But business or a majority of MPs may try to insist on this

EU-Switzerland Bilateral Agreements

Swiss govt. long wanted to join EU, but voters said no
Swiss want market access and must use EU norms to be able to access EU market with no voice
Bilateral agreements give Swiss free access in exchange for adopting EU rules in own laws
Swiss in Schengen and free movement of Labour
But dont have free access in most services
If Swiss dont implement EU rules, EU can deny Swiss trade benefits and even renounce whole
package
Several agreements but Swiss have to accept all of them
Recent immigration cap vote (not implemented yet) led to EU refusing Swiss access to R&D funds
. Reversal anticipated

EU-Turkey model
Customs Union agreement (excludes agriculture and services)
Turkey must apply all EU external tariffs AND all internal market rules (standards etc) with no say
But both sides can still use (threaten) anti-dumping impossible inside EU
Turkey must try to sign FTAs wherever the EU does
if TTIP signed US will initially get free access to Turkey but not vice versa
Seen as way to improve Turkish regulatory regime
10 years from 1996 CU to full Mutual Recognition of Conformity Assessment

EU-Canada CETA abolishes tariffs and reduces some NTBS

Took 7 years to negotiate! Still not final

Not as comprehensive as EEA eg. no general labour mobility but does include services except for
exclusions under negative list
No general harmonisation of standards. Limited mutual recognition of some regulations and
conformity assessment.
Food safety rules said to be unaffected
Some doubts in Paris and Berlin: especially on ISDS (Investor State Dispute Settlement)
http://trade.ec.europa.eu/doclib/docs/2014/september/tradoc_152806.pdf

EU-UK just under WTO rules

Currently favoured by Vote Leave
No preferences for UK into EU or vice versa: UK could cut its tariffs to zero
Some renegotiation of our WTO status might be needed
EU offers UK market access on same terms as to WTO members who have no free trade deal,
currently EU, US, Japan, China. (And vice versa) NB EU tariffs on cars 10%
UK/EU goods may held up by technical inspections for Conformity Assessment even if compliant
In future EU can adopt regulations that might create non-tariff barriers
EU can use anti-dumping tariffs against UK and vice versa
No access to European Court of Justice if obstacles arise
No free movement of labour

Trade relations with 3 rd countries

UK currently gets preferential market access to many countries (not US, China, Japan) via c. 50 EU
Free Trade Agreements
EU officials say these would not apply to UK after BREXIT and would need 5-10 yrs to renegotiate
BREXITERs say they would still apply, and we could get more and better deals with US, Chinaon our
terms
Or would we have to accept TTIP terms negotiated without UK input?

TTIP and Brexit

Moderate and widespread gains predicted if deep agreement
Why the fuss?
Few high EU-US tariff except cars chemicals and ag
Regulatory approximation could bring big gains
Hard to agree harmonisation of existing rules so consultation process for new regulations
Investor State Dispute Settlement included. Commission acknowledges opposition Germany, EP
and US)
Commission says NHS not affected as critics charge, but this is living agreement and ISDS
unpredictable
Brexiters say both that UK could quickly negotiate a deal and that Brexit would stop TTIP

Conclusion: Extra sovereignty vs market access

Counterfactual hugely speculative: realisation of gains would depend on as yet unknown superior policies being available
and adopted if out

Immediate economic impact may be modest, very probably negative, but there is a high degree of uncertainty

What would be effect on investment?

Indirect impact much bigger but very hard to estimate

How much EU market access would we lose?

What would be the sovereignty gains from Brexit?

Very little if business demands and gets EEA membership

Political implications:

Direct economic impact likely to be negative

Does prospect of sovereignty gains make this worthwhile?

Would Brexit affect our security?

leaving us free?

or creating instability in Europe?

Further Reading
Economist policy brief:
http://www.economist.com/sites/default/files/EconomistBrexitBriefs16.pdf?
force=scn/fb/te/pe/ed/brexitbreifspdf
LSE Centre for Economic Performance
http://www.economist.com/sites/default/files/EconomistBrexitBriefs16.pdf?
force=scn/fb/te/pe/ed/brexitbreifspdf
Martin Wolf video
http://video.ft.com/4943174174001/Wolf-on-Brexits-economic-shocks/editorschoice
http://video.fhttp://video.ft.com/4943174174001/Wolf-on-Brexits-economic-shocks/editorschoicet.co
m/4943174174001/Wolf-on-Brexits-economic-shocks/Comment
Patrick Minfords site
http://www.euro-know.org/europages/whatsnew.html