As the Article 50 starts to take shape, the question facing negotiators is who has the stronger position. The question has been addressed by select committees. Let’s take a practical look.
At the same time that debate is in progress, sundry parliamentary select committees are hearing evidence from different sectors. Key among them is Mike Hawes of the Society of Motor Manufacturers and Traders (SMMT). His lobbying has included hearings by two select committees during January alone.
Among Mike Hawes’ assertions are that Britain has a weak negotiating position. The basis for this is a much used argument by the Remain side during the referendum campaign. In short, 43% of Britain’s exports are to the EU. In return, Britain accounts for 7% of EU imports. This argument has been oft repeated, notably this week in the House of Lords debate.
The EU parliament’s Brexit negotiator, Guy Verhofstadt, has insisted that it is an “illusion” to think Britain could enjoy the economic benefits of the single market without accepting EU budget contributions and “free movement”.
He has also asserted that the EU will not accept any Brexit deal that will leave Britain better off than it was as a full member of the bloc because that could encourage others to follow the country out of the exit door.
EU Commission chief negotiator, Michel Barnier, has also suggested that no progress will be made until a “divorce settlement” is reached, something in the order of £50 billion. Leading EU politicians from the power base of Germany and France have insisted that there will be no deal on access to the SEM without free movement of labour.
Behind them, at least ostensibly, there are 27 nations and a Single European Market of 440 million people. Lined up against a solitary nation of 65 million, one might assume a position of strength for the EU.
That strength might also be a weakness, in that the leading powers that provide the bulk of EU funding have to agree to the same deal as the rest. That includes the South European countries undergoing austerity, the agricultural economies and those East European countries with pools of migrating labour.
Theresa May has outlined a British position. Evolving from her “Brexit means Brexit” slogan, we now know her 12 point plan. We have also heard her assertion that no deal is better than a bad deal for Britain.
By asserting that Britain does not aim to be a member of the SEM, at a stroke she might have appeared to eliminated the EU’s strongest weapon. In real terms, how potent is this?
There is a beautiful simplicity to the British approach. We seek to cooperate with EU members where that is to mutual benefit. We seek to retain our sovereignty, including freedom to protect our borders, manage our own affairs and break free from the ECJ.
Britain would like a free trade deal with our friends. If they don’t want to share the same benefits, we have other friends who do.
Access to the SEM
It is worth pondering what exactly is meant by Single European Market (SEM). It is in fact an arrangement that puts up barriers to those from outside, effectively a protectionist zone that imposes tariffs on cheaper goods from outside.
The SEM will continue to be a collection of 27 countries using 24 languages. Of those countries, 14 use the Euro as a currency, the rest are working towards meeting the criteria for that currency.
The members diverge in many ways; the proportion of their economies involved in different industries, religious diversity, income, wealth and other demographic factors.
Much has been made of the need for the UK to secure access to EU services markets, not least financial services. This can be done by “passporting”, i.e. mutual recognition of regulatory frameworks.
In evidence given to Select Committees, David Davis has identified that the UK has 5,000 passports into the EU. The EU in return has 8,000 passports in the UK.
There are two key points to make about access to the SEM:
1. To be a member, we have to discriminate against those outside the SEM, i.e. the rest of the world, which accounts for 57% of British exports under WTO rules.
2. Membership of the SEM gives those other 27 countries access to the British market where the majority of countries have a trade surplus with us. They need us more than we need them.
Putting into perspective
Some other perspectives might be helpful. Instead of looking solely at exports, a more holistic picture can be seen from the balance of trade:
Overall, Britain operates a trade deficit with the EU. The largest part of that is with Germany, a country that has dominated European markets. This has been significantly helped by monetary union, the value of the Euro being held down by countries with different structures to their economies. This is estimated to give Germany a currency undervaluation, therefore competitive advantage of 15-25% according to the IMF.
Other countries have significant trade surpluses with the UK, notably Spain and France but let us for a moment use Germany as an example to focus the mind. It also helps to realise that Germany is the largest net contributor to EU budgets.
Germany’s car exports account for 12% of their total exports. Roughly 20% of those exports come to Britain. A significant proportion of those components are sourced from former East European countries. Germany and its neighbouring suppliers need to maintain access to the British customer.
No deal is better than a bad deal?
The default position, if no trade deal is concluded, is a reversion to WTO rules. Yes, that means that British produced cars may have tariffs applied when sold into Germany, at a rate of around 10%. That also means tariffs can be imposed on German cars coming into the UK, making them less competitive.
Theresa May also highlighted amongst her 12 point plan that free of the SEM, Britain is free to negotiate bilateral free trade deals around the world. Suddenly, cars built in the USA could gain a price advantage of 10% over those constructed in Germany.
Similar arguments can be applied to other EU trading partners and other industries. Consumers will note the range of agricultural products on supermarket shelves, from a heavily subsidised, labour intensive industry within the EU and with punitive tariffs on the rest of the world.
Red wines from Chile, Australia, the USA and others would have price advantages against those from France, Spain and Italy. The importance of the UK market to EU members, notably those who are net budget contributors, should not be understated.
To add to perspective, yes, the EU may account for 43% of British exports. That means the rest of the world accounts for 57%, under WTO rules. By exports, the USA is the biggest market for UK goods, Germany 2nd, Switzerland 3rd and China 4th. By surplus, Switzerland tops the ranking, followed by USA, UAE and Hong Kong.
In short, despite being the absence of a deal with a protectionist EU, Britain is afforded scope to profit from larger markets globally, both in lower costs of imports and freedom to sell into global markets.
Who wins with no deal?
On a political level, Britain gains democratic accountability. On a trade level, Britain regains the ability to deal with a world that has liberalised considerably over the last 45 years.
On what should theoretically be the mid point of the 2 years article 50 negotiations, in April 2018, the Commonwealth games will be held in Australia, a group of friendly nations accounting for 1/3rd of the world’s population, over 5 times more than the rump of the EU. This could be a timely reminder of the opportunities in countries which have a shared history with Britain.
Britain gains freedom to manage her own affairs, gains from reducing the net budget contribution, gains control over migration, gains from free trade with the growing economies of the rest of the world.
The EU would lose the net contribution, potentially face reciprocal tariffs with one of the biggest export markets for almost every one of the 27 remaining nations.
A corporate view
With much having been made of the car market during debate in Brexit, no apologies are made for staying with this example. Some further analysis shows that Germany is the biggest car market in the EU.
The top non-German brand sold in Germany is the 8th most popular model, the Skoda Octavia which is in fact German owned. The top non-German owned brand is the Ford Focus coming in at 14th. The Focus is also built in Germany.
To once again add perspective, in 2016 the Focus accounted for sales of 47,990 in Germany. There were 70,545 sold in the UK. In order to overcome a loss in demand, it might make sense for companies like Ford to avoid tariffs by investing in relocating assembly back to the UK, at least partially.
The relocation of investment argument might even be accentuated if, as suggested by Chancellor of the Exchequer, Philip Hammond, were to follow through his suggestion of reducing corporation tax. Adding value in a low tax economy as compared to the EU would encourage profit to be taken here.
Another angle is those German car makers with plants in other countries that could supply the UK market should trade deals be struck with, for example, Brazil or South Africa. We can always buy our Mercedes and BMWs from those countries. Better still, Jaguar would have a price advantage, more so if using British steel.
The EU institutions come from a perspective of self preservation, that of the bureaucracy that thrives on increased control. Member nations of the EU are diverse, with needs that vary. It is in the institutions’ interests to delay as long as possible, ensuring maintained net contribution from the UK.
Central to that self preservation is Germany whose industrial markets are artificially protected to sustain an economic engine for EU survival. The buffer states surrounding Germany depend on the net contributions from the bigger member nations to provide what growth exists in the EU markets. The Southern member states suffer with austerity.
Britain has much to gain from freeing itself from undemocratic bureaucracy. She has the opportunity to return to her national characteristics, based on a maritime history with global trade. We do not seek to protect ourselves from the world, rather embrace it with our friends who share a common language and/or a common history.
Whatever position the EU currently takes can soon change. Frau Merkel faces an election this year, as do the leaders in net contributing countries, France and the Netherlands. As well as negotiating with Britain, the EU has to negotiate with 27 member states, some of who will be asked for greater contributions, others who will be asked to accept less.
EU members need access to British markets to maintain a semblance of growth rather than recession. For Britain, the rest of the world once more provides opportunity. If the EU institutions seek to make Britain suffer, it is EU member states who will suffer, from decline in industrial and agricultural sales to a significant trading partner.
As Theresa May says, “no deal is better than a bad deal for Britain”. No deal would be a bad deal for EU member states. The British market is vital for the EU as a whole to maintain growth. At least one side will need to compromise. The EU has to recognise that its 27 member states will lose more by seeking to put up its own barriers to the British customer.
No deal for Britain would ensure no further contributions, would provide certainty in markets and start the march to trading with a growing world. It is up to the EU to decide whether they wish to adopt the philosophy of lemmings or to cooperate with an innovative country that has a global reach.