Global Trade: Navigating Disruption

UK trade policy faces up to Brexit turbulence in 2018

In the United Kingdom, trade is readily on the lips of politicians, press and the public like never before. The reason is Brexit, and with 18 months to go before the country is expected formally to leave the European Union, the public debate over the country’s future trading arrangements with Europe and the rest of the world is intensifying. After gambling on a snap election in June 2017, Prime Minister Theresa May has seen her ‘wiggle room’ severely diminish. She lost the Conservative Party’s majority in the lower House of Commons, and can only win votes there with the support of Northern Ireland’s socially conservative party and the protestant Democratic Unionist Party.

Crucially, too, she must retain the confidence of the ‘Brexiteers’ in her party, the fervently anti-EU band of MPs represented in her Cabinet by Foreign Secretary Boris Johnson, Brexit Secretary David Davis and International Trade Secretary Liam Fox. Ironically, the two most powerful people in government, in theory at least, the Prime Minister herself and Chancellor of the Exchequer, Philip Hammond, campaigned to remain in the EU, and there is a lurking suspicion that they will conspire to dilute any Brexit deal. Progress in the Brexit talks between the UK and the EU has been painfully slow. The EU has insisted that three key issues related to the UK’s departure — the ‘divorce bill’ payable on exit by the UK, the rights of 2.9 million EU citizens residing in the UK, and the land-border between Northern Ireland (UK) and the Republic of Ireland (EU)—must be resolved before talks can proceed to the substantive issue of a future trade deal between the UK and the EU. Brexit Secretary David Davis agreed to this sequence in the first round of negotiations following the June elections. There is the additional hurdle ahead that any agreement between the UK and the bloc will need approval from the European Parliament, with its broad range of political factions and interests. All in all, this has led to the increasingly gloomy speculation that the UK will ‘crash out’ of the EU in March 2019, which would require it to fend for itself as a WTO member and apply rules to treat all trading partners as equals on tariff and non-tariff matters.

There are now two polarities in the debate over how the UK’s Brexit story will end. The Eurosceptic right is taking a pointedly relaxed attitude to a no-deal exit from the EU, arguing that the UK is a big enough economy—fifth largest in the world—to stand on its own two feet and trade its way through Brexit, while falling back on the WTO as a global framework. On the other side—a side that includes pretty much every sector of the economy and, most recently, all six leading business organisations in the UK— are calls for a pragmatic two-year (or longer) transition period to Britain’s new status as a trading partner with the EU and the broader world. The latter scenario would be founded upon a wide-ranging, multi-chapter free trade agreement between the UK and the EU, reflecting the fact that equivalent standards across all primary economic sectors is the starting point for both sides.

MAIN ISSUES RELEVANT TO INTERNATIONAL TRADE

  1. Membership in the EU has afforded the UK a two-generation period in which tariff and non-tariff barriers have not existed for 44% of imports and 53% of exports. The effect of the EU Single Market and Customs Union is significant because it provides ready and simple mutual market access. However, this does not mean that the country is unfamiliar with the realities of existing in a global trade environment. The UK has also relied on the EU’s capacity to negotiate third-country deals for the benefit of the entire 28-strong membership of the bloc; deals which, as it currently stands, the UK will cease to have access to as of spring 2019.
  2. In a ‘crash-out’ Brexit scenario, the UK will be required to fall back on the Most Favoured Nation (‘MFN’) principle, which would apply to the country’s WTO-governed trade arrangements. In plain terms, this means that the best trade deal offered to any one country would need to be offered to all countries, in order to maintain equal conditions of market access. In some sectors, this principle would have profound consequences for competitiveness of UK-produced goods.
  3. One consequence of EU membership has been the UK’s ability to integrate supply chains across 28 European markets. The most palpable expression of this came in the multi-country Eurofighter Typhoon and Airbus aerospace projects. But there is much more significant supply chain integration across a wide range of sectors, among second and third tier suppliers, which have taken advantage of frictionless trade to enable applying ‘just-in-time’ principles across the bloc. The UK’s future role in supply chain environments will need to be carefully re-thought, and fast. This is especially true since the preferential Rules of Origin, which are used to determine where a product comes from and whether it can benefit from any agreed preferential tariffs, will likely change for a post-Brexit UK.
  4. The UK’s cultural, linguistic and legal heritage has enabled it to exert the value of the British brand and its associated soft power against the backdrop of a fluid 28-country trading bloc with which the rest of the world has naturally prioritised engagement. The future value of these non-monetary assets will be sorely tested whatever the outcome of the Brexit talks. For some sectors and large corporates, the rupture with the EU will be simply too much to stomach. For others, the link and location will merit retention, though in what form remains to be seen.

KEY PLAYERS TO WATCH

While not self-sufficient in food by any measure, the UK has a proud farming tradition and a sophisticated foodmanufacturing and retail sectors. Production is closely associated with the character of the landscape and regional self-worth. Niche products like Scotch whisky and Welsh lamb have global appeal. Retailers like Marks & Spencer and Tesco continue to drive innovation in their sphere. However, there is concern that food and agriculture could become exposed to global markets, with food prices driven up by currency, commodity and tariff impacts.

The City of London’s financial services sector—despite the scandals and the crash—is a significant jewel in the UK’s economic crown. Paris, Frankfurt and Dublin, among others, are moving quickly to try to prise key functions and institutions away from London. Some global sectors, such as insurance, and niche services in legal, financial and professional segments, will continue to exert their worth, while others are already falling away. There is a future, but it will be a different, and not so universal one, for the Square Mile.

The UK is also home to a significant automotive sector, with leading Japanese manufacturers Nissan, Toyota and Honda repeatedly committing investment to Sunderland, Derby and Swindon over the years, alongside BMW and Jaguar Land Rover. Last year, 1.7 million cars were built in the UK, and the sector employed 814,000 people. All this activity relies on ‘just-in-time’ supply chains and free access to the EU market. While existing investments appear secure in the immediate term, the future location of key manufacturing sites for the next generation of electric vehicles will be a key indicator of whether the UK can weather the Brexit storm. The UK car industry is pushing for the softest possible Brexit deal to support this critical industry.

CULTURE OF ENGAGEMENT

British political culture is open at official and political level. While networks do undoubtedly exist, and the off-the-record briefing plays a healthy role, there is almost no corruption and no material restriction on access to key actors. If anything, the current UK government’s slender grip on power has made it more open than ever to learn what interlocutors have to say. Whether it is able to act on those representations to any great effect is another matter.

This piece is part of a global report looking at the impact of trade policy on business. You can view the full report here.