I am reading Kevin O'Rourke's brilliant A
Short History of Brexit. Here are some notes.
Start first with this
very helpful from the excellent Martin Sandbu on thinking about the Brexit
negotiations.
“[Too] many UK politicians still
don’t seem to know what function an economic border has. So let’s break it
down. When goods cross an international border, three things have to be
enforced.
First, the
collection of any import duties or compliance with import quotas.
Second,
compliance with rules of origin, which involve preventing third-country goods
from being camouflaged as the trading partners’ own production (when the latter
are treated more leniently).
Third, the
enforcement of standards, such as food regulations, which must be met for the
products to be legal in the territory they enter. “
Now let’s think of an example, following
O'Rourke. Suppose New Zealand exports
lamb to the UK. Suppose too that UK
wants to trade agricultural products with France, including British lamb. Suppose again that there are different
tariffs, taxes and standards on NZ-UK trade and UK-FR trade.
Now consider the pre-Brentry position. UK traded massively with NZ, ORourke documents that the UK took 90%., 75%
and 86% of NZ butter, cheese and lamb products.
Suppose the UK is deciding what kind of trade agreement to sign with
France.
Now we have to define the seemingly arcane but
what will turn out to be crucial, difference between:
a. A
free trade area:
b. customs
union:
An FTA removes tariffs between FR and UK. BUT, it allows FR and UK to sign different
agreements with NZ. A customs union
removes tariffs between FR and UK but it disallows different agreements with
NZ.
If you had
to put this into a single sentence, this turns out to be the heart of the
problem. Let’s work through the
example to see why.
A FTA takes care of the first problem of tariffs,
by removing them. Job done! But careful.
The devil is in the detail. As
O’Rourke explains (p.54 of my kindle version), France will still have to erect
border checks. Why?
It has to check all the lamb just in case some of
it is from NZ. If that lamb is from NZ, then it’s already paid a tariff, taxes
and undergone inspection appropriate to the UK, but then
a.
it needs to pay an additional tariff relevant to FR and
NZ trade
b.
it needs to pay an additional tax relevant to FR and NZ
trade
c.
it needs an different inspections relevant to FR and NZ
trade
To find the “country of origin” might be easy
with respect to lamb, but it very much harder with more complicated goods like
cars. It might be even harder with, say planes,
which come with a maintenance agreement and so might be counted as a service. At any rate, the FTA will still need within-EU
border checks.
Suppose now that an efficient economy needs
frictionless trade. That might not be
true, but it seems important for, say, aerospace and cars. What are the implications of this?
It’s clear that an FTA won’t do; you have to have
a customs union, with unified tax and standards.
Let’s call that the single market. But it
comes with two very big implications
a. anyone
in a single market will NOT be able to set an independent outside trade
agreement.
b. Anyone
in the single market will NOT be able to have independent standards for goods.
We can now see the implications of these facts
and they are many: O’Rourke discusses them with wonderful clarity. Here are a few.
1. History
The UK was highly reluctant to join the EU
originally because it wanted to keep preferable trade relations with the
Commonwealth. But that cannot be done
with a common external tariff, and you need a common external tariff to have
frictionless trade. This was the UK
issue in the 1950s and seems to be still.
2. Sovereignty
Such a trade agreement will need centralized
admin and planning to decide on harmonized taxes, standards and common external
tariffs. For example, we cannot
negotiate our own trade deals. This
gives away sovereignty to which many might object. Hence Dani Rodrik’s trilemma, referred to in
the Governor’s speech, “As Dani Rodrik (Rodrik, D. (2011). The
globalization paradox: Democracy and the future of the world economy) has
argued, there is a trilemma between economic integration, democracy and
sovereignty. Common rules and standards are required for trade in goods,
services and capital, but those rules cede or, at best pool, sovereignty”. See also here.
Perhaps Brexit, if it succeeds, can help with sorting out this trilemma.
Some more examples of sovereignty sacrifice comes
from preparations for Brexit. For example,
the EU sets out common safety rules on manufactured products e.g. aerospace
products. But the EU does not recognize
UK safety assessment bodies so those goods will need to be reassessed by the
EU-recognized body.
3. What
fraction of our trade really is with the EU?
Once we are in the EU we trade with it AND we
trade with countries via the trade agreements that the EU has signed of which
are therefore part of. The BBC covered this
neatly.
An hour earlier, Sir Martin Donnelly, who was the most senior civil servant
in the Department for International Trade, told the same programme: "If we
leave the Customs Union and the single market then we are taking away the equal
access that we've got to 60% of our trade”
Can they both be right? Johnson is talking only about exports, which
is 43%. Donnely is talking about exports
and imports which are 49%. But he was
also talking about the additional 12% of trade or so through EU preferential
trade deals.
4. Can
we negotiate our own deals outside the EU?
Yes we can, for the reasons set out above, but if
we do note the following
a. Recent
news reports suggest this is harder than we thought: if we leave on the 29th
Japan is not, it says, for example, simply going to roll over our current
EU-based deal but wants to negotiate a new one.
b. Turkey
has a customs union arrangement with the EU (covering some goods). And it is free to negotiate it’s own outside
agreements. However, as the logic above
suggests there are is a very important limits that it has had to agree to: It
cannot offer lower tariffs than the common EU external tariff, restricting its
bargaining power (and it has no say within the EU about that tariff). Why not? As above, it is did, then it needs
inspections as in the NZ lamb case. This
then gives an individual state limited bargaining power. Now, the EU as a whole might be sclerotic and
might not move fast in signing agreements, individual countries might move
faster and so exert their sovereignty.
But, in this example, they would have less leverage.
5. The
Deal
The current Deal on the table is the “Withdrawal
Agreement” (agreeing the divorce bill, EU citizen rights and the Backstop, see
below) and political declaration (a broad statement of future direction and a
transition period of two years (ending in December 2020, unless an extension is
agreed). The broad objective is to try
for trade in goods without restrictions.
But this is not spelt out in detail. In the transition period says the BBC
“current EU laws would continue to apply, but beyond that it's not clear what
tariffs, regulations or checks might be deemed necessary to allow us to trade
in goods or services with EU countries. If no long-term trade deal is agreed
and the so-called "backstop" comes into force, the whole of the UK
would stay in a "single customs territory", meaning no tariffs on
UK-EU trade, but also no freedom to set lower tariffs on trade with other
countries outside the EU”.
6. The
Backstop (see
here for more details)
We can now better understand the Backstop. The Good Friday agreement removed border
checks within the Irish continent. That
can only continue as long as the UK harmonizes in all the above dimensions with
Ireland i.e. the customs union/single market.
This is why the current Deal has in it the Backstop requiring, if there
is no deal on a long-term relation that makes the border unnecessary, inclusion
of the UK into what is called a “single customs territory”. It has to, for the reasons above. And as long as that continues, the UK cannot
sign agreements independently elsewhere, it has to adhere to common VAT,
standards etc. So to avoid a hard
border, the UK has to stay aligned, perhaps obviating much of what Brexiters
want to achieve. And, during the
negotiations, it was conceded that the EU will decide when the UK can exit the
Backstop if it enters it. What can be
done? Technology might solve this in
the future, or a border in the Irish Sea: the latter of which the DUP so far
will not sign up to.
At time of writing, there is rumor of some sort
of softening of the Backstop provisions so that it does not continue
indefinitely if there is no future customs union with the EU or the EU does not
have veto power. This would appear to involve some complicated legal maneuvers.
7. The
EEA, Norway plus etc.
The European Economic Area is an agreement
between the EU and EFTA. Norway, Lichtenstein and Ireland. EEA countries can have access to the single
market as long as they adhere to EU rules and accept free movements of goods,
services, persons, capital. But The EEA
does NOT have frictionless trade, since those countries are not in the customs
union and they have control over some areas, such as taxes, agriculture. As we have seen above, with this control,
they cannot be in the customs union. So
these countries have some freedoms, but do have to adhere to EU rules and pay,
without any votes on those rules. Some
points.
1.
Being in the EEA removes the Backstop problem. But it means having free movement and paying
in.
3.
One area here is that these countries align with the
single market on financial services. But
they cannot shape those rules. The UK is
particularly exposed to financial services.
So what are the pros and cons here?
Lord Hill in the FT, 14th January argues that although there
are some joint EU/EEA committes, in practice the EU has almost zero
consultation with EEA members on financial services and so the UK would be a
rule-taker. This would expose UK
finance. It is also the case that the
EEA can vote not to accept EU rules, but then it would risk losing market
access, the expectation of which for finance, would be potentially ruinous.
Norway plus is a version of
this whereby the UK joins the EEA and signs a new customs union with the
EU. The current plan by some MPs is to
extent Article 50 whilst this new arrangement is negotiated. But, as we have seen that means no signing of
independent trade deals. And no say on
financial arrangements, see above.
8. How
costly are border checks anyway?
What are the gains from frictionless borders? Here some anecdotes are useful. A country outside the customs union who wants
to export will need: registered exporter: declare export classification and
destination to HMRC: prove origin of product; particularly in agriculture and
phama, could be subject to standards checks.
As the Bank Inflation Report says, most of our
goods trade is via Dover, who handle 4.5m trucks. 92% aren’t checked, 8% are, they mostly come
from outside the EU, and those need 30-60 mins.
HMRC estimate an additional 250,000 firms will have to start filling out
customs declarations.
Regarding finance, fragmentation is potentially
very costly in, for example, large exchanges of derivatives, since they are by
nature global and have platform elements.
The book includes something on Honda, that was
covered also by the FT, June 26th, 2018 (Honda faces the real cost
of Brexit in a former Spitfire plant https://www.ft.com/content/8f46b0d4-77b6-11e8-8e67-1e1a0846c475).
“Proud managers describe 2m components “flowing
like water” to the factory line every working day. Some orders from EU
suppliers arrive within five to 24 hours; others, such as customised car seats,
are summoned from local suppliers just 75 minutes before use. Not a minute is
wasted.
Honda now fears that the border checks that could
be introduced as a result of Brexit will clog up the process. If Britain were
to leave the customs union, Honda estimates European parts will take a minimum
of two to three days to reach the plant, and possibly as long as nine days.
Delivery times of finished cars may be just as unpredictable. To a car industry
famed for its clockwork tempo, the potential delays pose an existential
challenge.
A warehouse capable of holding nine days’ worth
of Honda stock would need to be roughly 300,000 sq m — one of the largest
buildings on earth. Its floorspace would be equivalent to 42 football pitches,
almost three times Amazon’s main US distribution centre.”
9. The
dark side of common standards?
As
Dani Rodrik has noted, common standards is an essential feature of trade
deals now (along with a host of other things, like intellectual property
protection etc.). Such standards might differ, quite reasonably, between
countries, e.g. patent length. Thus to
get them harmonized might create trade, but might not be such a good
thing. The recent Dyson case seems a
case in point, as the
Court judgement sets out (
Here are some details (and further commentary here.)
“Since 1 September 2014, all vacuum cleaners sold in the EU have been
subject to energy labelling requirements, the detailed rules of which were fixed
by the Commission in a regulation The energy labelling is aimed, among other
things, at informing consumers of energy efficiency levels and cleaning
performances of vacuum cleaners.”All very reasonable. Now, here’s the key
“The regulation does not provide for testing of
vacuum cleaners with the dust receptacle loaded.”.
That means that test can be carried out with no dust. Well, the point of the Dyson cleaner is that
it cleans better with dust (tradinoal bag-based cleaners lose their suction
with dust build up). According to Dyson,
it’s the German manufacturers who make the traditional cleaners. And they managed to get in the standards,
even though this didn’t help consumers guage the product. The Court found, after 5 years of process,
that an essential element of the directive was to help consumers. So they found“Since the Commission adopted a method for calculating the energy performance of vacuum cleaners based on an empty receptacle, the General Court holds that that method does not comply with the essential elements of the directive.”
