Brexit: Digging In

Had Donald Trump managed the difficult task of having a bad effect on the already not well reputed Boris Johnson? The Tories’ posture toward Brexit says that could be the case.

Specifically, inebriated by the close-at-hand formal Brexit date of January 31, Johnson and more recently his Chancellor Sajid Javid have taken to making aggressive statements about the timing and content of a trade deal with the EU. This might normally be taken as posturing but the positions are so extreme as to be clearly delusional. As we’ll discuss, Javid staked out a very hard Brexit position last Friday and told UK businesses to pound sand. EU sources also reacted as if they didn’t see this coming.

One of the thing Johnson had been famous for, prior to his successful go for No. 10, is not sticking to his positions. But that changed as Johnson hitched his No. 10 star to Brexit. Admittedly, Johnson gave his “rather die in a ditch” blather about leaving on October 31, and then quietly swallowed an extension, He has been adamant that the UK is leaving the EU at the end of 2020, renouncing the option of taking a one or two year extension, to the degree that EU officials, who earlier saw this as more bluster, now accept that deadline as a planning assumption. Mind you, Johnson has taken that stance even though the best he could achieve in that time period is a very bare bones trade deal, and no services deal. And even that is unlikely; both Michel Barnier and Ursula von der Leyen have warned that it isn’t possible to come to terms on all areas in 11 months and the EU will set its priorities.

Johnson also acts as if getting a trade deal with the US would be some sort of masterstroke. In reality, as regular readers no doubt recognize, the US can do trade deals quickly because it dictates terms, meaning any agreement would be skewed to the UK’s disadvantage, and probably even more so due to US negotiators exploiting both political and timing pressures on the UK end to stitch something up. And as Chris Grey pointed out:

The geographic closeness of the EU and the volume of UK trade that results from that, as well as from decades of EU membership, makes a EU trade deal massively more important than any Free Trade Agreement with the US could ever be.

More pointedly, I can see the US wanting to sell more agricultural goods to the UK. No way will the US want to buy more auto or aircraft parts from the UK. Ditto financial services.

Brexit hasn’t been going well for the UK so far, although you’d never know that from the chest-thumping of the pro-Tory press.

UK Taking a Real Hit from Brexit Uncertainty

A Bloomberg analysis finds the UK economy will have taken a 3% hit due to Brexit:

Research by Bloomberg Economics estimates that the economic cost of Brexit has already hit 130 billion pounds ($170 billion), with a further 70 billion pounds set to be added by the end of this year. That’s based on the damage caused by the U.K. untethering from its Group of Seven peers over the past three years.

While growth globally has also cooled in recent years, the analysis by Bloomberg Economics shows the U.K. has still lagged. There is a strong historic correlation between the U.K. and G-7 countries. But they have been diverging since the vote to leave the EU, with the British economy now 3% smaller than it could have been had the relationship been maintained…

“Looking beyond 2020, we forecast the growth spurt in this year will be a one off — the economy will get a shot in the arm, but the cyclical lift that provides won’t last,” he [Dan Hanson] said. “As the U.K. comes to terms with its new trading relationship with the EU and grapples with the productivity challenge that has hindered growth since the financial crisis, the annual cost of Brexit is likely to keep increasing.”

Business Insider cheekily pointed out that this hit is on its way to exceed total EU dues paid by the UK:

Figures from the House of Commons Library put the UK’s total projected contribution to the EU budget from 1973 to 2020 at £215 billion after adjusting for inflation.

Javid to UK Business: Drop Dead

In an interview with the Financial Times last Friday, Javid took an aggressive form of the position that the UK would not be a rule-taker. Erm, this is tantamount to putting a gun to the head of the UK’s export sectors, since other countries won’t let in non-complaint goods. This will also subject UK businesses that enjoyed frictionless trade with the EU to facing the significant non-tariff trade barrier of new compliance and documentation requirements.

Mind you, degradation of the trading relationship with the EU was inevitable given that the UK rejected the administrative architecture that went with being in the single market, most importantly, accepting the jurisdiction of the ECJ. But even so, the Javid position caught many on the back foot.

First, from the Friday chat:

In an interview with the Financial Times, Mr Javid quashed any prospect of the Treasury lending its support to big manufacturing sectors — which include cars, aerospace, pharmaceuticals, and food and drink — that favour alignment with EU regulations.

“There will not be alignment, we will not be a ruletaker, we will not be in the single market and we will not be in the customs union — and we will do this by the end of the year,” Mr Javid said, urging companies to “adjust” to the new reality.

This may have been intended as a rebuke to van der Leyen’s mention that a quota-free, tariff-free relationship would be operative only if the UK adhered to EU rules. Nevertheless, UK corporations didn’t react well. From a Saturday Financial Times piece:

Britain’s car and aerospace industries have led criticism of government plans to split from European regulations after Brexit, warning it will cost “billions” of pounds and damage “UK manufacturing and consumer choice”.

The Society of Motor Manufacturers and Traders issued a statement after Sajid Javid, the chancellor, told the Financial Times that there would “not be alignment” with EU rules after Britain left the bloc, and that companies would have to “adjust”.

Carmakers at present are able to sell cars across the EU and the UK under one certificate.

The process, called homologation, involves expensive procedures such as engineering the vehicles to meet emissions standards. Costly crash tests are also required to meet the regulations.

If Britain abandons EU standards and sets its own rules, companies wanting to sell vehicles in the UK are likely to need to obtain a separate certificate to do so, increasing their costs of making vehicles specifically for the British market.

While Europe’s car market is 15m a year, Britain’s market is much smaller at 2.3m, a figure that last year dropped to a six-year low.

A senior aerospace industry source described Mr Javid’s position as unhelpful….

“We do need alignment, particularly around the European Union Aviation Safety Agency. And with Reach – the chemicals regulations. We are no different from the automotive industry in that regard. We are looking for alignment on both.”

Even fishing communities that voted for Brexit are now bleating for EU alignment:

Not only are fisheries important in and of themselves, but they are also set to be one of the first area to be settled. And the EU is taking a hard line: the UK needs to stick with current arrangements to get anywhere on other topics.

EU officials were also gobsmacked. From a Financial Times story today:

European diplomats and trade experts spent the weekend trying to make sense of comments made by Sajid Javid, UK chancellor, in an interview with the Financial Times on Friday. He urged businesses to “adjust” to a future where Britain no longer adhered to EU rules and regulations….

“In the end it is all rather simple: If Britain wants to diverge from EU rules, it will diverge,” the diplomat said. “Such an approach would obviously lead to new trade hurdles between Britain and the EU and in consequence less trade, less investments, less jobs.”..

The British finance minister’s comments….represent a shift in the UK negotiating stance. Under the political declaration signed in October as part of the so-called withdrawal agreement, the UK and EU27 agreed to uphold “the common high standards” currently applicable on both sides in the areas of state aid, competition, social and employment standards, environment, climate change and tax…

Regulatory divergence by the UK could also leave its crucial financial services vulnerable. Mr Javid said he sought trade with the EU on the basis of outcome-based equivalence of rules. The problem with this is that access can be withdrawn unilaterally by the EU if UK regulation strays too far from its standards.

The bloc’s approach to financial services will be based on its own independent “equivalence decision, not negotiation,” one EU official pointed out. The established process is that the EU decides if a country’s rules and su

You’ll notice this is a big change from the forecast by very-plugged-in Terry Connelley of RTE, who only a week ago, was anticipating a Switzerland-type deal of many bi-lateral mini-pacts. We were skeptical. Not only had the EU rejected that idea, and Barnier had signaled he wanted the negotiations to focus first on “capabilities,” meaning high-level mechanisms, and not sector by sector wrangling, but the Switzerland arrangement had evolved over time. And most important, Switzerland was part of the single market by virtue, among other things, of accepting the jurisdiction of the ECJ. It would be much harder to reach sector-level agreements in the absence of agreeing to EU rules and oversight. Recall that Sir Ivan Rogers has repeatedly warned that no trade agreement has even been made between countries seeking to become more distant, and he believed that would make the negotiations more difficult.

Moroever, Brexit ideology continues to trump national interest. It’s as if cleansing the UK of evil Continental influences will enable the UK to take a great leap forward. In fact, an isolated UK will be weaker and poorer than it was with its privileged position in the EU, where it exercised influence on rules out of proportion to its size. As Chris Grey explained:

In short, different kinds of Brexiter share a fundamental misunderstanding of the nature of the contemporary economic world. The globalists don’t understand that globalization has taken the form of a series of regionalizations. There’s no realistic way of being global without also being regional. The nationalists don’t understand that nationalism has been embedded within regionalism. There’s no realistic way of being national without also being regional.

It’s no good Brexiters saying ‘but Britain managed perfectly well before’: even if that were true, which is highly questionable, Brexit isn’t a time machine. The world that existed in 1973 has disappeared. In this sense, Brexit represents a profound strategic error for the British economy: if the most basic feature of a national (like an organizational) strategy is its fit with the realities of its environment then Brexit is certain to have a poor outcome because it is incompatible with the realities of regionalization.

In his latest posts, Richard North described how the EU has taken this principle even further by helping form or boost international standard-setters, in which it plays an influential role:

…what seems to escape the current breed of Tory trade zealots is the simple premise that trading in the world – i.e., buying and selling from foreign countries – does not necessarily qualify a nation as a major league global player. In the current environment, that would require a commitment to the much wider concept of globalisation, with serious engagement in the processes of integrating global trade systems….

Yesterday, I gave the example of UNECE and WP.29 in the formulation of standards for motor vehicles and parts, where the EU now works on a multinational basis with global trading partners to develop standards with global application….

No better example of this can be seen than in response to the VW emissions scandal, where vehicle emission tests were “massaged” to give far better results than could be achieved in practice. Now, we have UNECE working on global methodology to measure on-road car emissions, a process where:

The European Union, Japan and Korea are leading the development of the regulatory text that would lead to the establishment of a United Nations Global Technical Regulation on real driving emissions testing, which is expected to be adopted by 2020. The United States of America, Canada, India and China have also showed support to the initiative and are expected to participate in the development of the regulatory provisions, in a process which is transparent, data-driven and open to inputs from all parties involved.

In what is a fascinating development, we find the European Union, Japan and Korea working in partnership under the aegis of a UN body which will, in time, form the basis of EU law, but also extend to Japan and Korea through the EU’s comprehensive trade agreements.

But this is by no means the full extent of process where the EU has “bumped up” its standard-setting to another level. From the sublime to the ridiculous, the EU’s marketing standards for fruit and vegetables are now drafted by UNECE which works with the OECD in Paris to produce detailed codes.

By contrast, as North points out, the Brexit boosters are operating from a model of trade that is two centuries out of date.

Needless to say, some are predicting that the EU will find a way to muddle through, since it does seem to be particularly good at that.

But Sir Ivan warned long before the Javid remarks that the two sides were so far apart that negotiations could break down. And it isn’t clear to me how the UK would sign on to what amounted to a partial extension of the transition period. The EU would not break the single market for that, which means the UK would have to accept EU rules and ECJ decisions, or at the very least, ECJ precedents. I can’t see Brexiters swallowing that. It would represent a massive climbdown for the Tories.

At a bare minimum, once the negotiations really get going, it looks as if it will be a wild ride. Be prepared.

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