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Brexit Myths no.2 The OBR and Trade

UK has the lowest trade intensity in the G7
Written by Catherine McBride

In the second in our series rebutting the worst Brexit myths, we review the OBR’s obsession with Indexed Trade Intensity, rather than actual trade. We can only wonder why the OBR has made this ambiguous and volatile statistic central to its anti-Brexit argument.

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Myth #2: The UK has the lowest trade intensity in the G7

It is very hard to pin down the source of this misunderstood myth. It is also hard to understand why trade intensity, sometimes called trade openness, has become a fashionable way to measure the results of Brexit, when it is an ambiguous measure of economic performance and tells us nothing about actual trade.

The source appears to be a small graph in an OBR report from March 2022, entitled: The latest evidence on the impact of Brexit on UK trade. However, the graph does not show the actual UK and G7 trade intensity, despite its title, it shows the change in their trade intensities relative to 2019. It is easy to miss the words 2019 = 100 on the side of the Graph. Politicians unused to reading the fine print on graphs may not have noticed this before denouncing what they thought they were seeing – UK trade flatlining.

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However, they shouldn’t have panicked as this graph is somewhat dubious as we shall see below. While the propaganda technique of shading the other countries’ indexed trade intensity disguises this statistic’s volatility. Japan, for example, was at the bottom of this range in 2020 but at the top in 2022.

If we were to look at actual trade intensity, rather than indexed trade intensity, (see the graph below), we immediately see that the UK’s trade intensity is not even close to being the lowest in the G7. It is in the middle of the G7, alongside France, Italy and Canada, and well above the US and Japan and well below Germany. UK trade intensity did fall in 2020 but so did the trade intensity of every other G7 country. However, even if the UK did have the lowest trade intensity in the G7, that wouldn’t necessarily be a bad thing. Certainly, this status doesn’t seem to be upsetting the US.

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Interestingly, if we use the World Bank’s data to try to reproduce the OBR’s March 2022 indexed trade intensity graph, we get a completely different result. The graph below shows the trade intensities of the UK and other G7 countries indexed on 2019. It is nothing like the OBR’s dramatic graph.

Admittedly, the UK’s trade intensity indexed on 2019 was the lowest in the G7 in 2021, but in 2020 it was above France, Japan, and the US and in 2022 it was above both the US and Canada. So, the OBR’s 2022 graph should have shown the UK inside the G7 shadowed area range for most of the period, and only slightly below it in 2021.

According to the World Bank’s data, UK trade intensity indexed on 2019, only dropped below 90 in 2015 – before the Brexit referendum and not in 2020 or 2021. Yet the OBR’s 2022 graph shows it as falling below 90 in the 3rd quarter of 2020 and remaining below 90 for all quarters of 2021.

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So why did the OBR publish the spurious Graph below in March 2022 and start all of the hand-wringing about Trade Intensity? It is hard to reconcile it with the World Bank graph above. Did the OBR only use UK Goods Exports as a proportion of GDP, leaving out half of the UK’s exports – services, as well as all of our imports?

OBR’s March 2022 Graph of UK Indexed Trade Intensity

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The OBR updated this graph, in March 2023. The new one, below, looks more like the World Bank data, but, surprisingly, the OBR has never explained how its 2022 graph was calculated. Nor why the massive drop from 96 to below 88 on its 2022 graph is not apparent on its updated 2023 graph, where UK trade intensity indexed on 2019 is always within the G7 range except for two occasions in 2017 and 2020 when it is above it. Even the OBR’s 2023 addition of adjusted trade intensity never falls below 90 and moves in line with the G7 range.

OBR March 2023 Graph of UK Indexed Trade Intensity

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Trade Intensity does not measure trade

However, regardless of how the OBR came up with its scary 2022 Graph, the important thing to note is that Trade Intensity is not a ‘higher is better’ type of economic indicator. It merely measures total trade as a proportion of GDP.

And the mathematically inclined will immediately realise, that even if a country’s trade remained unchanged, its trade intensity could increase if its GDP fell and decrease if its GDP rose. In this case, Trade Intensity would be a contrary indicator of economic performance and tell you nothing about changes in a country’s trade.

Larger economies generally have lower trade intensities because they produce a wider variety of goods and so have less need to import goods, while smaller countries or islands can have extremely high trade intensities. Malta, for example, has the highest trade intensity in the EU. Conversely, China is easily the world’s largest trading nation, but its Trade Intensity was only 38 in 2022, clearly demonstrating that trade intensity does not reflect trade volumes.

Trade Intensity reflects GDP as much or more than trade. For example, the UK saw a dramatic drop in its Indexed Trade Intensity in 2021 even though UK trade had increased by 5.5% after Covid. This was because UK GDP had increased by even more and was up by 8.7%. If UK GDP had increased by less than 8.7%, UK Trade Intensity would have been higher. In contrast, UK trade intensity held up reasonably well during Covid in 2020 even though UK trade collapsed because UK GDP collapsed in tandem.

Lower trade in 2021 was caused by lower exports of aircraft parts due to Covid travel bans reducing orders for new planes and a shortage of computer chips for cars, both are major components of the UK’s largest goods export sector:  Machinery and transport equipment. However, the following year, UK trade caught up with GDP and increased by 11.8%.

Many economists believe a high Trade Intensity is a bad thing as it can mean a country is too dependent on trade. We can see this with Germany, which has had the highest Trade intensity in the G7 since 2004, but now also has the worst economic growth in the G7. Germany’s low GDP growth in 2023 can be partially attributed to its dependence on imported energy and the decline in exports to other EU countries and China. Meanwhile, the US outperformed other G7 countries with the highest GDP growth in 2023 and is projected to maintain this position in 2024, despite its low trade intensity.

Concentrating on Indexed trade Intensity, rather than actual trade, is a very silly idea. The empirical evidence linking trade intensity to productivity – for advanced economies – is at best very weak, and at worst non-existent. We can only wonder why the OBR have made it central to their anti-Brexit argument.

 

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About the author

Catherine McBride