The UK is ready for a WTO Brexit

Summary

• The widely-held view that the UK is ‘not ready’ to leave the EU on World Trade Organisation (WTO) terms is wrong. In fact, such an exit would now be perfectly viable thanks to preparations and agreements made over recent months.
• The government’s ‘no deal’ tariff proposals are a sensible compromise which overall would give the UK a more liberal trading regime than now, while protecting some sensitive sectors. The new tariff schedule would boost the economy while also providing enough leverage to allow additional free trade deals – including with the EU.
• Over time, the new tariff scheme would be likely to lead to significant trade diversion away from the EU – reducing the UK’s dependence on a slow-growing market.
• Rollover of existing EU free trade deals is also advancing well. With the Canada deal pending, the rollover of deals will reach 70% by value of the UK trade they currently cover
• Non-tariff barriers to trade will also be far less problematic than often claimed after a series of agreements on transport and transit, mutual recognition, public procurement and financial markets.

Introduction

There is a widely-held view that the UK is ‘unprepared’ to leave the EU on World Trade Organisation (WTO) terms, i.e. without a free trade deal with the EU. This view centres around a number of points, including supposed problems with transport and transit of goods, tariff and non-tariff barriers to trade, and the UK dropping out of existing EU free trade deals and other trade-related deals. According to this view, these factors would mean a WTO-based exit would cause significant economic dislocation and probably a sharp decline in UK GDP.

This view is largely false, being based on misunderstandings and a failure to recognise the very substantial preparations that have now been made, both on the UK side and the EU side.

Tariffs

Last week, the UK government published a proposed set of tariffs and associated quotas that would apply in the event of a ‘no deal’, WTO-based, Brexit. In our view, these proposals are a sensible compromise – falling short of ‘unilateral free trade’ but nevertheless overall liberalising the UK’s foreign trade regime. The key features of the proposed new regime are:

• Tariffs will be zero on around 95% of products (at the 8-digit level) – up from just 26% now – covering around 87% of current UK imports by value. As a result, even though tariffs will be levied on the EU (which is not the case now), the UK trade regime will overall become more liberal – currently, around 80% of UK imports are tariff-free (more detail from the UK Trade Policy Observatory is here).
• A small set of products including sensitive areas in agriculture, textiles, finished cars, fertilisers, ceramics and a few other items will continue to attract tariffs. But even here, the rate of protection has been reduced in many cases compared to that prevailing on non-EU imports now: beef and poultry duties will be only around half those levied by the EU, butter duties only 30% of EU duties and pork and cheese duties only 15% of EU duties.

The new tariff regime would be one of the most liberal in the advanced world. The unweighted average tariff – which would apply to all trade – would fall to an estimated 0.7% versus 7.7% for the EU now. This has several key consequences:

• It will make the UK an attractive place for international firms to invest because the vast bulk of imported components (including car parts, electronics and machinery) will be tariff-free. The UK’s attraction as a trading hub will also increase.
• It will rule out big rises in consumer prices due to a no-deal Brexit – indeed, prices overall may even fall. This is critical because many economic studies of a no-deal Brexit have assumed the UK would mirror exactly the EU’s tariffs thus inflicting large price rises on UK consumers. Indeed, often these price rises have been the main factor generating negative effects on GDP in these scenarios.
• Nevertheless, tariffs have been retained in sufficient areas to give the UK enough leverage to strike future free trade deals with partners including the US and the EU. On the EU side, we estimate around 18% of current imports from the EU would face tariffs including key sectors such as cars and some agricultural products – exports of which to the UK could fall very steeply under the new tariffs.
• The UK’s new tariff regime would, over time, lead to significant trade diversion away from the EU – especially in the absence of a free trade deal with the EU. The abolition of most industrial tariffs would encourage sourcing of such goods from Asia and North America, while agricultural imports would be likely to shift towards emerging markets and Commonwealth suppliers. The opening of new tariff quotas in some areas, open to all suppliers, will also encourage this.

Free trade deals

The EU has around 30 free trade agreements (FTAs) with various countries and groups of countries, which cover about 9% of the UK’s total trade. The UK authorities have been working to ‘roll over’ these deals and have had considerable success.

Agreements have now been reached to rollover deals worth about 60% of the UK trade covered by EU FTAs (or around 5.5% of total UK trade). This is thanks to agreements with the non-EU EEA countries (Norway, Iceland and Liechtenstein), Switzerland, Chile, Israel and some developing countries. A deal with Canada is imminent, which would take the value of rollover deals to 70% of UK trade covered by EU FTAs, or 7% of total UK trade.

Non-tariff barriers

Much of the concern over a ‘WTO exit’ has revolved around ‘non-tariff barriers’ to trade. Here again, preparations and agreements over recent months mean the picture is much brighter than sometimes claimed:

• The UK has agreed rollovers of ‘mutual recognition’ agreements with key non-EU trade partners including the US, Australia and New Zealand, which help facilitate a considerable portion of UK trade with these partners.
• Trade in financial services, including derivatives, clearing houses and insurance, has meanwhile been safeguarded by agreements with the US and decisions by the EU.
• The UK has also signed up to the WTO government procurement agreement in its own right, retaining access for UK firms to government contracts across the world.
• Meanwhile, many UK firms have acted to transfer product registration and safety certification to EU approved bodies, thus circumventing another potential non-tariff barrier.

Transport and transit

Much of the ‘no deal chaos’ narrative focuses on issues of connectivity – air and sea travel, ports, transit issues. Disruptions to these links often form the main part of claims of big short-term economic losses from a WTO Brexit.

But once again, preparations both on the UK and EU sides mean the picture is far less worrisome than claimed:

• The UK and EU have agreed reciprocally to maintain air travel and other cross-border links
• The UK has retained its membership of the Common Transit Convention, allowing simplified cross-border goods trade
• The UK government has introduced a range of easements and derogations to greatly simplify customs and VAT procedures for cross-border traders.
• On the EU side, ports such as Rotterdam and Calais have made significant preparations for a WTO Brexit. Importantly, Calais is launching a ‘smart border’ scheme that will prevent delays using a combination of pre-clearance of goods, number plate recognition and away-from-the-border checks.

Conclusions

It should be clear from the above that most of the horror stories surrounding a WTO Brexit are redundant given the scale of preparations now made. Indeed, the Bank of England recently claimed that such preparations had slashed the potential economic damage from no-deal disruption by up to two-thirds. The Bank of England also noted that 80% of firms it surveyed now considered themselves prepared for a WTO-based Brexit.

We take such claims by the Bank with a pinch of salt, especially as their original estimates looked absurdly high. But there is no question that a WTO Brexit is perfectly manageable – and that in the event it occurred, more mini-deals would emerge to make it even smoother. Moreover, in the longer term such a Brexit would save UK taxpayers at least £39 billion of payments to the EU and free the UK entirely from the economic costs of compliance with EU regulations. The big obstacle to a WTO Brexit is not economic, or even logistical, but political.