After Brexit, New Questions Face the Future of U.K.-EU Trade

LONDON — As of 11 p.m. last Thursday — New Year’s Eve — frictionless trade between the United Kingdom and its largest and closest trading partner, the European Union, came to a screeching halt, thanks to a highly unusual free-trade deal that constructs more barriers to trade between the two parties than existed beforehand.

The question now looms: what comes next for U.K.-EU trade? Will the two entities continue to diverge, be forced by economic and political pressures to reconverge or settle into a long-lasting state of continual negotiations to keep trade flowing?

“From an economic point of view, reconvergence would have significant benefits,” says Jonathan Portes, an economics professor and trade expert at King’s College London. “But that’s a political question, so it’s very, very difficult to make predictions.”

The trade deal was the final act of the long-running drama called Brexit, Britain’s decision — made four-and-a-half years ago in a narrowly decided referendum — to exit the EU after 47 years. Brexit officially occurred last Jan. 31, after both sides approved a withdrawal agreement, but an 11-month-long transition period kept the U.K. within the bloc as a de facto member to allow time for trade talks.

The result is a 1,200-page deal, reached in the 11th hour, that means there will be no new tariffs or quotas between Britain and the bloc. But because Britain has now pulled out of the EU’s 500 million-person single market and customs union, trade between the two will now face many new regulatory barriers, ranging from customs checks to certifications that will ensnare importers and exporters in spools of red tape and require reams of paperwork, causing delays and extra costs.

For instance, British exporters will now have to certify the origins of goods shipped to Europe — not just for finished products, but for all the parts used to assemble them. Some manufacturers, such as automakers whose cars are a mélange of imported parts, face a complex process. Even after compliance with the new regulatory regime becomes more routine, it’ll still require more time and costs to clear the extra bureaucratic hurdles, explains L. Alan Winters, director of the U.K. Trade Policy Observatory at the University of Sussex. “At a minimum, companies will have to keep very careful records.”

Winters says the resulting headaches for importers and exporters “will hit pretty soon, but to some extent, it may depend on enforcement. If the EU starts stringent enforcement from the start, it will be noticeable very quickly.”

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While both Portes and Winters say there is much to dislike about the bare-bones trade pact, they note that it nevertheless saved both sides from the even worse outcome of Britain crashing out of the EU with no deal. A no-deal Brexit would have economically damaged both sides, but the U.K. would have borne the brunt of the costs.

Portes says his group’s model predicted a no-deal Brexit would have shrunk the U.K. economy by 8% over the coming decade.

But even with this trade pact in place, Portes estimates Brexit will still shrivel the U.K. economy by around 6.5% over the next 10 years.

“Most of the damage comes from leaving the single market and the customs union,” he says. “Getting rid of tariffs helps a bit, but it doesn’t make up for not being in the single market.”

Another issue is that the trade agreement doesn’t cover services, and 80% of British exports are services. A big part of the economic damage caused by Brexit comes from service industries being left out, Winters says. “We think it will result in a pretty significant hit.”

No British lawyer can now, for example, advise on European law on the continent. “Their ability to advise on European law is very restricted, lawyers will find life much more complicated,” Winters says.

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A new problem for banks is that “passporting” no longer exists. That was a legal arrangement blended into the single market that allowed a bank to open a subsidiary in the U.K. from which it could, after meeting British regulations, offer services and open branches in all 27 other member states based solely on its U.K. regulatory approval. “There’s no equivalent for it yet,” Portes says, and creating one “will be a very complicated process.”

The Conservative Party-controlled Parliament approved the free-trade trade pact on Dec. 30, which was negotiated by Conservative Prime Minister Boris Johnson‘s government. Even though the Labour Party, Britain’s main opposition party, dislikes the deal, it voted for it to avoid a no-deal Brexit. Its stated goal now is to work to improve it.

Hardcore Brexiters argue that Britain should continue to distance itself from the EU now that the trade pact is a done deal, become a global trade leader and look to sign trade deals with other countries to compensate for any loss of European markets. But that may not be easy. Because the EU will always be the U.K.’s largest and nearest trading partner — 46% of its exports go to the EU and 54% of what it imports comes from the bloc — it’s essentially irreplaceable.

Moreover, Britain’s determination to be a world-leading free trader comes at a time when global trade is in a steep decline. The incoming administration of U.S. President-elect Joe Biden, for example, isn’t expected to prioritize continuing trade negotiations with the U.K.

Instead, Winters expects ongoing discussions between London and Brussels in the coming months and years to try to ease some of the new barriers and smooth over others that will inevitably crop up. But Britain cannot gain much further access to the single market unless it agrees to more EU rules, “so there’s not too much maneuvering room,” he adds.

Even if it remains outside the EU, Britain could in the future rejoin the single market, the phrase referring to the free movement of goods and services within the 27-EU member state region, and a few other countries. Norway isn’t an EU member, but is part of the single market. “And they do pretty well in terms of trade with the EU,” Portes says. “It’s not exactly frictionless, but it’s closer to it.”

Nevertheless, Portes says he doubts if any effort to make that happen will soon occur, even after the shortcomings and hassles created by the trade pact become obvious to businesses and consumers. “At the moment there’s not much appetite for that. But in five years? Maybe.”

Winters, however, says any push to return to the single market within the next 20 years is unlikely, unless there’s a complete economic implosion. “That’ll be a massive, massive political issue. We’ll probably need a generational change first.”

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After Brexit, New Questions Face the Future of U.K.-EU Trade originally appeared on usnews.com

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