Two years after exiting, Britain is already beginning to re-think its relationship with the Europe Union. As we approach the second anniversary of the UK’s exit from the European bloc, a growing chorus of criticism is being aimed at the particularly damaging version of Brexit chosen by Theresa May and Boris Johnson, and negotiated by Lord Frost. We need to learn from the last two years. To this end, Yorkshire Bylines has decided to offer our help by publishing a series of linked articles: the lessons of Brexit.
There is a growing tendency among the advocates of Brexit to assert that it was always about sovereignty rather than trade. This is to rewrite history. Vote Leave’s 2016 campaign video did briefly mention UK politicians becoming more accountable, but the central focus was on Britons enjoying better healthcare and education, higher wages and lower food costs after Brexit.
It was in other words about money and therefore, at least implicitly, about trade.
Trade outside the EU
Brexit supporters like Michael Gove maintained in 2016 that Britain would be able to leave the EU but retain access to the “free trade zone stretching from Iceland to Turkey that all European nations have access to, regardless of whether they are in or out of the euro or EU”. This would have been true if the UK had chosen to remain inside the single market and the customs union. In the event, it decided not to do so.
We had to exit the single market in order to end freedom of movement, control our borders and negotiate bespoke trade deals so that Britain could ‘prosper’, a bargain that is already looking over-sold and many believe will never be worth the price being paid.
The argument was that we would gain by signing deals with the USA and the fast-growing economies in Asia, without losing access to the EU single market on our doorstep. Even after the trade and cooperation agreement (TCA) was signed, Johnson believed that British exporters would be able to “do even more business with our European friends”. It was disingenuous at best.
The TCA involved zero tariffs on UK-made goods but did nothing for the services sector which makes up 80% of the British economy and accounts for 45% of UK exports. Johnson maintained there would be “no non-tariff barriers to trade” which was blatantly untrue, as many British exporters quickly discovered.
The ‘gravity model’ of international trade
What Brexit and the TCA have done is test the established ‘gravity model’ of international trade first espoused in 1962 by Jan Tinbergen, a Dutch economist who was later awarded the first Nobel Memorial Prize in Economic Sciences.
The model suggests that trade between countries is proportional to their relative size and wealth (determined by current GDP) and inversely proportional to the distance between them (measured by trade costs) so that the more economically ‘distant’ a potential partner is the less attractive trade becomes. The US National Bureau of Economic Research has described it as “one of the most robust empirical findings in economics”.
“We do more trade with Ireland than we do with Korea, Japan, India & Australia combined… we’re not going to make up in new trade deals what we lose from departing from the EU.”
Lord Patten
Only a small minority of economists were ever in favour of Brexit. They essentially challenged the gravity model orthodoxy and believed that with globalisation and instant communications, the trading cost measure of distance between countries was overstated.
Trading with distant markets is also slower and more environmentally damaging, with goods being transported by air or sea freight.
What has actually happened to trade?
From the Davis Downside Dossier and the Digby Jones Index we can see empirically that trade has been negatively affected by Brexit. Businesses have closed while others have relocated some or all of their operations into the EU. This is undeniable and is largely due to non-tariff barriers – the bureaucracy and red-tape which are the real impediments to international trade.
It would now be perverse to invest in the UK in order to export to the EU single market. Any new foreign direct investment into the UK makes sense only to serve the domestic market, unless there are other overriding factors. This does not help Britain’s future external trade.
We see this already in the decision by the US chip maker Intel to invest up to €80bn in manufacturing facilities in the EU over the next decade. Pat Gelsinger, Intel’s CEO, told the BBC that UK, “would have been a site that we would have considered” but “Post-Brexit… we’re looking at EU countries and getting support from the EU”.
In their November fiscal outlook, the Office for Budget Responsibility (OBR) assumed that:
“Brexit will result in the UK’s trade intensity being 15 per cent lower in the long run than if the UK had remained in the EU. The latest evidence suggests that Brexit has had a significant adverse impact on UK trade, via reducing both overall trade volumes and the number of trading relationships between UK and EU firms.”
(Trade intensity is a measure of a country’s exposure to world trade, it’s the total of exports plus imports divided by GDP.)
The value of new trade deals
The government deserves credit for negotiating so-called ‘rollover’ deals with most of the EU’s trading partners by the end of the transition period. However, they only replicate what Britain enjoyed as an EU member.
In negotiating bilateral trade deals relative size matters. Access to the larger market usually commands the premium and, in most cases, the smaller country must simply accept the larger one’s rules. The EU bloc will always obtain better terms.
Just two entirely new free trade agreements (FTAs) have been agreed, with Australia and New Zealand.
According to the Department for International Trade (DIT) the New Zealand deal will increase GDP by 0.03% in 2035. The Australian deal, which a former DEFRA secretary George Eustice has described as “not very good”, will add 0.08% to our GDP over the same time period. Eustice also claimed, “We gave away far too much for far too little in return.” Britain, either through desperation or naivety, failed to capitalise on granting access to its much larger market.
The government’s aim is to secure further FTAs with the USA and India, although there has been little progress expected with Washington while issues around the Northern Ireland protocol remain. Talks with India are ongoing. Topics still outstanding including a patent regime for pharmaceutical companies, work visas, and access for Indian movies while the UK wants reduction in the import duty on cars and scotch whisky. India would like to conclude a deal by March 2023.
The DIT’s impact assessment for a US trade deal suggests it could increase UK GDP in the long run by around 0.07%, and a similar assessment for a trade deal with India suggests a boost to UK GDP of between 0.12% and 0.22%, equal to between £3.3bn and £6.2bn by 2035 (in 2019 prices) depending on the depth of the negotiated outcome.
Collectively, these four deals could increase Britain’s GDP by up to 0.4% at best.
By comparison, the OBR estimated that Brexit and the TCA will reduce UK GDP by ten times that amount, or 4% by 2030. The Centre for European Reform (CER) recently suggested the UK economy had already suffered a much greater 5.5% loss of GDP by the end of 2022.
Using the OBR’s more modest forecast, UK GDP in 2021 was about £2.2 trillion, so 4% is equal to £88bn. The UK Treasury takes around 35% of GDP in tax, which means Brexit is costing approximately £30bn a year in lost revenue (at current prices). CER put the loss at £40bn a year.
Lessons learned
The gravity model of trade is proving to be quite sturdy. The OBR says: “there is little sign to date of UK goods exports to non-EU countries making up for lower exports to the EU, with the former down 18 per cent on 2019 levels.”
Trade with our closest neighbours in the EU is falling and with it, GDP and tax revenues. There is little likelihood of this changing in the foreseeable future. It means either taxes will be higher than they otherwise need be or public services will be worse than they could be, or a combination of the two.
There is of course, no reason why any country should not decide that sovereignty – or indeed autarky – in all matters is a priority, if that is what voters choose. But the government should be clear that outside the single market there will be a trade off in permanently lower levels of national wealth and therefore potentially poorer healthcare and education, lower wages and higher food costs compared to our nearest neighbours.
The next article, on immigration, is available here.
