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Brexit

#Brexit, EU-exit without a free trade agreement?

Extract from the House of Commons Library, Research Paper No. 13/42

Were it to leave, the UK’s trading relationship with the EU would be the product of negotiation. A vast number of different arrangements could result, but for the purposes of analysis, considering a situation in which the UK negotiates no preferential market access with the EU offers a clearly defined point of reference. In this instance, the terms of World Trade Organisation (WTO) membership limit the range of outcomes. The details of such an arrangement are discussed below.

Tariff barriers

The principle of non-discrimination requires WTO members not to treat any member less advantageously than any other: grant one country preferential treatment, and the same must be done for everyone else. There are exceptions for regional free trade areas and customs unions like the EU, but the principle implies that, outside of these, the tariff that applies to the ‘most-favoured nation’ (MFN) must similarly apply to all.

In practice, this would prevent discriminatory or punitive tariffs being levied by either the EU on the UK, or vice versa. The maximum tariff would be that applied to the MFN. As the chart shows, the EU’s MFN tariff has fallen over time, meaning that in this particular context the ‘advantage’ of membership has declined. However, given that MFN tariffs would be imposed on around 90% of the UK’s goods exports to the EU by value, it would necessarily mean many exporters becoming less price competitive, to varying degrees, than their counterparts operating within the remaining EU, and those within countries with which the EU has preferential trading relationships. Similarly, because the UK has negotiated as part of the EU at the WTO, it is likely that it would inherit the EU’s tariff regime at the time of leaving, meaning, at least initially, higher prices would be faced by consumers buying imports from the EU and those countries with which the EU has trade agreements.

NFN tariffThe implications of a move to an MFN trading arrangement for exporters and domestic consumers would vary considerably by sector, as illustrated in the chart below, which compares the EU’s average MFN tariff across over 1,200 product groups with the UK’s trade balance in each. The size of the bubbles represents total trade in the commodity (imports plus exports). For instance, without a trade agreement, a tariff of 4.1% would be applied to liquefied natural gas exports from the UK to the EU; a tariff of 12.8% to wheat and meslin; and a tariff of 6% to unwrought aluminium, all items which the UK currently runs a trade surplus with the EU. UK consumers would face higher prices, although the precise effects would depend on how the Government altered the tariff structure it ‘inherited’ on leaving the EU. Without any change, a 32% tariff would be levied on imports of wine, for instance, and a 9.8% tariff on motor vehicles.

Non-tariff barriers

Non-tariff barriers to trade refer to a range of measures that have the effect of reducing imports, either intentionally or unintentionally. They include anti-dumping measures that prevent goods being exported at a price below production cost (usually by the application of an additional duty), and product standards, such as labelling, packaging and sanitary requirements. Support to domestic producers and export subsidies, such as those provided under the Common Agricultural Policy (CAP), can also be interpreted as non-tariff barriers since they inhibit market access by foreign producers on equal terms. In the context of falling tariff barriers, such non-tariff measures have become more widely used as a means to protect domestic producers from foreign competition.

The terms of WTO agreements limit the circumstances in which such measures can be applied, and in particular uphold the principle of non-discrimination that would prohibit punitive measures against the UK were it to leave. Nonetheless, the EU has provisional or definitive anti-dumping tariffs in place against more than a hundred other products in 24 countries; recently, its imposition of tariffs on Chinese solar panels has raised fears that retaliatory measures by China will spark a ‘trade war’.

Just as important in a trade context, however, are the standards required of products imported from outside the EU. All UK businesses must comply with these standards already, although as in other areas of regulation, withdrawal raises the prospect of costly divergences between the UK and EU product standards. On the other hand, some proponents of withdrawal argue that, were it to leave the both EU and the single market, only exporters would have to be bound by the EU’s product standards, leaving other businesses free to operate under a UK regime.

NFN tariff2

Services trade

Without further negotiation, the UK’s trade in services with the EU would be governed by the WTO General Agreement on Trade in Services (GATS). Under this agreement, EU Member States (and other parties to the agreement) have chosen which sectors they are prepared to liberalise, and the time scale over which they wish to do so. As with trade in goods, GATS also operates on the principle of non-discrimination, meaning broadly that outside preferential agreements, restrictions on market access must be applied uniformly across all countries.

Barriers to services trade are usually in the form of non-tariff barriers, such as domestic laws and regulations, also known as ‘behind the border’ measures. In general, services markets are more highly regulated than the market for goods. Often, regulation is intended to meet social objectives, or to correct failures in supply, rather than directly to restrict foreign suppliers, but the effect on market access for foreign companies can in some cases be highly restrictive. EU Member States retain considerable national discretion over services regulation and supervision. Just as a fully level playing field in services trade does not exist within the EU, so exporters from outside the EU face different levels of market access in individual Member States. However, the level of market access would generally be far more limited for UK exporters under a GATS arrangement than it is currently for a number of reasons:

  • many restrictions that are forbidden within the EU remain applicable to firms outside the EU because Member States have made no commitments under the GATS schedules in those areas;
  • the right of commercial establishment is guaranteed under EU treaties, significantly facilitating trade in services provided via the commercial presence of a foreign firm;
  • the free movement of labour significantly facilitates trade in services provided through the presence of people in the territory of another economy;
  • EU competition policy prevents, to an extent, barriers to services trade arising from incumbent firms benefitting from excessive market power;
  • the Treaty rights with respect to free movement of services, freedom of establishment, and free movement of labour are enforced supranationally by the EU Court of Justice, underpinned by extensive case law on services exchange. Under GATS, an independent panel can be appointed to settle and enforce disputes, but there is no presumed right of market access; the job of the panel is merely to assess whether the barrier in question non-discriminatory.

As well as affecting cross-border trade in services, these restrictions could also have implications for UK companies providing services through a commercial presence (effectively outward direct investment) in other Member States. The EU Treaties require that a service provider from one Member State be legally free to establish in another, while continuing to be regulated by the authorities of its home country. A UK company that provides services through establishments in other Member States may find, if the UK is no longer a member of the EU, that it has to comply with the requirements of a foreign regulatory authority.

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