The UK’s Brexit Options

15 Aug 2017 | Brexit

The UK voted for Brexit last June, but what does Brexit actually mean? The UK can pursue various options: staying in the Single Market, staying in the Customs Union, or forming a Free Trade Area. These are often used interchangeably as various forms of a “soft Brexit”, but there are important distinctions between them. The goal of this article is to clarify the various options available to the UK, but without imposing my own views. The spirit is similar to my articles last year, The Case for Brexit and The Case for Remain, where I presented both sides of the Brexit debate.

Single Market

  • The UK can remain part of the single market but not the EU (e.g., Norway, Iceland, and Liechtenstein are members of the European Economic Area (“EEA”)).
  • The single market includes the free movement of goods, services, capital, and people, as well as no tariffs on trade.
  • The UK would be free to strike its own external trade deals if part of the single market but not customs union.
    • The EEA does not involve a customs union, nor common agricultural and fisheries policies, common trade policy, or common foreign and security policy.
  • Remaining in the single market would allow the City of London to keep its “passporting rights.”
  • Being outside the customs union would mean the UK’s exports would be subject to rules-of-origin inspection
    • These inspections determine which country a good originated from, to assess which (if any) tariffs or quotas apply. They can cause significant delays
  • Membership of the single market also means
    • Complying with various rules and regulations, such as food and safety standards, working hours, and chemical materials and packaging standards.
    • Paying annual dues to the EU’s budget.
    • Accepting jurisdiction of the European Court of Justice (“ECJ”).
    • Keeping most EU laws (e.g., Norway incorporates approximately ¾ of EU law).
    • Following future EU laws.
    • No right to vote on these laws.

Customs Union

  • The UK can remain part of a customs union with the EU but not the single market (e.g., Turkey).
    • The EU customs union is the world’s largest in terms of output, which gives it considerable bargaining power to negotiate trade deals. The UK may lose its influence if outside the customs union.
  • There would be no tariffs on certain traded goods between the UK and EU
    • The customs union covers all industrial goods but does not address agriculture or services (including financial services)
  • Countries within a customs union apply the same “common external tariff” to goods from outside the union. If goods clear customs in one country of the union, they can be shipped to any other country in the union without incurring an additional tariff (or rules-of-origin inspections)
  • The advantage of being in a customs union but not the single market are:
    • It dispenses with the EU’s four freedoms (free movement of goods, services, capital, and labor). In particular, the UK would have full control over its immigration policy. However, UK citizens would equally lose the right to travel and work freely in the EU.
    • It may be that no EU budget contributions would be required, although this would have to be negotiated. 75% of customs duties collected when a good is imported into the EU goes into the EU coffers, and this accounts for 20% of the EU budget. Thus, in return for a customs union with the UK, the EU might ask for a contribution to replace the lost revenue.
    • The UK would not be bound by the ECJ
  • The main disadvantage is that the UK could not engage in free-trade deals with third countries. It would have to accept the trade deals that the EU negotiates, which aim to benefit EU industries as a whole and are not necessarily aligned with UK interests.
  • It is not clear that a customs union arrangement will even be an option for the UK, as the customs union with Turkey was established as a precursor to EU membership.

Free Trade Area

  • The UK can potentially form a new free trade deal with the EU
    • For example, Switzerland is outside the EEA, but is a member of the European Free Trade Association. It has access to the single market for goods (except agriculture), but is outside the market for most services, (including financial services)
    • However, it is necessary to operate rules-of-origin inspections  among members of a FTA, which is costly.
  • Negotiations to establish such deals are a lengthy process, because they usually require ratification from all EU member states. For example, the recent EU-Canada trade agreement took seven years to negotiate
    • In addition, there are normally exceptions to a trade agreement: some industries may be protected and some goods exempt.
  • Services, such as education and banking, face non-tariff barriers and long, complicated negotiations. In particular, London may lose its status as the “gateway to Europe” for banks.
    • Indeed, I am unaware of any FTA in financial services anywhere in the world. Switzerland has lots of trade deals, but none in financial services.
  • The extent to which the UK would be subject to the rules on freedom of movement, in exchange for receiving freedom of capital, goods and services, would depend on the deal negotiated
    • For example, Switzerland has agreed to the free movement of people and contribute to the EU’s budget.
  • Membership of a FTA also means
    • UK businesses selling their products into the EU would still have to adhere to EU products standards and regulation, but the UK would not have any influence on these rules.
    • The UK Government would no longer be automatically entitled to challenge EU legislation before the ECJ.
    • The UK would have independent trade policy control with regard to external countries, possibly lowering trade barriers elsewhere to offset potential losses with the EU.
    • The UK would no longer benefit from FTAs between the EU and other countries, of which there are over 50.

Thanks to LBS Finance PhD student Trevor Young for research assistance with this article. If there are any errors or omissions, I would very much appreciate you correcting me with a comment.