Cost of Brexit Transition and Spillovers to Developing Countries

 Ms. Sonal Garg, Research Assistant &
Dr. Priyadarshi Dash, Assistant Professor  

UK exited the European Union in the first month of 2020 and entered into an 11-month transition period, which allows it to follow Union’s rules and maintain the status quo until a new deal is struck between the two entities. The 11-month period, the purpose of which was to provide a window of opportunity to both the parties to negotiate various aspects of a future agreement, expires on 31^st December 2020 following which UK will lose its ties and forgo its membership of the European Union.  EU’s level of access to UK waters, state-aid, trade deal, Irish border issue and dispute settlement mechanism are some of the contentious yet important issues that remain to be negotiated.[i] As the transition period is nearing its end, it has become imperative for the two parties to fast-track their dialogue.

 

If both the parties fail to sign an agreement that clearly stipulates the rules and standards of the future relationship, UK would have to exit the customs union without a deal. In the absence of a post-Brexit trade deal, also referred to as no-deal, EU and UK would have to adhere to WTO’s multilateral trade rules and restrictions. They would be bound by WTO’s ‘most-favored nations’ rules implying that the two partners would now be trading at MFN rates, which are much higher than the tariff rates that the countries enjoy under the custom union.[ii]  Given that EU is UK’s largest trading partner, accounting for 47 per cent of its total trade,[iii] a no post-Brexit trade deal will have costly implications for both the parties. As per government’s own projections,[iv] UK’s GDP is expected to experience a hit of almost 8 per cent after 15 years in case of a no deal.

 

In addition to increase in tariff rates, non-tariff barriers and creation of more red tape will further add to trade costs by giving rise to logistical and operational challenges.[v] For instance, according to the report titled ‘UK in a Changing Europe’,[vi] increased tariffs and non-tariff barriers in the form of Sanitary and Phytosanitary rules, custom checks and Rules of Origin will hurt the farmers, who would have to incur higher export costs. The report further underlines that barriers to trade in services will also be significant between the two parties even in the presence of a trade agreement. For example, heavily regulated services like financial and legal services will be more exposed to the severe consequences from losing access to a single market. 

 

The impact of Brexit is not confined to UK and EU member nations. UK accounts for more than 5 per cent of total exports of some developing countries like Bangladesh, Pakistan, Seychelles, Saint Lucia etc. Sugarcane, bananas and apparel are important sectors in which these countries have enjoyed substantial margins in the UK market under EU’s Generalised Scheme of Preferences (GSP).[vii] However, the dynamics of changing EU-UK relations are bound to alter the current trade relations that developing countries have with these two markets.

 

Earlier this year UK announced Global Tariff (UKGT) for all the countries with whom it does not have a free trade agreement. UKGT is set at a lower rate than the EU’s Common External Tariff. In addition, UK has also announced its version of preferential treatment, which will cover all the countries that are currently eligible for EU’s GSP.[viii] As per a study by Centre for Global Development,[ix] while the scheme replicates the already existing regime of preferential treatment, the poorest countries are still expected to lose from these changes. This is because these countries will face competition from other countries that are not subjected to any preferential treatment but are likely to gain from lower tariffs under UKGT.

 

In other words, GSP preference margins will be squeezed for the potential beneficiaries of GSP. As Centre for Global Development observes, HS sections like tobacco, raw hides, skins and leather, manufactures or cork, straw and plaiting materials, and preparation of meat and fish are expected to observe the largest differences in margins. The paper also draws special attention to the case of small countries like Lesotho, Bangladesh and Uganda that may lose substantial amounts of preference margins in several agricultural products like corn and maize flour, barley flour, rice flour, etc. In case of larger developing countries, Philippines is likely to experience an astounding loss of USD 1.8 million in tariff savings in prepared skipjack tuna. India is expected to undergo a similar decline in savings in electric materials (USD 1.5 million) and turbojets (USD 1.4 million). 

 

Almost 33 lower income countries that have Economic Partnership Agreements with the EU and have had zero-tariff access to UK, stand to lose USD 19 million in exports because of the increased competition. Majority of the developing countries (95 percent), with the exception of few countries like India, Indonesia and Vietnam (who are expected to experience a small increase in their exports to UK), will not experience improved access to the UK market. Moreover, while UK’s interest in improving trade access to developing countries remains supreme, there is a need for reforms so as to reduce trade barriers. Some of the important suggestions and recommendations that have been made in the report are:

 

·    Identification and reduction/removal of tariff lines from GSP that fulfil the criteria of not immediately affecting the poorest countries;

·    Simplifying ‘rules of origin’;

·    Supporting Africa’s plans for trade integration both regionally and as part of the African Continental Free Trade Area (AfCFTA);

·     Reductions in the substantial support for agriculture in the UK, and promoting developing country interests globally through the WTO

 

Against the current backdrop of uncertainty and ambiguity, it is necessary for EU and UK to find a common ground before the window of transition period closes, in order to minimize the magnitude of economic damages for both parties and the spillovers to the rest of the world. It is important for the UK government to set up a GSP regime that is in the interest of developing and the poorest countries and reduces the negative impact of the changing EU-UK trade relation on them.

Endnotes 

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1. Rankin, J. (2020, September 08). Brexit Talks: Why the Wrangles over State Aid?. The Guardian.
2. BBC News. (2020, September 23). Brexit: All you need to know about the UK leaving the EU.
3. Ward, M. (2020). Statistics on UK-EU Trade (Briefing Paper No. 7851).
4. Treasury, H. M. (2018). EU Exit: Long-Term Economic Analysis. Treasury: London, UK.
5. Morris, C. (2020, October 19).  What does 'no-deal' Australia-style Brexit mean?. BBC News.
6. UK in a Changing Europe. (2020). What would No Deal Mean?.
7. Nicita, A. (2019). Brexit: Implication for Developing Countries (No. 83). United Nations Conference on Trade and Development.
8. Department for International Trade. (2020, November 11). Preferential Tariffs Continue for Eligible Developing Countries.
9. Ubaldo. M.D., et al. (2020). Developing Country Trade Access after Brexit: The UK’s Plans for the Generalized System of Preferences, CGD Policy Paper No. 187.