Avoiding the ‘cliff edge’: Immediate trade arrangements post-Brexit need to be given higher priority in Article 50 negotiations

The European Union, under the Commission’s lead negotiator Michel Barnier, has proposed to begin Brexit negotiations with the United Kingdom on June 19th next following the latter’s general election. Based on the European Council’s guidelines on the EU’s objectives for these negotiations, detailed negotiating directives have been agreed by the General Affairs Council. The Commission’s Task Force on the Article 50 of the Treaty of the European Union (TEU) negotiations has also begun to prepare draft position papers, beginning with two on essential principles of citizens’ rights and essential principles on financial services.

This level of preparedness on the EU side for the forthcoming negotiations contrasts sharply with the impressions we have of the UK side. Until the outcome of the general election is known and new ministerial appointments are made or old ones confirmed, we will not be sure who will even be leading the UK side in the negotiations. Although Prime Minister May called the election allegedly to give her a strong mandate in negotiating Brexit, the campaign has failed dismally to clarify the choices or the options that the UK intends to pursue. Because of the purdah on policy announcements during the election campaign, neither have we had further insights on the UK position from the civil service which might have elaborated on some of the principles set out in the UK Government White Paper on exiting the EU published at the beginning of February.

Some in the UK are growing alarmed by the apparent lack of preparedness. While it is no surprise that the Guardian newspaper might be critical of Mrs May, its economics editor Will Hutton’s column last Sunday June 4th that “Britain is being led to an epic act of self-harm over Brexit” and that “Our exit strategy from the EU is a shambles and threatens to do us irreparable damage” has more than a ring of truth.

Equally stinging is the criticism of Mrs May’s negotiating style by former UK ambassador Craig Murray on his personal blog. Having excoriated Mrs May as an appalling negotiator, he concludes that “Frankly, if I had the choice between sending in Jeremy Corbyn, with his politeness and reasonableness, or Theresa May, into a negotiation I would not hesitate for a second in choosing Corbyn. I am quite sure there is not another diplomat in the World who would make a different choice. May’s flakiness and intolerance of disagreement represent a disaster waiting to happen”.

Why a focus on the immediate post-Brexit period is important

All of this might give the impression that the EU is in the driving seat and can afford to sit back and leave it to the UK as the demandeur to make the running in these negotiations. While the EU has clearly identified EU offensive interests in the case of citizens’ rights and the divorce bill, its trade interests are downplayed in the negotiating guidelines. In my view, this is a highly risky strategy.

There is a debate within the UK over how strong the UK’s hand is in the forthcoming negotiations. This debate is reviewed in the recent House of Lords International Trade Committee report (pp. 20-22). While the belief of gung-ho Brexiteers that the EU cannot afford to let the negotiations fail is undoubtedly misplaced, the EU does have market interests which it would be foolish to ignore.

The UK accounts for 17% of total extra-EU27 exports in goods (including the UK as extra-EU in this calculation). While the UK share of EU27 agrifood exports is smaller (around 10-11%), disruption of this trade would be costly and should be avoided to the extent possible. The EU has important offensive interests at stake to protect its current export markets in the UK.

In this respect, it is telling that on no official EU website can one yet find a handy ready-reckoner of the importance of the UK to the EU27 for different kinds of goods and services! (for comparison, see this comprehensive reference for the importance of EU27 trade to the UK). This seems to me symptomatic of the fact that the EU is not taking its trade interests seriously enough.

Immediate post-Brexit scenarios

From a trade point of view, most of the focus has been on the possible future long-term trade arrangements between the UK and the EU. The European Council guidelines note that the UK has indicated that it will not seek to remain in the Single Market (notably, they omit any reference to the UK position on the customs union although leaving the customs union as the long-term goal is clearly spelled out in the UK Government’s White Paper).

The guidelines go on to note that the UK would like to conclude an ambitious free trade agreement with the EU and declare that “Based on the Union’s interests, the European Council stands ready to initiate work towards an agreement on trade, to be finalised and concluded once the United Kingdom is no longer a Member State”.

There are two alternatives to consider. The first is that there will be a successful conclusion to the Article 50 TEU negotiations. Even in this scenario, the EU is clear that a future trade agreement can only be concluded with the UK as a non-member country. Thus, there will be a period which will likely last for some years when the UK will have left the Union but no free trade agreement will be in place. In the absence of interim or transitional arrangements, the EU and the UK would trade on ‘WTO terms’.

Recall that the EU will negotiate this free trade agreement with the UK under Article 218 of the Treaty on the Functioning of the European Union. This will require a different mandate to the Article 50 TEU negotiations and, assuming it is a comprehensive and ambitious agreement, would probably require the approval of national parliaments as well as Council and European Parliament. All of this will take time. During this time, some kind of interim or transitional arrangement is critical for EU exporters to the UK market.

The other alternative is that the Article 50 TEU negotiations do not end in agreement and the UK ‘crashes out’ of the EU, to use the popular phrase. Also in this situation, the EU and the UK would trade on ‘WTO terms’. While, in this scenario, it does not make sense to talk about an interim or transitional agreement, the EU needs to be thinking now about the trade facilitation measures that will need to be put in place to supplement ‘WTO terms’.

No developed country trades with the EU on ‘WTO terms’ alone and neither will the EU want to trade with the UK on ‘WTO terms’ alone. ‘WTO terms’ implies, in part, that EU exports would face the same level of applied tariffs that the UK would choose to impose on imports (these applied tariffs will not necessarily be the same as the bound tariffs that the UK will schedule in the WTO – they cannot be higher, but the UK could choose to set them lower).

But tariffs are only one of the costs of conducting international trade. For many products (if not for agrifood products where tariffs can still be high), regulatory differences, the need to show compliance with the regulatory standards of the importing country (even if these are the same) and the administrative costs of customs clearance are more important. What matters when trading on ‘WTO terms’ is the network of bilateral flanking and complementary agreements which facilitate trade and help to reduce these non-tariff trade costs.

Thus, all developed countries that trade with the EU have agreements to facilitate trade even when they face the EU’s WTO Most Favoured Nation tariffs, and the EU will want to secure such agreements with the UK. Examples of trade facilitation measures include mutual recognition agreements and the ability of EU firms to explicitly mark their products as meeting UK standards after Brexit (even if these standards remain exactly the same as those in force in the EU for the foreseeable future). Other examples include customs agreements to exchange data and documentation to facilitate rapid clearance of goods through the customs system.

Trade facilitation arrangements will be particularly important for Irish exporters who must use the UK as a ‘land-bridge’ to access markets in continental Europe and who will want to avoid separate customs checks both when entering the UK and again when entering continental Europe.

Thus, the EU needs to prepare for two potential outcomes. In the case of a successful conclusion of the Article 50 TEU negotiations including an agreement to conclude a future FTA with the UK, it needs interim arrangements which will, at a minimum, maintain tariff-free trade with the UK until the FTA is ratified. In the case that the Article 50 negotiations break down, it needs to negotiate a wide range of trade facilitation measures to minimise the costs for EU exporters in maintaining access to the UK market after Brexit even if tariffs are unavoidable in that situation. Indeed, assuming that the UK leaves the Single Market on Brexit Day, these trade facilitation measures will also be necessary as part of the interim arrangement.

What the EU says about transitional arrangements

The European Council guidelines set out a two-phased approach to the negotiations. The first phase aims to provide as much clarity and legal certainty as possible to citizens, businesses, stakeholders and international partners on the immediate effects of the United Kingdom’s withdrawal from the Union, as well as to agree on the divorce bill and financial settlement of the rights and obligations that the UK has incurred as a Member State. As part of the arrangements for an orderly withdrawal, the guidelines also stress the aim of avoiding a hard border on the island of Ireland, while respecting the integrity of the Union legal order.

The European Council proposes to monitor progress closely and to determine when sufficient progress has been achieved to allow negotiations to proceed to the next phase. The second phase will aim to reach an overall understanding on the framework for the future relationship. As trade issues form part of the future relationship, the guidelines thus envisage that these will not be taken up until after the European Council has determined that sufficient progress has been made on citizens’ rights and the divorce bill.

The European Council guidelines have this to say on transitional arrangements:

To the extent necessary and legally possible, the negotiations may also seek to determine transitional arrangements which are in the interest of the Union and, as appropriate, to provide for bridges towards the foreseeable framework for the future relationship in the light of the progress made. Any such transitional arrangements must be clearly defined, limited in time, and subject to effective enforcement mechanisms. Should a time-limited prolongation of Union acquis be considered, this would require existing Union regulatory, budgetary, supervisory, judiciary and enforcement instruments and structures to apply.

The Commission’s negotiating directives agreed by the General Affairs Council are intended only to cover the first phase of the negotiations. They repeat in much the same words the European Council guidelines:

As soon as the European Council decides that sufficient progress has been achieved to allow negotiations to proceed to the second phase, there will be new sets of negotiating directives. In this context, to the extent necessary and legally possible, matters that should be subject to transitional arrangements (i.e. bridges towards the foreseeable framework for the future relationship) and which are in the interest of the Union, will be included in those future sets of negotiating directives in the light of the progress made. Any such transitional arrangements must be clearly defined, limited in time, and subject to effective enforcement mechanisms. Should a time-limited prolongation of Union acquis be considered, this would require existing Union regulatory, budgetary, supervisory, judiciary and enforcement instruments and structures to apply.

What UK says about an interim deal

The UK side has also endorsed the idea of a transitional arrangement, although it prefers the term ‘phased process of implementation’. The UK Government White Paper on leaving the EU noted that “We want to avoid a disruptive cliff-edge, and we should consider the need for phasing in any new arrangements we require as the UK and the EU move towards a new partnership.

It is, however, in no one’s interests for there to be a cliff-edge for business or a threat to stability, as we change from our existing relationship to a new partnership with the EU. Instead, we want to have reached an agreement about our future partnership by the time the two year Article 50 process has concluded. From that point onwards, we believe a phased process of implementation, in which the UK, the EU institutions and Member States prepare for the new arrangements that will exist between us, will be in our mutual interest. This will give businesses enough time to plan and prepare for those new arrangements. This might be about our immigration controls, customs systems or the way in which we cooperate on criminal and civil justice matters. Or it might be about the future legal and regulatory framework for business. For each issue, the time we need to phase in the new arrangements may differ; some might be introduced very quickly, some might take longer. And the interim arrangements we rely upon are likely to be a matter of negotiation. The UK will not, however, seek some form of unlimited transitional status. That would not be good for the UK and nor would it be good for the EU.

As the House of Lords International Trade Committee report notes: “This position clearly rules out the possibility of merely extending the status quo from 2019 and then, over a protracted period, negotiating an FTA on that basis.

In fact, the official UK position as restated by the new UK ambassador to the EU is still that a trade deal can be negotiated within the two year Article 50 TEU timeline. To most outside observers and even some Brexiteers, this is absurd. Indeed, it seems there is tension between those ministers who want to leave EU before negotiating and those, led by current UK Chancellor Philip Hammond (who has played a noticeably low-key role in the current UK election campaign and who is rumoured may not keep his job if the Conservative Party returns to power), who believe leaving without transitional arrangements would be highly risky. POLITICO has reported that there are discrete talks going on in Geneva about a possible 10-year interim arrangement. Hopefully, with the formation of the new government after the UK election, there will be greater clarity over the UK position on this issue.

Conclusions

In this post, I argue that the EU needs to give greater prominence in the Article 50 TEU negotiations to the nature of immediate post-Brexit trade arrangements than is evident in the European Council guidelines or the Commission’s negotiating directives to date. This is necessary to avoid the ‘cliff-edge’ if the Article 50 negotiations are successful, and to mitigate the damage of the UK ‘crashing out’ of the EU if they are unsuccessful.

This is both because of the EU’s own offensive interests in maintaining its access to the UK market after Brexit Day, but also because of the apparent disarray on the UK negotiating side which means that the EU cannot just wait for the UK to put forward proposals to cover these issues. The EU needs to be much more pro-active on the trade dossier than it has been to date. While settling the financial terms of the UK’s departure is undoubtedly important, the sums involved pale into insignificance compared to the potential damage of disruptive trade arrangements following Brexit Day. It is thus not in the EU’s own interest to leave discussion of trade issues to the dying days of the negotiations.

I do not cover in this post the potential options for interim/ transitional/ phasing-in arrangements. My view is that there is a strong case for the UK to remain in the customs union on an interim basis for a period of years even if it leaves the single market. How to ensure this could happen from a legal perspective is a huge issue in itself.

Even in this case, there would still be the need for a series of bilateral agreements on trade facilitation to try to minimise the inevitable non-tariff trade costs which will arise, subject to the over-riding principle that “A non-member of the Union, that does not live up to the same obligations as a member, cannot have the same rights and enjoy the same benefits as a member” (European Council guidelines).

There are other issues to be teased out around an interim arrangement should one be agreed. Would there be issues in ensuring it would be compatible with the GATT Article XXIV rules on discriminatory trade agreements? Would approval of EU national parliaments as well as the Council and European Parliament be necessary?

For all these reasons, trade issues cannot be left to the end of the Article 50 TEU negotiations. Traders will be entering into contracts to be executed after Brexit Day already in the early part of next year. Legal clarity will be needed then on the treatment of these goods if trade disruption is to be avoided. I do not have the sense that the urgency of addressing these issues has been fully appreciated by the EU side, let alone the UK.

This post was written by Alan Matthews.

Photo credit: US Mission to the EU

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