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After the Transition Agreement. Deal or No deal. Robert Lee

The EU: peacemaker or disturber
Written by robert Lee

Robert Lee argues that the outlook for Brexit has become distinctly more optimistic from a UK point of view, just as the general economic performance of the UK appears strong.

This article argues that the prospects of a successful outcome to the final EU/UK negotiations have markedly increased following the agreement on a transitional period reached last week. In order to make this case the transitional arrangement itself needs to be examined, as it holds significant clues as to the final outcome, and this analysis forms the first part of this article.  The second part puts forward a number of factors which further justify an optimistic outlook.

The Transitional Agreement

The UK government decided early last year that a transition period was required, in order to: give more time for the future EU/UK economic and security relationship to be agreed, provide more certainty for businesses and citizens in the meantime and avoid a “cliff-edge” situation, and enable both parties to prepare for and begin implementing the new relationship.

The transition has been agreed as starting from March 29th 2019 (the day the UK legally leaves the EU) and ending December 31st 2020 – a 21-month period. During this time the status quo largely prevails, as the UK:

  • Effectively remains in the single market and customs union.
  • Continues to accept free movement of EU citizens into the UK (and UK citizens into the EU)
  • Remains in the Common Fisheries Policy.
  • Continues under the jurisdiction of the ECJ, and accepts new EU laws, rules and regulations
  • Remains party to existing EU international agreements. This gives the UK more time in which to roll over existing EU FTA’s (free trade agreements) so that they continue to apply to the UK after Brexit.

There are some important changes to the relationship as well, as the UK will:

  • End much of its participation in EU institutions, including the European Council and European Parliament. All UK MEP’s will then be out of a job, including of course one Nigel Farage.
  • Thus become a “rule taker” during this period, though some limited safeguards and exemptions have been granted. For example the UK can opt out of new EU Council decisions in the areas of border checks, asylum and immigration for “vital and stated reasons of national policy”. A Joint UK/EU Committee will also be set up to implement and apply the agreement.
  • Have the ability to negotiate AND sign trade agreements with non-EU countries (though not implement them until January 2021). Thus, from next April the UK will have an independent trade policy for the first time in over 40 years. It is notable that the UK chose to spend its political capital in extracting this concession – a sure sign that the government is serious in its intention of leading a global free trade movement.

The transitional agreement also confirmed and put into legal text the December agreements on citizen’s rights and the financial settlement. The Irish border question was not resolved, but very significantly this did not prevent agreement being reached on a transition period (this is discussed further later in the article).

This agreement has been broadly welcomed, especially by business, but has also been portrayed as the UK having largely conceded to EU demands. It has been vociferously condemned by some arch-Brexiteers and those representing the UK fishing industry. Writing as a staunch supporter of Brexit myself I am very disappointed that the UK will not be taking back control of its fishing waters next year. The fishing industry was very badly affected by the decision to join the EU and has struggled ever since. It is a great pity they are not to be among the first to benefit from leaving. It is also disappointing that the UK cannot start imposing its own immigration policy until 2021.

However, the view that the UK has just rolled over to the EU is misleading. It should be recalled that it was the UK that requested the transition period in the first place, heavily influenced by requests from business and industry. There are significant benefits to the UK (and the EU it must be said) from a longer preparation period than provided for by Article 50. It is essential though and welcome that it is strictly time-limited, as in the real world the longer time people are given to prepare the longer they tend to take! The EU’s concession that we can start negotiating our own trade deals immediately is a very important one, as is the EU’s more helpful attitude towards the UK rolling over the EU’s FTA’s. Threats that Gibraltar would not be included in the transition agreement also came to nothing.

Probably the most important concession the EU has made is one that has been very little commented on. The UK has consistently argued that the problem of avoiding a hard border between Northern Ireland and the Republic of Ireland cannot be finally resolved until the details of the future EU/UK trading arrangements are agreed. This is a matter of common sense, but until now has been resisted by the EU and by the Republic. They have now effectively agreed that the solution must be arrived at by the joint efforts of the UK, N. Ireland and the Republic, rather than their previous insistence that the UK must provide a solution before trade talks can begin. This is a big step forward, and a big “win” for the UK. As discussed in previous updates, there is no reason for a hard border between the two Irelands as long as there is goodwill and cooperation between all sides (for those interested, see the article “How to fix the Irish Border problem” at https://capx.co/how-to-fix-the –irish-border-problem/ for a detailed template for how this can be done).

What some see as the UK’s overly conciliatory negotiating approach also needs to be seen in the context of reconciling the divides in the UK between Remain and Leave. A hard-line Brexit negotiating position was never going to reconcile the country’s divisions, nor would it achieve consensus in Cabinet. Furthermore, I think the UK’s strategy is to play a long game. Brexit secretary David Davis has intimated that they see little value in using up political capital and negotiating time in securing only short term gains. The real prize is getting the right deal, and prepared in the right way, for the true post-Brexit period after December 2021. This is the context in which the disappointments on fishing and immigration policy will be judged. Which brings me to the second part of this article……..

What are the Prospects for a Successful Outcome to the EU/UK Negotiations?

I have always been confident that there would be a good outcome to these talks – what one of my Remain friends (I do have some!) called my “painful optimism”! Well, I am happy to tell you that, as a result of recent events, I am even more confident. Here’s why:

  • Mrs May was heavily criticised last year for allowing her cabinet to be openly divided on Brexit policy. Here again there is evidence of a long game being played. Over the months a common position emerged through a clever mixture of constructive ambiguity, internal and external debate, the course of events, and the use of fait accompli. By early this year the main point of difference was the degree to which the UK wanted regulatory divergence from the EU. Crunch talks eventually took place and the agreed answer was “quite a lot of divergence, over time”. The Cabinet now seems genuinely united around a central position, which sees close alignment of regulation in some areas – notably manufactured goods – but wide divergence in others, notably in the services sector. Where divergence is sought the philosophy is higher standards, or standards more appropriate to the UK – and definitively NOT the “race to the bottom” approach which the EU feared.  A united Cabinet is a big step forward.

 

  • The UK has agreed to a substantial financial settlement but recall that “nothing is agreed until everything is agreed”. This now gives the UK a stronger hand. Without the UK’s money the EU is in serious financial and political difficulty, and without a trade agreement there is no money.

 

  • The EU has already softened its approach to the trade talks. Michel Barnier insisted for many months that what was on offer was either the Canada model (free trade on goods and agriculture only) or the Norway model (stay in the single market). No bespoke deal was possible, and nothing on services. David Davis, on the other hand, wanted a “Canada plus, plus, plus” deal. More recently Mr Barnier has conceded that Canada plus was possible. The UK strategy now – led by Chancellor Philip Hammond – is to argue that it is very much in the EU’s interest to offer a deal on financial services. The City is not only a UK asset but a European asset – much of European industry relies on the City for cheap and efficient finance. The UK manages E5trillion of assets on behalf of EU clients. Around two thirds of debt and equity capital raised by EU corporates is facilitated by banks based in the UK, and 78% of European forex trading and 74% of European interest rate derivatives trading takes place here. The main beneficiaries of “no deal” on financial services would not be Frankfurt or Paris, but New York, Hong Kong, and Singapore.  This brings me to the next point.

 

  • The EU 27 are a lot more divided on the future trading relationship with the UK than they were in the Withdrawal and Transition phases. The UK has for months been putting its case to individual countries, and the message seems to be getting through. Even if the EU Commission wants to pursue a hard-line they will get much more pressure from member countries than they have so far. Crucially, the EU country with by far the most to lose by a “no deal” scenario is Ireland. As the talks progress it will become ever more in their interest to cooperate in the search for answers to the border question.

 

  • The transition talks progressed more smoothly than expected. This was only partly because the UK decided not to play hardball on key issues. In lengthy negotiations like these the key participants can learn to trust each other – even like each other! –and come to understand the other sides key objectives. Both sides make an ever greater investment in the ultimate success of the talks. I got to know very well Dr Willie Esterhuyse, who was a key participant in the negotiations to end White rule in South Africa. This is the process he described to me, and those talks were in many respects more fraught with difficulty than the EU/UK talks. It was very striking that during the transition talks there were no leaks, and were completed on time – a big contrast with the earlier phase. Michel Barnier will not achieve his reputed ambition of succeeding Jean Claude Junker as Commission President if these talks fail!

 

  • My previous Briefings for Brexit article on “The Euro Crisis: Forgotten but not Gone” speculated that the Euro crisis may re-ignite while the talks are still underway. Without going into detail, a good case can be made that a more general global downturn is on the cards. This could help or hinder the talks, but my guess would be that more difficult economic conditions would concentrate minds on the need for a win-win outcome.

 

  • It can’t be stressed enough that these talks start from the unique position of no tariffs, limited non-tariff barriers, and complete regulatory alignment. All else being equal this makes eventual and timely agreement all the more likely.

There will be many moments of drama yet to come. The talks will probably go to the wire. Difficulties will probably emerge that nobody has thought of yet. However, for the above reasons I am confident that the UK will in the end achieve an FTA with the EU which is at least Canada plus, plus –that is including a substantial agreement on services, including financial services. There will be a security partnership – we have too much to offer the EU for this not to happen. There will be agreements on aviation, intellectual property rights, education links, nuclear fuels, and the like. We will regain control of our border, laws, money – and fishing waters. Recent events make it clear that the UK fishing industry cannot be ignored – too many  Conservative MP’s, including probably all Scottish Tories, would vote against a deal which tried to do so. Mrs May has now pledged that the UK fishing industry will be re-built. The news that the UK has recently taken delivery of the first of five £116m gunboats for the Royal Navy Fishery Protection Squadron is an indication of real intent.

So, it’s going to be a bumpy ride folks, but I think the “no-deal” scenario is now very unlikely!

Economic Footnote

There has been some important encouraging economic news recently – despite Brexit! – which I can’t fail to mention. Firstly, the UK government moved into a current budget surplus in 2017. This means that all current spending is financed by tax revenue, so that the borrowing that is taking place is purely financing government investment spending. All economists agree that this is a much more sustainable fiscal position than borrowing to pay for current spending which, unlike investment spending, gives no future return to help finance interest payments. Secondly, 2017 also saw a very sharp fall in the UK’s trade deficit (that is excess of imports over exports). The trade deficit declined from £40.7bn to £28.3bn – a fall of 30%. Current surveys show that a further significant fall is likely in 2018.

Thirdly, the inflation rate has started falling from a peak of 3% to 2.7% last month. The rise in prices caused by the depreciation of Sterling is coming to an end, and further falls in the inflation rate are likely. Furthermore, the rate of increase in wages has risen to 2.8% – the highest figure for a number of years – and labour market strength indicates wage growth may rise further. So, the negative effects of the Brexit-induced devaluation – higher inflation – are ebbing away, but the benefits – a big improvement in trade performance – are set to continue. If there is to be a global downturn in the next year or so, as speculated above, then these developments give the UK a degree of resilience that was not there before.

Passport Footnote

I am of that older generation that used to have a blue British passport, and will be applying for one as soon as they are available. The government’s decision to prioritise this change was much mocked by some anti-Brexiteers, and the recent announcement that these passports are to be made by a Franco-Dutch company was cue for much giggling from the same quarter. This amusement pictures the disgruntlement caused to Brexiteers by this decision, who they believe to be inward looking and “nativist”. A few Brexiteers have indeed harrumphed in this way. However this passport issue illustrates in small but highly symbolic ways exactly why Brexit will be a success. Firstly, the new passport reminds us that the return of sovereignty is central to Brexit, with all the benefits that will bring. Secondly it demonstrates that Brexit Britain is serious in its intention to be an outward looking nation, providing a much needed global lead towards free trade and away from protectionism. So the laugh is actually on those doing the mocking!

About the author

robert Lee