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Driving off a Cliff Edge? Is Brexit really the cause of the problems with the UK car industry?

Assertions about the plight of the car industry are a favourite theme of Remain propaganda, and are rarely contested. The real story is of an industry facing challenges that have little or nothing to do with Brexit. Brexit, indeed, should facilitate solutions to the real problems.

This is unquestionably a difficult time for the UK car industry. Figures from the trade body, the Society of Motor Manufacturers and Technicians (SMMT), suggest that the number of new cars sold in the UK declined by 9% in 2018. This decline seems to have slowed somewhat in 2019, but year-on-year sales are still down further over the past 12 months.

Car manufacture is an important sector for the UK. SMMT figures indicate turnover of around £82 billion, direct employment of 186,000 people and a broader 856,000 working across the wider automotive supply chain. Vehicle exports account for around 12% of total UK exports, albeit that the UK imports more than it exports – the net trade balance is a deficit of approximately £2 billion. Part of car manufacture involves trade in automotive parts – the UK exporting around £5.1 billion and importing a further £12.8 billion.

The SMMT has been quite vocal in claiming that a no deal Brexit represents “a clear and present danger” to the industry, due to a combination of Brexit uncertainty delaying investment, contingency spending increasing costs, worries over access to future skilled workers and the threat of tariffs on exports to the EU. Potential delays to the movements of parts across borders are highlighted as potentially disrupting the just-in-time (lean) manufacturing process. As a result, the SMMT has even gone so far as to claim that trading on WTO terms risks “permanent devastation” which may result in “destroying” the car industry.

Industry lobbying is therefore focused upon campaigning against trade on WTO terms and favouring ‘frictionless’ trade alternatives, which presumably implies regulatory harmonisation and continued membership of the customs union and potentially also the single market – the so-called ‘Norway-Plus’ option.

There are, however, two problems with this narrative.

The first is to question whether Brexit is indeed the main, or even a significant contributory, cause for the industry’s current difficulties.

The second is to consider whether Brexit can in fact be part of the answer to these current difficulties.

Looking at the evidence behind the headlines puts the first claim into a little more perspective.

The most significant issue facing the global car industry at present concerns the trade policy introduced by President Trump, which, although primarily targeted on China, has spilled over to impact Europe, Canada and Mexico. This occurs at a time when new car sales are falling in both the US and China – the latter exacerbated by Chinese government’s removal of certain tax allowances on the purchase of new cars – thereby causing manufacturers to adjust supply to changes in demand. This has been cited as a significant factor in Honda’s decision to close its Swindon manufacturing plant and refocus its attentions on production in the USA to avoid potential tariffs levied on European production.

A second complication is the trade agreement between the EU and Japan, which entered into force in February 2019, and which will reduce barriers, gradually over the next decade, to Japanese firms exporting cars directly from Japan rather than locating plants in the UK or other EU member states. Honda’s decision to close its Swindon plant in 2021 and develop new models back in Japan should be viewed in this light. The company expressed a desire to focus its innovation in new models and production at its home base to secure economies of scale. The removal of tariffs from production from its home base meant that there was less need to retain overseas manufacturing in the UK.

A third factor relates to changes in demand for particular types of vehicle. The most obvious example of this concerns the sharp decline in consumer demand for diesel cars, following the 2015 emissions scandal. The growth of diesel was dramatic, as only 6% of new cars in the UK in 1990 were diesel powered, and yet this rose to 50% by 2014. This switch from petrol to diesel was actively encouraged by the European Commission, as a means of achieving its stated environmental objectives. One estimate is that, in the absence of Commission and resulting national government intervention, the market penetration of diesel cars in Europe would have likely stabilised at around 15% market share. The reaction to the emissions scandal, combining tighter EU emissions regulations and more adverse consumer demand, has caused a correction in this section of the car market, with demand for petrol cars rising. Demand for alternatively powered vehicles (i.e. hybrid, electric, gas) remains constrained by current battery limitations and under-developed recharging infrastructure. Nevertheless, policy commitments to grow this segment of the market significantly in the medium term, together with consumer interest in less polluting vehicles, have caused car manufacturers to increase investment and R&D in this area. A separate issue concerns the decline in luxury cars in China, which has impacted upon Jaguar Land Rover. This has led to an over-supply problem and the company are reducing output as a result. Finally, car manufacturers have to take into consideration the potential for shared mobility platforms (i.e. Uber) to reduce future demand for car ownership.

These demand factors have necessitated the reconfiguring of manufacturing plant and the introduction of new lines of investment. These have happened irrespective of Brexit. The only indirect link may be that any uncertainty surrounding the future trading policy of the UK may delay or defer investment in UK plant, thereby slowing the UK industry’s response to these global changes in demand and eventually undermining the attractiveness of the product for consumers. The fact that investment in the UK industry has fallen from around £2.5billion in 2015 to less than £0.6billion in 2018 signifies the degree to which necessary innovation is being unduly delayed.

Economists have long known that uncertainty tends to depress investment and activity – indeed that was the essence of the argument for a more active macroeconomic policy advocated by Keynes in 1936. However, the existence of uncertainty does not in and of itself provide an argument against Brexit or indeed any particular form of Brexit. Rather, it is an argument for minimising uncertainty by getting on and actually delivering the referendum result with no more extensions or delays. In addition, government should use Keynesian techniques to ensure a level of aggregate demand sufficient to encourage the resumption of investment across key sectors of the economy.

The challenges faced by the UK car industry, therefore, are primarily issues of changing patterns of demand, with the added complication posed by US trade policy, the consequences arising from the free trade agreement between the EU and Japan, and a general uncertainty caused by inactive government policy. When asked to account for their restructuring decisions, these are the primary factors mentioned by the manufacturers themselves. Moreover, this type of restructuring is occurring across the globe, with plant closures and job losses experienced in Europe (including France and Germany) and the USA, which are hardly anything to do with Brexit.

This is not to dismiss the existence of any potential Brexit effect. The SMMT are correct to highlight potential cost implications which may arise from delays at customs checks and/or the imposition of tariffs, likely to range from 8-10% in the advent of a ‘no deal’ Brexit, alongside the need to access sufficient skilled workers to avoid future production bottlenecks. It is the job of an industry trade body to make policy makers aware of challenges for their industry which may arise due to policy changes.

Nevertheless, it is a stretch too far to build these challenges into a rhetoric which seeks to portray a ‘no deal’ Brexit as inevitably leading towards the “permanent devastation” of the UK industry. These challenges are fundamentally about cost and access to talent. Both could be addressed directly through government policy. Indeed, this would be easier to achieve for the UK as an independent nation, freed from the constraints of single market and EU competition rules.

Skills development could be facilitated through on-the-job training subsidies, possibly through the introduction of a training levy on those employers who free ride on the human capital investment undertaken by their competitors, alongside greater investment in technical education. Moreover, the outline of proposed post-Brexit immigration policy would appear to encourage, not discourage, the inward flow of skilled (as opposed to unskilled) labour from not just the EU but globally.

Cost increases incurred as a result of tariffs or non-tariff barriers could be offset by the maintenance of a competitive exchange rate. Interestingly, the SMMT appears to dismiss this option by claiming that this would increase the cost of imported inputs and hence “negating any cost advantage” [my emphasis]. Once again, this critique is over-done. Components are necessarily a fraction of the cost of the finished car and imported components account for less than 16% of the total value of finished vehicles, according to SMMT figures. Hence any increase in price of components will be more than offset by the more competitive international price of the completed vehicle – assuming, of course, that manufacturers pass this exchange gain on to overseas customers and do not simply use it to increase profits. But in that case, the threat to the car industry would be due to company short-sighted behaviour and not Brexit per se.

In addition, if the price of imported components did rise, there would be an incentive for manufacturers to nurture a local supply chain, which would avoid potential customs delays and/or tariffs. This might involve certain deadweight costs, as a local source may produce at higher pre-tariff (but lower post-tariff) cost than an international supplier. However, there would be spillover benefits to the local economy, in the form of the growth of new industries and well paid employment opportunities, whilst reducing environmental damage caused by the long distances components currently travel as an essential feature of the just-in-time international sourcing system currently applied. If the environmental externalities were properly accounted for as part of this ever more complex system, where we are informed that car components cross borders multiple times before being fitted to a finished vehicle, then perhaps the shortening and localising of supply chains would be perceived by the industry as a positive development.

One significant feature of a more active industrial policy, which could be introduced following the UK’s withdrawal from the EU (assuming this occurred without requirements on regulatory and competition harmonisation), should be focused on building precisely this sort of locally integrated supply network. There have been suggestions that the UK government may have made a commitment to support this type of endeavour with Nissan, after the 2016 referendum result. However, delays in the implementation of Brexit and vagueness in planning post-Brexit government economic strategy has proved insufficient to date to over-ride the global demand implications for many car manufacturers and ensure their long term commitment to the UK as a production and R&D base. Government should act with more urgency on this issue and work with the car industry to develop a post-Brexit strategy that utilises greater policy freedom to meet many of the industry’s concerns, without being tied into passively accepting and implementing all EU-determined rules and regulations.

A more active industrial policy could perform a second role. House of Commons select committee reports have highlighted the UK’s current slow progress on providing infrastructure for electric and liquid gas powered vehicles, which in turn constrains this segment of market growth in the domestic market. This, in turn, undermines the willingness of manufacturers to site R&D and electric car production facilities in what remains a slow growth market rather than choose a location more germane to more favourable demand conditions. As a result, government expressions of support for innovation and investment into the next generation of electric vehicles would appear to remain insufficient to deliver their stated objectives – i.e. to make the UK a world leader in this future potential growth market. More effective policy intervention is required, and the policy flexibility provided by Brexit would offer one opportunity to directly invest in, and hence steer, the development of this emerging technology within the UK.

In conclusion, whilst Brexit does have a number of potential cost implications for UK car makers, these are of secondary importance when seeking to understand the reasons for the current global restructuring of the industry, which is largely the result of US trade policy and changing patterns of demand. Moreover, costs can be ameliorated or offset by judicious government policy which would be made easier to introduce once Brexit is completed, as long as the UK does not agree to harmonised regulations and competition policy. The so-called ‘level playing field’ that Theresa May accepted as part of her withdrawal agreement, and which the SMMT seem so eager to form part of any future trade relationship between the UK and the EU, would frustrate many of the policy interventions that would make Brexit work.

If designed and implemented correctly, it is in the introduction of a more active industrial and macroeconomic policy that could potentially ease some of the difficulties faced by the UK car industry. Uncertainty could be addressed. Rising demand could help stimulate car sales in the domestic market. Better targeted infrastructure investment and direct industrial strategy market shaping could help to facilitate the development of an electric vehicle sector. Skills policies could ensure a productive and flexible future workforce. R&D credits and the maintenance of a competitive exchange rate could offset any cost increases resulting from a ‘no deal’ Brexit and/or the introduction of rule of origin regulations. Thus, by making these interventions easier, Brexit could itself become part of the solution, rather than being portrayed as part of the problem.

 

1 https://www.smmt.co.uk/2019/06/uk-new-car-market-falls-again-in-may/

2 https://www.smmt.co.uk/industry-topics/uk-automotive/

3 https://commonslibrary.parliament.uk/insights/whats-driving-the-uk-car-industry-crisis/

4 https://www.smmt.co.uk/2019/02/brexit-represents-a-clear-and-present-danger-to-uk-car-industry/; https://www.ft.com/content/1982d8ee-7907-11e8-bc55-50daf11b720d; https://www.theguardian.com/politics/2018/jun/26/brexit-uncertainty-putting-860000-jobs-at-risk-warns-car-industry

5 https://www.theguardian.com/business/2017/mar/03/brexit-uk-car-industry-mini-britain-eu; https://www.independent.co.uk/news/business/news/brexit-no-deal-latest-risks-destroy-uk-car-industry-effect-house-of-commons-vote-a8728661.html ; https://www.theguardian.com/business/2018/jun/25/bmw-will-shut-uk-sites-if-customs-delays-clog-supply-post-brexit

6 http://fortune.com/2019/01/31/brexit-uk-auto-industry-damage/; https://www.independent.co.uk/news/business/news/brexit-no-deal-latest-risks-destroy-uk-car-industry-effect-house-of-commons-vote-a8728661.html

7 https://www.bbc.co.uk/news/business-47391800

8 https://www.bbc.co.uk/news/uk-england-wiltshire-48255590?intlink_from_url=https://www.bbc.co.uk/news/business/global_car_industry&link_location=live-reporting-story

9 https://commonslibrary.parliament.uk/insights/will-the-wheels-fall-off-the-diesel-car-boom-in-the-uk/

10 Cames and Helmers (2013), ‘Critical Evaluation of the European Diesel Boom – Global comparison, environmental effects and various national strategies, Environmental Sciences Europe, 25(15): 1-22. Available via: https://core.ac.uk/download/pdf/81080846.pdf

11 https://www.acea.be/uploads/statistic_documents/Economic_and_Market_Report_full-year_2018.pdf

12 https://www.mckinsey.com/industries/automotive-and-assembly/our-insights/how-shared-mobility-will-change-the-automotive-industry

13 https://www.bbc.co.uk/news/business-47055188

14 https://www.bbc.co.uk/news/uk-wales-48533790; https://www.bbc.co.uk/news/business-47291627

15 https://www.bbc.co.uk/news/business-48340619?intlink_from_url=https://www.bbc.co.uk/news/business/global_car_industry&link_location=live-reporting-story

16 https://www.smmt.co.uk/industry-topics/brexit/automotive-brexit-myths-busted/

17 House of Commons Business, Energy and Industrial Strategy Select Committee (2018) report Electric Vehicles: Driving the Transition, HC 383. The report can be accessed via: https://publications.parliament.uk/pa/cm201719/cmselect/cmbeis/383/383.pdf, and the government reply via: https://publications.parliament.uk/pa/cm201719/cmselect/cmbeis/1881/1881.pdf.

About the author

Professor Philip B. Whyman

Philip B. Whyman is Professor of Economics and Director of the Lancashire Institute for Economic and Business Research (LIEBR) at the University of Central Lancashire.