What does leaving the EU mean for trade?

28 June 2016

This briefing is largely based on the briefing by the House of Commons Library ‘EU referendum: impact of an EU exit in key UK policy areas’. The opinions and judgements it contains are theirs. We expect to review and add to these articles periodically as events develop.

The EU is the largest trading partner of the UK. It accounted for 44% of the UK’s goods and services exports in 2015, though this figure has decreased compared to previous years. It also delivered 53% of the UK’s imports.   

The UK’s new trading relationship with the EU will depend on negotiation. A vast number of different arrangements could result. For the purposes of analysis, this briefing considers what might happen if the UK negotiates no preferential access to the EU’s single market. In this instance, the terms of World Trade Organization (WTO) membership limit the range of outcomes.

For more information about our existing trade with the rest of the EU, read our briefing

Tariff barriers

The principle of non-discrimination means that WTO members must not treat any member less advantageously than any other: grant one country preferential treatment, and the same must be done for everyone else.

There are exceptions for regional free trade areas and customs unions like the EU, but the principle implies that, outside of these, the tariff that applies to the ‘most-favoured nation’ (MFN) must similarly apply to all.

In practice, this should prevent the EU introducing tariffs on the UK which would discriminate against us or punish us, or the UK introducing similar tariffs on the EU. The maximum tariff that can be applied will be the same as the tariff applied to the MFN. The EU’s MFN tariff has generally fallen over time, meaning that in this particular context the ‘advantage’ of membership has declined.

In 2013, the EU’s trade weighted average MFN tariff was 2.3% for non-agricultural products. This is an average figure and tariffs on some individual products are much higher, especially on agricultural goods. The EU tariff on cars, for example, is 10%.

However, given that MFN tariffs would be imposed on many of the UK’s goods exports to the EU, it might mean many exporters become less price competitive than their counterparts operating within the EU, and those within countries with which the EU has preferential trading relationships.

The House of Commons Library says that because the UK has negotiated as part of the EU at the WTO, it is likely that we will inherit the EU’s tariff regime when we leave. This would mean that UK consumers could face, higher prices, at least initially, when buying imports from the EU.

Non-tariff barriers

Non-tariff barriers to trade refer to a range of measures that reduce imports, either intentionally or unintentionally. They include anti-dumping measures that prevent goods being exported at a price below the amount it costs to produce them (usually by an additional duty being applied), and product standards, such as labelling, packaging and sanitary requirements.

Giving support to domestic producers and export subsidies, such as those provided by the EU under the Common Agricultural Policy, can also be interpreted as non-tariff barriers as they disadvantage foreign producers’ access to the single market.

As tariff barriers have been falling, such non-tariff measures have become more widely used as a means to protect domestic producers from foreign competition.

The House of Commons Library says the terms of WTO agreements limit when non-tariff measures can be applied. They also uphold the principle of “non-discrimination” that prevents measures being introduced against the UK which are unfair. Many of the EU’s anti-dumping measures are against China and other Asian countries. Few are against other advanced Western countries.

Just as important for trade, are the standards required of products imported from outside the EU. All UK businesses must comply with these standards already, although leaving the EU might lead to costly differences between the UK and EU product standards. On the other hand, Leave campaigners have argued that if we leave the single market as well as the EU, only exporters will have to be bound by the EU’s product standards.  Other businesses would be free to operate under a UK regime.

Services trade

Exports of services to the EU are significant: in 2014, the UK exported services worth £84 billion to the EU (37% of all UK exports to the EU). UK imports of services were worth £63 billion (22% of all imports from the EU).

Without further negotiation, the UK’s trade in services with the EU will be governed by the WTO General Agreement on Trade in Services (GATS). Under this agreement, EU member countries (and other parties to the agreement) have chosen which service sectors they are prepared to reduce trade restrictions for, and the time scale over which they wish to do so.

As with trade in goods, GATS also operates on the principle of “non-discrimination”, meaning broadly that aside from preferential agreements, all non-EU countries must have the same levels of access to the EU’s market.

Barriers to services trade are usually in the form of non-tariff barriers such as domestic laws and regulations. In general, services markets are more highly regulated than goods markets, according to the Library.

EU member countries have considerable national control over services regulation and supervision. Just as a fully level playing field in services trade does not exist within the EU, exporters from outside the EU also face different levels of market access in individual EU countries. If the UK does trade under the GATS agreement, then our market access will be far more limited than it is currently.

As well as affecting cross-border trade in services, these restrictions could also have implications for UK companies providing services through their branches based in other EU countries.

The EU Treaties require that a service provider from one EU country must be allowed to set up shop in another EU country. They also say that these service providers should continue to be regulated by the authorities of its home country.

Once the UK has left the EU, a UK company that provides services through establishments in other member countries may find that it has to comply with the rules of a foreign regulatory authority.

EU exit under a negotiated arrangement

Beyond the “most-favoured nation” (MFN) position, there are many more preferential trade arrangements between the EU and UK that could be negotiated. For example, the UK might be able to negotiate a free trade agreement with the EU.

Unlike a customs union, a free trade agreement would allow the UK to set its own tariffs on trade with countries outside the free trade agreement. It is not clear how keen the EU will be to enter into a free trade agreement with the UK.

That said, the UK is an important market for the rest of the EU. The rest of the EU had a trade surplus with the UK of £59 billion in 2014. The UK had a trade deficit with 20 of the other 27 EU member states in 2014 and a deficit of £27 billion with Germany alone. These commercial considerations might lead to pressure for a UK-EU free trade agreement.

There is likely to be a trade-off between the level of access to the single market, and freedom from EU product regulations, social and employment legislation, and budget contributions.

If a ‘Swiss’ or a European Economic Area (EEA) model can be negotiated, restrictions on trade will be significantly reduced. In particular, the EEA has full, tariff-free access to the internal market, and Norway, Iceland and Liechtenstein have to abide by the EU’s ‘four freedoms’ on the movement of goods, services, capital and labour, just as full EU members do.

However, compared to being a full EU member, a number of restrictions on trade would still apply under an EEA or ‘Swiss’ approach. These include restrictions on rules of origin; anti-dumping and other non-tariff barriers, and restrictions on services trade. Read the Commons Library briefing for more information.

What will happen to trade relationships with countries outside the EU?

The EU has negotiated a range of preferential trade agreements with other countries. A number of opinions have been put forward on what might happen to these agreements now the UK has voted to leave the EU.

For example, in evidence to the Foreign Affairs Committee, Cambridge Law Professor Sir Alan Dashwood QC, said:

“Take the example … of the free trade agreement with South Korea, which has been very favourable to the UK. […]. The UK will not be able to—well, it could not—stay as a part. Although it is a free trade agreement, it is still a mixed agreement because it goes a little further than the core area of the common commercial policy. Nevertheless, I don’t believe that the UK could retain the rights and obligations that apply to it under the agreement. We would have to renegotiate …”.

The issue was also raised in evidence to the Treasury Committee, where there were mixed views as to whether this would be the case.

A paper by the Institute of Economic Affairs has taken a different view:

“As a WTO Member and signatory of the EU’s Free Trade Agreements (FTAs) in its own right, the UK will continue to be bound by these obligations and should expect other countries to reciprocate.

“The UK, like all other EU Member States, is a member in its own right of the WTO. Though currently its tariffs and services obligations are incorporated in the schedules for the EU, they would still stand as an obligation on the UK if the country exited the EU. Similarly, the UK signs and ratifies EU trade agreements in its own right, even though all negotiation is done by the Commission.”

If the UK does not provide the same level of market access to third countries as under the current EU arrangements, the EU may have to pay compensation to the affected countries with which it has a trade agreement, as a result of the ‘shrinking’ of the market from what was originally agreed. The EU raised this concern in 1983 in the run-up to Greenland’s exit from the EU.

Any agreement might require the UK to keep its trade negotiations with countries outside the EU consistent. This might limit how much independence we will have over trade policy even after we leave the EU.

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