Service on WTO and Trade Issues (Mar20/03)
to EU could fall by $32 billion post-Brexit
Geneva, 27 Feb (Kanaga Raja) -- In the event of a "no-deal" Brexit, the United Kingdom risks losing up to US$32 billion or 14 per cent of its exports to the European Union (EU) due to tariffs and non-tariff measures (NTMs), according to a new study by the UN Conference on Trade and Development (UNCTAD).
According to the study, titled "Brexit beyond tariffs: The role of non-tariff measures and the impact on developing countries", potential losses under a "no-deal" Brexit from tariffs that may be imposed by the respective parties are estimated at between $11.4 billion and $16 billion, or 5-7% of current exports.
NTMs would double those losses, said UNCTAD.
UNCTAD also said that exports from developing countries into the United Kingdom, and to a smaller extent into the EU, could increase if the former does not increase tariffs for third countries.
The study said: "The key takeaway from the results for developing countries is that they could see substantial market opportunities in the United Kingdom, and to a lesser extent the European Union, following Brexit."
The study was authored by Ben Shepherd, Principal, Developing Trade Consultants, New York, and Ralf Peters, Chief, Trade Information Section, Trade Analysis Branch, UNCTAD Division on International Trade and Commodities.
UNCTAD said that even if a "standard" free trade agreement (FTA) were to be signed by the parties, the UK's exports to the EU could still drop by 9%.
The losses would deal a major blow to the UK's economy, as the EU market accounts for 46% of the UK's exports, said UNCTAD.
Mounting trade costs due to NTMs and potentially rising tariffs would more than double the adverse economic effects of Brexit for the UK, the EU and developing countries, it added.
At a media briefing on 24 February, Ms Pamela Coke-Hamilton, Director of the UNCTAD Division on International Trade and Commodities, noted that the UK triggered its exit from the European Union on 31 January 2020 and that it has given itself a transition period till the end of the year.
For now, goods and services continue to move freely and they will do so until the end of the year, and until they have negotiated an exit that will work for both parties.
According to Ms Coke-Hamilton, the issue, however, is that in a worst-case scenario, which is a "no-deal" Brexit, "our updated projections have shown that there will be a 14 per cent decline in UK exports to the EU."
When you take that in the context that 50 per cent of the UK's exports are to the EU, then it is a significant percentage of their overall exports per se, she added.
Ms Coke-Hamilton pointed out that the numerical equivalent of 14% is US$32 billion, which is equal to three times the actual contribution of the UK to the EU per annum.
So, their overall contribution to the EU would have been US$9 billion per year and they will lose US$32 billion per year if there is a "no-deal" Brexit.
This suggests that there are some challenges ahead, she said.
As to the primary reason for this, Ms Coke-Hamilton said "if we look at the tariffs - and much of the narrative has actually centered on the tariffs and possible increase in tariffs for UK products entering the EU - the actual decline in exports is between 5-7%."
However, what has been calculated is the impact of non-tariff measures. If the issue of non-tariff measures is not addressed in the context of an exit agreement with the EU, it will have significant repercussions on the economy and the exports of the UK.
She also said that Ireland will be the most impacted as an EU member state because of the issue of the borders (with the UK) and what will happen if they have to impose new or different restrictions and requirements, and how that will impact the Good Friday accords.
The UNCTAD study noted that at the end of January, the United Kingdom of Great Britain and Northern Ireland left the European Union.
During a transition period lasting until the end of 2020, the United Kingdom will continue to be a member of the single market, and apply and be bound by all European Union laws and regulations.
During this period, the European Union and the United Kingdom aim to negotiate a free trade agreement.
It is unclear whether or not, and if so, what type, of future trade agreement the United Kingdom may have with the European Union, said the study.
According to UNCTAD, the study aims to explore "an under-researched area in the quantitative literature on merchandise trade, namely the role of non-tariff measures (NTMs) in shaping the United Kingdom's future trade relations with the European Union."
NTMs include regulatory measures such as sanitary and technical requirements that have primarily non-trade objectives such as the protection of public health, safety or the environment, while affecting trade de facto.
"Our particular focus is on NTMs because much of the public debate on Brexit has revolved around tariff-related issues, even though NTMs are viewed by most firms and analysts as the key factors mediating market access in the current world economy," said the authors of the study.
On average, NTMs are three times more important for trade costs than tariffs and they disproportionately affect smaller companies.
Furthermore, NTMs are likely to become a contentious issue in the upcoming trade talks, they added.
They noted that the United Kingdom Prime Minister, Boris Johnson, in a speech on 3 February 2020 pushed to diverge from key European Union regulations.
The Prime Minister outlined his priorities for the imminent negotiations, suggesting there was "no need" for a free trade treaty to compel the United Kingdom to adhere to Brussels' regulations.
"There is no certainty as to what form that regulatory relationship might take," said the authors.
The authors said they simulated the possible impacts of leaving the European Union using a panel data gravity model for 1990-2015 to assess the trade promoting European Union membership effect after controlling for the effect of zero tariffs.
"We compare the membership effect with the effects of standard FTAs and customs unions. This allows us to identify the relative importance of NTMs in FTAs, customs unions and the single market European Union."
They found that there is a significant European Union membership effect.
Before accounting for general equilibrium effects, European Union membership is associated with a 37 per cent increase in bilateral trade among members, compared with 8 per cent for an FTA, and 13 per cent for a customs union.
Controlling for tariffs, the authors said they still found a significant effect for the European Union membership but not the other trade arrangements.
The authors interpreted the effect above and beyond tariffs as the European Union's impact on NTMs.
A potential increase of tariffs between the United Kingdom and the European Union, and taking rising trade costs related to NTMs into account, United Kingdom exports to the European Union can drop by 14 per cent in the absence of a free trade agreement and by 9 per cent even in the case a "standard" free trade agreement is signed, said the study.
Exports from developing countries into the United Kingdom and to a much smaller extent into the European Union increase.
The economic effects for the United Kingdom, the European Union and developing countries are about 2.5 times larger in the tariffs and NTMs scenario than in the tariffs only scenario.
Effects are strongest in agriculture, food and beverages, and wood and paper, and weaker but still significant, in electrical and machinery, metal products, chemicals, and textiles and apparel, said the study.
SOME MAIN FINDINGS OF THE STUDY
According to the study, realizing the proliferation and rising importance of NTMs, UNCTAD has worked on the topic since the 1980s.
In 2006, UNCTAD established the Group of Eminent Persons on Non-Tariff Barriers (GNTB) and a Multi- Agency Support Team (MAST) to develop a definition and a revised classification of NTMs to facilitate strengthening the transparency and understanding of NTMs.
NTMs include regulatory measures protecting health safety and the environment as well as traditional trade policy measures such as quotas and non-automatic licensing.
In developed countries, more than 80 per cent of trade is affected by non-tariff measures and in the European Union more than 90 per cent, said the study.
It noted that given that there are no customs tariffs applied on intra-European Union trade, the only measures maintained by member States that could conceivably affect goods trade flows among them are NTMs.
The study goes on to highlight the European Union membership effect, potential Brexit impact on trade and GDP, the impact on developing countries, and sector-specific effects.
As regards the European Union membership effect, using the panel data gravity model, the authors said when they simply compared the trade effects of European Union membership against membership of other FTAs or customs unions, they found that all three types of integration arrangement (memberships in FTA, in Customs Union and in the EU) promote trade among their members, but that the European Union effect is much stronger than either of the other two.
Before accounting for general equilibrium effects, European Union membership is associated with a nearly 37 per cent increase in bilateral trade among members, compared with 8 per cent for an FTA, and 13 per cent for a customs union.
However, the picture changes radically once the authors account for the impact of tariffs directly.
They found that of the three types of integration arrangement, it is now only the European Union that has a trade promoting effect (11 per cent).
"The obvious conclusion is that standard FTAs and customs unions have their trade promoting effects primarily through tariff reductions; there is little evidence that they provide substantial trade benefits to participating countries beyond those tariff reductions," said the authors.
While tariffs are important in the European Union context as well, there is nonetheless substantial evidence of a European Union effect on trade that is above and beyond the effect of zero tariffs.
"We interpret this as evidence of the effectiveness of the European Union's approach to dealing with NTMs. Quantitatively, our estimates suggest that around one-third of the European Union's total trade promoting effect among members is accounted for by the way in which it deals with NTMs," said the authors.
To show the impact that the United Kingdom's exit from the European Union could have on its trade relations, the authors simulated two counterfactual scenarios: one in which tariffs between the United Kingdom and the European Union are set to MFN levels from their status quo position of zero (tariffs only scenario; and one in which the tariff change is combined with an absence of the European Union's NTM effect).
The tariffs and NTMs counterfactual can be conceptualized as a "hard" Brexit, in the sense that there is no preferential treatment on either tariffs or NTMs (tariffs and NTMs scenario).
The difference between the first and second scenarios can be conceptualized as a "soft" Brexit: tariffs changes are the same, but the United Kingdom would continue to benefit from European Union's preferential treatment of NTMs within the bloc, as the evidence suggests that standard FTAs do not typically make such progress on reducing NTM-related trade costs.
The study found that the largest real GDP loss is for Ireland, a small open economy with a particularly close trading relationship with the United Kingdom. The United Kingdom itself has the second largest GDP loss.
According to the study, there is a loss of GDP in both scenarios, for the United Kingdom and European Union countries.
However, there is a considerable difference between the tariffs only scenario and the tariffs and NTMs scenario.
Economic impacts are about 2.5 times larger in the latter, it said.
The study also found that the United Kingdom's exports to the European Union would decline by over 5 per cent in the tariffs only scenario, compared with a decline of nearly 14 per cent in the tariffs and NTMs scenario.
On the import side, the difference is slightly smaller: a 4 per cent fall in the tariffs only case, versus an over 12 per cent fall in the tariffs and NTMs case.
The authors of the study stressed that these summary figures treat the European Union as a bloc. The impact is ultimately split across all other 27 European Union countries.
In percentage of baseline terms, individual European Union countries would see their exports to the United Kingdom fall by between 10 per cent and 12 per cent in the tariffs and NTMs scenario, but as the aggregate results show, the United Kingdom is a relatively smaller proportion of their aggregate trade than is the European Union as a destination for the United Kingdom.
As a result, aggregate trade and GDP impacts for European Union countries are typically much smaller than for the United Kingdom, the exception being Ireland.
As regards the impact on developing countries, the authors said they considered the impact of Brexit on their exports to the United Kingdom and the European Union respectively.
Given that a discrete bilateral relationship is involved, impacts are much more standardized on a bilateral basis, although there is variation among the admittedly small aggregate results.
Under the tariffs only scenario, exports of developing countries to the United Kingdom increase by 1.3 per cent to 1.5 per cent, with little variation from one region to another.
Under the tariffs and NTMs scenario, the increase is 3.5 per cent to 4 per cent, again with only a small amount of variation by region.
These figures are a baseline only, assuming in particular that United Kingdom tariffs and NTMs vis-a-vis third markets, especially developing countries, remain constant.
If regulations in the United Kingdom would divert over time from the European Union regulations, costs for production and conformity assessment are likely to increase for third countries exporting to the United Kingdom and European Union countries due to production process adjustment costs and potential duplication of proofs of compliance, said the study.
This may reduce positive export effects. Furthermore, if the United Kingdom changes its relative tariffs, e.g. by removing preferences or adding new FTAs, third countries may be worse or better off.
The impacts on third countries depend on the approach taken by the United Kingdom, said the study.
Impacts on trade with the European Union are, unsurprisingly, smaller, it added.
In the tariffs only scenario, they range from 0.1 per cent to 0.3 per cent, with the smallest impact in the Middle East and North Africa, and Europe and Central Asia, and the largest impact in South Asia and East Asia and the Pacific.
For the tariffs and NTMs scenario, impacts range from 0.3 per cent to 0.7 per cent, with the same ordering of relative changes as in the first scenario.
As to the sector-specific effects, the gravity models (for 10 goods sectors individually) show that the impact of the European Union above and beyond tariffs - which the authors interpret as its impact on NTMs - is strongest in agriculture, food and beverages, and wood and paper.
According to the study, this pattern of results is consistent with the conclusion that the main trade facilitating impact in terms of smoothing the impact of NTMs within the European Union is in sectors where consumer protection is paramount, such as agriculture and food and beverages.
Correspondingly, the trade impacts of the United Kingdom's exit will be greatest in these sectors, said the study.
MAIN CONCLUSIONS OF STUDY
According to the UNCTAD study, the implications of NTMs for post-exit trade relations between the United Kingdom and the European Union are potentially major.
The evidence suggests that the potential trade-reducing effects of NTMs are greater than those of the MFN tariffs that would be imposed by the respective parties under a "hard" Brexit.
There is strong evidence that the European Union Single Market promotes trade above and beyond what would be expected from a standard FTA or customs union, even after controlling for tariffs.
"We interpret this as evidence that the European Union's approach to dealing with NTMs through its distinctive program of mutual recognition has been more effective in promoting trade within the bloc than other options," said the authors.
Following United Kingdom exit, trade arrangements between the European Union and the United Kingdom that do not involve Single Market membership or something very close to it would see these gains disappear, with potentially significant trade and welfare implications for both parties, they cautioned.
"The key takeaway from the results for developing countries is that they could see substantial market opportunities in the United Kingdom, and to a lesser extent the European Union, following Brexit," said the study.
The reason is that the erection of trade barriers between the United Kingdom and the European Union limits trade between those two entities, and results in some switching of demand towards suppliers from third countries.
These market opportunities are largest when Brexit takes its hardest form, and are attenuated somewhat by an FTA between the parties, which limits the incentive to switch demand.
But the likely persistence of NTMs effects even in an FTA scenario means that there are some opportunities nonetheless, even substantial ones, provided that competitive developing country suppliers can overcome the costs associated with exporting to these two markets.
This point is all the more salient in light of evidence that the strongest trade promoting effect of European Union membership is in sectors like agriculture, and food and beverages, where NTMs can make it difficult for developing country firms to enter the market.
However, increasing regulatory divergence may add costs to developing country producers, disproportionately affecting smaller and poorer countries, as well as small and medium size enterprises, that could reduce the positive third country effect, the study warned.
"Furthermore, we have assumed that the United Kingdom's tariffs and NTMs related trade costs vis-a-vis third markets, especially developing countries, remain constant," said the authors.
The implications of Brexit for third countries depend ultimately on the trade relationship they will find with the United Kingdom and the future relationship between the United Kingdom and the European Union as well as future relationship between the United Kingdom and other major traders.
According to the study, the overall conclusion is that NTMs need significant attention following the United Kingdom exit in January 2020.
"Under a "hard" exit scenario, we would expect to see underlying dynamics consistent with those set out in the models we have presented," said the authors.
Under "soft" scenarios in which the status quo is largely maintained pending negotiation of a future trade relationship, the extent and nature of the economic effects would depend on the details of that relationship.
The authors said that based on their results, it will be important for that relationship to deal with NTMs in a much more comprehensive way than typical FTAs and customs unions observed in other parts of the world if both parties want to minimize the significant effects of NTMs.
"We have not found evidence that standard FTAs or customs unions liberalize trade beyond what would be expected by zero tariffs," the authors concluded. +