CEBR FORECASTING EYE SPECIAL
Cebr has performed a quick analysis of the likely economic impact of the Brexit deal agreed at the European Council on 17 October 2019.
Obviously this study has been produced at speed and relies heavily on past work. In particular it is based on a study by Cebr for the London Chamber of Commerce and Industry (LCCI) in March 2018 prepared by Douglas McWilliams and Vicky Pryce looking at the impact of different Brexit outcomes on the key metropolitan areas, reworked to scale up the impact for the whole of the UK. We have assumed that the deal will be followed by a Free Trade Agreement between the UK and the EU based on the Comprehensive Economic and Trade Agreement (CETA) between Canada, the EU and its member states but enhanced to have much greater coverage of services as well as goods (the so-called Canada Plus).
The major conclusion of this analysis is that there is all to play for. On negative assumptions, Canada Plus in the long term could leave UK GDP 3.2% lower than it otherwise would be. But on positive assumptions it could leave UK GDP more than 1.4% higher by 2030 than it otherwise would be.
What happens will depend on how the deal is followed up.
The key factors likely to determine whether the deal will have positive or negative effects are:
- Impact on migration of skilled talent to the UK. If this is negatively impacted then the UK is likely to be much more negatively affected;
- Extent and coverage of post-Brexit economic and trade deals between the UK and other leading economies, including of course the EU; and
- Progress in maintaining a liberal economic environment within the UK post Brexit. If the UK uses Brexit to introduce a business environment that is unfavourable to economic activity, the impact for the growth outlook could be highly negative.
Status of the deal
HMG and the negotiators of the European Union have agreed a revised UK Withdrawal Agreement which has been approved by the European Council at their meeting on 17 October 2019.
To come into effect this agreement will have to be ratified by both the European Parliament and the UK Parliament. Cebr’s judgement is that this is likely, although ratification by the UK Parliament could yet be delayed until an election has been fought on the issue. It also remains possible that the agreement may be subject to a confirmatory referendum in the UK though Cebr thinks this unlikely.
Content of the deal
The deal is based on the withdrawal agreement previously reached by the May administration with the EU negotiators. The major adjustments are to do with the status of Northern Ireland and the Political Declaration. Although the Political Declaration is described as non-legally binding, it is clear that it will do much to define the shape of the future arrangements between the UK and the EU.
The key element in the Political Declaration relating to the eventual trade deal to be reached between the UK and the EU is that although both sides have the objective of tariff- and quota-free trade, in practice the extent of the trade deal will depend on the extent of regulatory divergence.
The UK and the EU have committed in the Political Declaration to maintain the present ‘safeguards to ensure a level playing field that upholds the common high standards applicable at the end of the transition period in the areas of state aid, competition, social and employment standards, environment, climate change and relevant tax matters.’
It is worth noting that the bulk of the changes in the substance of this deal compared with the previous withdrawal agreement negotiated by the May administration relate to the status of Northern Ireland. This is understandable given the nature of the land border and the delicate relationships between the Republic of Ireland, Northern Ireland, the rest of the UK and the EU. Nevertheless, Northern Ireland is 2.2% of UK GVA and these changes, although positive for both the Republic and Northern Ireland, will not significantly affect the economic outcome for the UK as a whole.
The transition period before the UK leaves the EU is the same as in the previous withdrawal agreement. This means that the UK plans to leave the Single Market and Customs Union in December 2020 although Northern Ireland will in practice remain subject to EU customs rules and oversight. Given the complex negotiations surrounding regulatory alignment and the immigration, Cebr also thinks that it is likely that the transition period will end up lasting two to three years rather than the shorter period currently envisaged.
UK contributions to the EU
The UK will continue to contribute to the EU during the transition period based on current arrangements. In addition further contributions will be made based on previous commitments. The total amount to be paid is not yet fully determined but the OBR estimates that this bill should amount to £33 billion most of which should be paid by the end of 2022.
Future trade deal with the EU
Although nothing in the current deal precludes the UK agreeing to stay in the Customs Union after December 2020, our judgement is that it is most likely that the UK will move to a free trade agreement with the EU at that stage. In terms of the phraseology that has been used in earlier stages of the negotiations this is close to what was previously often called ‘Canada Plus’.
The HMG analysis of different potential agreements with the EU was set out in ‘EU Exit Long-term economic analysis November 2018’
This analysis suggests that the net impact of moving away from the current relationship with the EU would be negative. The critical estimates are shown in Table 4.12 of the paper reproduced here:
Table 1 HMG analysis of the impact of different Brexit deals
This would imply a potential long term negative impact of a Canada Plus type deal on GDP of 4.9% if migration arrangements were left unchanged.
The Cebr analysis of the likely impacts of various different outcomes for the UK’s relationship with the EU was prepared by Vicky Pryce and Douglas McWilliams for the London Chamber of Commerce and Industry and the Three Chambers Alliance and released in March 2018. This looks at the potential impact on the London economy and (in less detail) on the Bristol and Manchester economies.
We have used the sectoral results of this analysis, reweighted to take account of the size of the sectors for the UK as a whole and projected forward (as in the original Cebr analysis) to 2030 as the basis for the numbers included in this report.
Our description of such an agreement is taken from the Cebr report for the LCCI and the Three Chambers Alliance:
To describe the Canada Plus model used in this report, we again start with the descriptions from Michael Emerson in his special Centre for European Economic Studies report ‘Which Model for Brexit?’
‘This (still unratified) Comprehensive Economic and Trade Agreement (CETA) is an advanced model of a quite deep trade agreement, except that it is very limited in the services sectors. It is comprehensive in coverage and is the most up-to-date example of a free trade agreement between advanced economies that applies comparably high regulatory standards. The EU’s free trade agreement with Korea is another but somewhat older example in the same category. The relevance of this model for the UK, however, is much reduced, since it ignores the large amount of EU market law that the UK will most likely retain in order to maximise its access to the EU single market. The CETA could be a useful template to expedite future UK negotiations of its own bilateral trade agreement with Canada and other advanced economies, but not with the EU.’
Some of the aspects of a Canada Plus agreement have been outlined by the UK’s Brexit negotiator, Mr David Davis. He used an interview on the Andrew Marr programme on BBC 1 to set out his vision for the UK outside the European Union a week before the Cabinet holds a formal discussion of the ‘end state’ of the Brexit talks.
Mr Davis said he wanted to see an “over-arching trade deal” based on Canada’s trade treaty with the European Union but including services.
It would set out “individual arrangements for aviation, nuclear and for data”, as well, he said, describing it as “Canada plus plus plus”. He said: “All we want is a bespoke outcome. We will probably start with the best of Canada, the best of Japan and the best of South Korea.
“And then add to that the bits that are missing – which are the services.”
One consultancy has described a Canada Plus style Comprehensive Economic and Trade Agreement (CETA) in the following terms:
An EU-UK CETA Treaty would give the UK the following benefits that reflect many of the key aims of the Brexit campaigners:
- A free trade area would be established based on WTO principles and agreed rules of origin for the majority of products.
- Simplified import, export and transit requirements would be introduced.
- After a transitional period of up to seven years for some products, customs duties would either be eliminated or reduced for nearly all manufactured goods. Tariffs and/or quotas would remain on sensitive food and agriculture products.
- UK exports would have to meet EU standards, conformity assessment procedures and regulations, including sanitary and phytosanitary measures that are important for the agri-food sector.
- The qualifications of regulated professions (such as architects, accountants and engineers) would be recognised.
- The current rules on procurement would remain largely unchanged.
- The temporary entry and stay of key personnel, contractual services suppliers and professionals and short-term business visitors would be controlled in a flexible manner.
- The full application of EU competition law is out of scope.
- The UK could conclude bilateral agreements with other non-EU trading partners using the CETA model. There are some negatives for the UK.
- Being outside the EU’s customs union and within a CETA arrangement, UK exports of goods would have to comply with additional bureaucratic customs checks, which could raise costs particularly for those firms with complex supply chains. Therefore, EU customs checks on UK imports/exports would have to be introduced.
- Arguably the biggest challenge the EU-Canada deal poses as a potential model for UK-EU relations after Brexit is that it only grants limited services liberalisation in areas such as postal services and maritime transport.
- In order to take advantage of the EU financial services ‘passport’, UK firms would have to establish a presence in the EU and comply with EU regulations. Therefore, the ‘Canadian model’ could ultimately make it harder for UK-based financial services firms to sell into the EU market.
- As a UK-CETA agreement would imply the UK not adopting vast areas of the EU legislation and remaining outside EU co-funded programmes, this would inevitably impact on investment decisions in the areas of energy, transport, research and development and intellectual property for example.
- As for institutional provisions, a CETA Joint Committee, co-chaired by the UK Minister for International Trade and the EU Trade Commissioner, would supervise and facilitate the implementation and application of the agreement and oversee the work of specialised committees and other bodies established under CETA.
This does not take account of any special provisions for services which Mr Davis indicated that the UK will be trying to negotiate. It is likely that these would cover financial services at least and probably telecoms and digital areas as well. We have assumed that deals would be made in these areas which would provide about 80% of the market access currently available as an EU member.
4.2 Impact on migration
There is no hard information that would make it possible to determine the migration impact of the Canada Plus model. We have therefore crudely modelled the impact on migration as 50% of the impact of the WTO Brexit.
4.3 EU contributions
Although technically the Canada CETA agreement does not involve payments, the enhanced access to the Single Market likely to emerge from such a deal will probably involve some payments from the UK to the EU. We have assumed 50% of current payment levels.
Analysis of the Economic Effects
The structure of the economy
The traditional analysis of the UK economy is heavily based on the industrial sector. While this remains hugely important, traditional analysis does not easily cope with the more modern pattern of the economy that has emerged, particularly the growth of the digital and creative sectors. These sectors behave very differently from traditional industrial sectors and in particular trade with the rest of the world in very different ways.
So our analysis for LCCI made a different more modern split of the UK economy into five different sectors. Table 1 of the LCCI report reproduced below shows the shares of value added in Cebr’s five key sectors – Financial services, Headquarters and corporate centres, the Flat White Economy of Digital and Creative Sectors, Rest of the Services Sector, and the Rest of the Economy including manufacturing and industry, comparing London with the UK as a whole. The underlying data is taken from the ONS.
Table 2 Table from the Cebr report for LCCI on sectoral composition of the UK economy compared with the London economy
Our analysis for LCCI of the impact of a Canada Plus Free Trade Agreement with the EU looked at two different scenarios.
In the first scenario the UK was assumed to restrict migration, to make no new trade agreements with other economies, to preserve all EU based regulation and for UK based firms to receive no boost to their performance from the spur of international competition.
The impact by sector is set out below:
Table 3 Percentage impact on GDP in each sector of a Canada plus deal making negative assumptions (source Cebr report for LCCI)
|Headquarters and corporate Centres||-1.48%|
|Flat White Economy||-1.35%|
|Rest of Service Sector||-3.23%|
|Rest of Economy||-5.50%|
Weighting up these sectoral impacts by the proportions of each sector in the UK economy in 2016 indicates that on pessimistic assumptions about a Canada Plus Free Trade Agreement with the EU, UK GDP could be reduced by 3.2%.
Although this figure is substantial, it is less than the official HMD calculation of 4.9%. The key reason why the Cebr numbers are different from HMG’s analysis is Cebr’s more up-to-date sectoral analysis. As the UK economy shifts to the service sector and trades increasingly down telephone lines, the traditional impact of trade barriers, whether tariff or regulatory, diminishes.
But Cebr also modelled for the LCCI a more optimistic analysis which included three key elements:
- No enhanced restrictions on migration and a degree of relaxation in some areas that might have to be included in some trade deals;
- An aggressive pursuit of trade deals with other countries leading to deals with most major economies within 10 years of withdrawal;
- The maintenance of a favourable regulatory environment for business
Table 4 Percentage impact on GDP in each sector of a Canada plus deal making positive assumptions (source Cebr report for LCCI)
|Headquarters and corporate Centres||0.06%|
|Flat White Economy||2.69%|
|Rest of Service Sector||0.27%|
|Rest of Economy||2.90%|
This gives a net positive impact on GDP, weighted up by the UK shares of each sector in 2016 of 1.4% on the positive assumptions scenario.
Bearing in mind that the likely shape of the UK economy will probably adjust towards the sectors that might be positively affected, the weighting by the 2016 share of the economy probably slightly understates the long term net impact of the more positive assumptions but their order of magnitude should be not too different from the estimate provided here.
The key conclusion of this analysis is that the impact of the Brexit deal on the UK economy will depend on how the UK and the EU take advantage of the deal.
On one approach, any future deal between the UK and the EU (and indeed other trade deals) might just turn out to be watered down versions of current arrangements. In that case it is likely that the UK economy would be smaller than it otherwise might be as a result of the deal. While our estimated impact of the negative effect is less than that of HMG’s (minus 3.2% rather than minus 4.9%) reflecting our more up to date sectoral assessment, this still would lead to a smaller UK economy.
But it is normally dangerous to think that some elements in a scenario can change without others changing. Making more optimistic assessments of future trading arrangements gives a different conclusion – that the UK economy could be boosted by as much as 1.4% by 2030 (and this estimate makes no allowance for any dynamic impacts that could well occur).
What the analysis also shows is that there are three elements post deal that need to be examined carefully to ensure that the UK economy maximises the Brexit opportunity:
- The government needs to take every possible step to ensure that the UK continues to benefit (and indeed benefits to an enhanced extent) from skilled migration;
- The government needs to make deals with other governments that maximise market access for UK based businesses, especially in the advanced services sectors as well as in goods sectors; and
- The trade deal with the EU needs to generate a high degree of two way trade in goods and also provide considerable market access for UK services which in the future are likely to account for the bulk of UK trade.
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18 October 2019
 Brexit and the Metropolitan Areas http://www.londonchamber.co.uk/getmedia/98780694-68c9-430b-912c-a4e8bc4ccad9/Brexit-and-the-Metropolitan-Areas-FINAL
 For details see EU Press Briefing 17 October 2019 ‘What did you agree with the UK today? https://ec.europa.eu/commission/presscorner/detail/en/QANDA_19_6122
 Published by HM Treasury 28 November 2018 Cm 9742 https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/786626/The_Future_Relationship_between_the_United_Kingdom_and_the_European_Union_120319.pdf’
 ‘Brexit and the Metropolitan Areas http://www.londonchamber.co.uk/getmedia/98780694-68c9-430b-912c-a4e8bc4ccad9/Brexit-and-the-Metropolitan-Areas-FINAL
 For more detail on the definition of the Flat White Economy read The Flat White Economy by Douglas McWilliams, Duckworth 2016.