Brexit and the potential consequences for the United Kingdom and for the European Union

Master's Thesis 2019 95 Pages

Business economics - Economic Policy


Table of Content

List of Abbreviations

List of Tables and Figures

1. Introduction
1.1 Background Information
1.2 Structure of this work

2. EU Referendum
2.1 Who has voted
2.2 Article 50 of the Treaty on the European Union

3. Differentiation between Soft and Hard Brexit
3.1 Soft-Brexit
3.2 Hard-Brexit
3.3 Advantages and Disadvantages

4. Current Status of the Negotiations

5. Political Implications
5.1 Fear of further withdrawals
5.2 Consequences for British Regions

6. Economic Consequences
6.1 Monetary System
6.1.1 The Brexit Bill
6.1.2 Banking and Financial Sector
6.2 Migration and the Labour market

7. Trade
7.1 Trade in Goods and Services
7.2 Trade Restrictions
7.2.1 Tariffs
7.2.2 Non-tariff Barriers

8. Welfare Effects
8.1 Review of the literature
8.2 My Structural Gravity Model
8.2.1 Data
8.2.2 Results

9. Conclusions

A. Tables
B. Graphs
C. Data Base of the Gravity Model


Ehrenwörtliche Erklärung

List of Abbreviations

Abbildung in dieser Leseprobe nicht enthalten

List of Tables and Figures

Table A. 1: How Britain voted

Table A. 2: Alternative Brexit models

Table A. 3: Impact of Brexit on selected stock indices as of June 24, 2016

Table A. 4: Top 6 Importing Countries from the UK by all Products

Table A. 5: Top 6 Exporting Countries to the UK by all Products

Table A. 6: Top 6 Importing Countries from the UK by all Services

Table A. 7: Top 6 Exporting Countries to the UK by all Services

Table A. 8: EU’s MFN applied tariffs by product groups in 2017

Table A. 9: Regression results of the General Gravity Model

Table A. 10: Regression results of the Customized Gravity Model

Table A. 11: Predicted changes in the trade with England

Figure B. 1: Percentage of British public saying EU membership is a good or bad thing

Figure B. 2: Population by Country in percent of total EU-population

Figure B. 3: Outcome of the Brexit Referendum per Region

Figure B. 4: Daily post-Brexit currency exchange rates of the Pound Sterling against the Euro June to July 2016

Figure B. 5: Net migration by citizenship, UK, year ending June 2008 to year ending June 2018

Figure B. 6: Unemployment Rate for the EU-28 and the EU-27 without the UK

Figure B. 7: Change in the UK's GDP by selected authors

1. Introduction

1.1 Background Information

The United Kingdom (UK) joined the European Community in the year 1973. Only two years later, there was a first referendum in which the British voted on the membership in the Community. 64 percent of voters used their voting rights and 67 percent of these voters spoke in favour of remaining in the European Community. Since then the British have seen the European cooperation onlyas having added value in the single market, but the goal of a political union has remained foreign to them (Möller, 2016).

Figure B. 1 in the appendix shows the chronological course of how the British rate their membership in the European Union (EU). Apparently, the number of citizens who consider the EU membership to be bad varies, but increases over time, hence they become more disappointed by the EU. In contrast, the number of those who said that the EU membership is a good thing decreased. The alignment started in the middle of 1992.This can be explained due to the signing of the Treaty of Maastricht on 07. February 1992 which came into force in 1993. This treaty led to the establishment of the European Union and laid the basics for a single currency, a common foreign and security policy and a closer cooperation in the fields of justice and home affairs. England insisted on an opt-out option in the common currency and social chapter matters. As a result, England had politically demarcated from the EU and adopted a special status (European Central Bank, 2017).

Due to the pressure of the UK Independence Party (UKIP),England’s right-wing political party led by Nigel Farage, on British Prime Minister David Cameron to hold a referendum on the membership of the EU (Davies, 2012), Cameron criticized in his speech at Bloomberg in 2013, among other things, the high level of debt or declining trust inEurope’s institutions. The British feel deceived by the European Union, as it draws more and more powers and concludes new contracts, without responding to the interests of England. Many residents of England wonder, as Cameron reports, why they cannot only have what they had chosen to enter the EU, namely a common market. The main purpose of the European Union is to ensure wealth. The EU is only a means for the purpose to achieve affluence, democracy and stability. England is characterized by independence, openness as well as by the passion to defend their sovereignty.Cameron announced that there will be another referendum on the disposition of England in the EU. This referendum should therefore take place in 2017, in the case of his re-election,1 and it should be an easy one, as it only includes the opportunity to stay or to leave. He believes that the European Union of the 21st century must be constructed on five basic principles. First the competitiveness of the European Single Market, resulting in a leaner and less bureaucratic association of states to help the member countries to assert themselves. Secondly, the principle of flexibility, as the European Union as a community must respond to new trends and developments as soon as possible. Flexibility is also needed for competitiveness.Thirdly, he demands that all member states should regain their political power from Brussels, as promised ten years earlier by the European Leaders at Laeken to re-establish sovereignty of their own borders. Democratic accountability is the fourth principle Cameron calls. This means that the national parliaments should play a more significant role. Fairness is the last tenet he mentioned. New regulations have to be fair for all inside and outside the Eurozone. However, he also affirms, that he does not want England to leave the EU, but rather has a better relationship and agreements with the EU, though he warns also, that leaving is a one-way ticket with no-return. The British must carefully consider the consequences of their decision, as for example, full access to the European Single Market is of particular importance for British jobs and companies. (Cameron, 2013).Cameron received sharp criticism for his speech. For example, former European Parliament President Martin Schulz said, that the English are delaying reforms in Europe or Laurent Fabius, former Minister of Foreign Affairs in France, compared England’s attitude with a footballer who joined a club and suddenly wants to play rugby. On the contrary, Cameron has received approval from the UKIP and from Liam Fox, former Minister of Defence and now International Trade Secretary(Welt, 2013).

Before the referendum took place, Cameron wrote a letter to Donald Tusk, who is the President of the European Council, in which he listed the four areas in which England wanted a reform in the context of membership negotiations. These areas partly cover the previously criticized points like competitiveness and sovereignty. On the other hand, the other two areas were economic governance and immigration. Economic governance in this context means, that Britain urges legally binding principles to ensure the functioning of the Union for all 28-member states.Independent of whether they are in the Eurozone or not, thus the non-Eurozone members should not be discriminated and new decisions made in the Eurozone must be optional for these members. Under the heading point immigration, Cameron wants England to have more rights to regulate and control immigration from other EU countries (Cameron, 2015).

The result ofthe referendum led to the resignation of Cameron. Theresa May took over his position as British Prime Minister. She referred to Article 50 of the Treaty on the European Union, also known as the Treaty of Lisbon, to let the UK withdraw from the EU (Cameron, 2016 and Stone, 2016). This withdrawal is better known as Brexit.

The British exit is associated with a multitude of possible consequences in various areas, which will have an impact on the welfare level in England and in Europe. Following sectors can be hit by the Brexit, for example,agriculture, transport, education, health, environment, justice and home affairs, energy, culture or human rights. However, most literatures refer to the economic sector, as this will be the most affected by the consequences, because Brexit will have an impact on the financial division, the labour market and the corporate level, the foreign direct investments (FDI) and the exports and imports of goods and services. In addition to the economic consequences, there are also political implications, for example the cohesion in Europe can be weakened.

Is a hard-Brexit economically better, or should it be tried to obtain the existing economic relations aEngländers possible? What economic and political impact will the Brexit have on the United Kingdom and on the European Union?

Finding the right answers to these questions is incredibly difficult, sinceit is still unclear how Britain and the EU will regulate their relations when Brexit takes place, hence, all critical evaluations of the consequences can only be based on assumptions.

In the following work I will try to answer these questions in more detail. However, it should be mentioned, that at the time of writing this master thesis,the shape of the future EU-UK relations is unclear

1.2 Structure of this work

This paper is organized as follows. I outline the EU referendum, its outcome and the different age structures and education levels of the voters in chapter 2. Also included in this chapter is one of Theresa May’s first Brexit milestones, namely the appeal of Article 50 of the Treaty on the European Union and its meanings, as well as the transitional period following Brexit. In chapter 3, I will show the differences, advantages and disadvantages of a soft- and a hard-Brexit. This chapter also includes alternative agreement models for England after the Brexit takes place, such as the Norwegian model.Chapter 4 contains the current status of negotiations. I discuss the political consequences of Brexit in chapter 5. Among other things this chapter includes the possibility that other EU countries may also consider to withdrawal from the EU, on the other hand, English regions, such as Scotland, may wish to secede from the UK. The financial aspects of Brexit, hence, what costs are involved and what amount England has to replay to the EU, and the consequences for the banking and financial sector are included in chapter 6. Afterwards, in the same chapter, I’ll show possible implications for migrants and the labour market, and the resulting effects for the UK economy. Then in chapter 7, I first discuss the English trade and illustrate by the use of tables in which areas England has a trade surplus or a trade deficit. This is then followed by trade restrictions, such as tariffs or non-tariff barriers (NTB).

2. EU Referendum

The historic referendum took place on 23 June 2016. Entitled to vote were all Irish, British and Commonwealth citizens whose place of domicile is in the UK or in Gibraltar as well as all British nationals living in a British Oversea Territory and had an address in the UK in the last 15 years (HM Government, n.d. a), thus nearly 46.5 million people had the right to vote, of which 72.2 percent used their vote. The result of this referendum cannot be considered independent of the public disaffection towards the European Union, because 51.9 percent voted to leave and only 48.1 percent voted to remain part of the EU (The Electoral Commission, 2016, p. 17f.). Only one day after the election David Cameron resigned as prime minister. “The British people have voted to leave the European Union and their will must be respected. […] I was absolutely clear about my belief that Britain is stronger, safer and better off inside the European Union, and I made clear the referendum was about this and this alone – not the future of any single politician, including myself. But the British people have made a very clear decision to take a different path, and as such I think the country requires fresh leadership to take it in this direction. […] I do believe it is in the national interest to have a period of stability and then the new leadership required (Cameron, 2016).” Theresa May took on the role of British Prime Minister on 13. July 2016. She was requested by the Queen to form a new government. (Stone, 2016).

2.1 Who has voted

The referendum could have been different if more younger British had voted. Of the 18 to 24-year-olds only 36 percent voted, whilst 83 percent of the over 65’s took part in the poll. As shown in table A. 1, the younger generation largely voted in favour of remaining in the European Union. The older generation voted to leave the EU. Besides the age of voters, the level of education was also of particular importance. Voters who only had a secondary school certificate had largely voted in favour of Leave, whilst electors with a university degree wanted to remain in the EU (YouGov, 2016 and Welt, 2016). This may be related to the fact, that the younger Britains only know the age of globalization and the coalesce of Europe whereby they cannot imagine a life with borders. The group of voters with a high-level education can estimate the consequences of a Brexit better and know, that it will be bad for them and for England.

2.2 Article 50 of the Treaty on the European Union

One of Theresa Mays’s first Brexit milestones is, that she announced her intention to rely on Article 50 of the Treaty on the European Union, to let the UK withdraw from the EU. In her speech at the Conservative conference, May said that “we must leave in the way agreed in law by Britain and other member states, and that means invoking Article Fifty of the Lisbon Treaty. […] We will invoke it when we are ready. And we will be ready soon. We will invoke Article Fifty no later than the end of March next year. […] We will soon put before Parliament a Great Repeal Bill, which will remove from the statute book – once and for all – the European Communities Act. This historic Bill (…) will mean that the 1972 Act, the legislation that gives direct effect to all EU law in Britain, will no longer apply from the date upon which we formally leave the European Union. And its effect will be clear. Our laws will be made not in Brussels but in Westminster. The judges interpreting those laws will sit not in Luxembourg but in courts in this country. The authority of EU law in Britain will end (May, 2016a).”

On the 29. March 2017 the United Kingdom triggered Article 50 No. 2 and formally informed the European Council that it intended to leave the EU. Under the terms of this article, the UK and the EU have two years to agree on the terms of the withdrawal and onthe conditions for the future UK-EU relationship. One month later the leaders of the remaining EU-27 met in a Special European Council to agree on a compendium that sets out the framework for the Brexit negotiations and outlines the general positions and principles of the EU (European Commission, 2017a and Walker, 2018). According to Article 50, the United Kingdom will remain part of the EU until 29. March 2019. On this day, the withdrawal officially comes into force.

Yet, a transition period was agreed to smooth the post-Brexit proportions. This should last from the day Brexit comes into force till the 31. December 2020. At the EU Summit in Brussels in October 2018, Mrs. May said that the implementation period may be extended “for a matter of month. And it would only be a matter of month (May, 2018a).”The idea for this time is that, for example, companies and all others can prepare for the upcoming new post-Brexit rules. It was also granted, that the European Union law continues to apply to Britain during this period, therefore the right to a free movement continues to exist. Furthermore, theUK has the permission to already conclude its own trade agreements, which, however, cannot come into force until the end of the transition period because during this time they will still take an active part in existing EU trade deals with third countries (BBC-News, 2018a and European Commission, 2018, p. 74ff.).

Should England wants to re-join the European Union, then Article 50 No. 5 of the Treaty of Lisbon holds. Thereafter, Article 49 of this Treaty applies. Britain is then treated like any other country that wants to join the EU for the fist time. Amongst other things, there is the obligation to accept the four freedoms of movement (European Commission, 2017a).

Since in the media and in the common parlance,the terms of a soft- or hard-Brexit are frequently used, I will show below the differences and their advantages and disadvantages.

3. Differentiation between Soft and Hard Brexit

At the beginning of the Brexit negotiations, it was unclear if it should be a hard or a soft one. Brexit supporters focused on the democratic benefits thatthe UK will gain back from Brussels. Lord Nigel Lawson claimed that the gains clearly predominate the economic costs from leaving the EU. He further suggested that when leaving the EuropeanSingle Market there would be only a few disadvantages besides the positive economic effects to the UK (Morris, 2013). British Prime Minister Theresa May revealed a tougher posture on EU withdrawal in her opening speech to the Conservative conference 2016. “The country voted to leave the EU. And that means we are going to leave the EU. We are going to be a fully-independent, sovereign country, a country that is no longer part of a political union with supranational institutions that can override national parliaments and courts. […] It is going to be an agreement between an independent, sovereign United Kingdom and the European Union (May, 2016a).”

Two years later she switched from her hard-Brexit position to a smoother one, after the UK cabinet adopted collectively a new strategy on Friday 06. July 2018. This strategy includes 12 key points that the UK will use in the EU negotiations. In this May and her cabinet insists on a free trade zone with the EU(BBC-News, 2018b and Spiegel Online, 2018).As a consequence, on this new agreement Brexit minister David Davis and foreign minister Boris Johnsen, two of the prominent supporters of the hard-Brexit, resigned from their posts. In Davis’s resignation letter,he pointed out the problem that London has moved closer to the position of the EU, which in turn insists on further concessions (Buchsteiner, 2018).However, on her trip through Africa, Mrs. May has declared that a Brexit without any deal “wouldn’t be the end of the world (May, 2018b)” and that this option is still better than a bad deal.

Since a clear definitionif Brexit will be hard or soft doesn’t exist, one tries to express how close the UK is related to the European Union after the 29. of March 2019. Nevertheless, there are some major differences between them. I will describe these and also alternative models in more detail below.

3.1 Soft-Brexit

As described above, there is no clear definition ofan optimistic scenario or the so called soft-Brexit. According tothe Economist (2018) and Sims (2016),the soft-Brexit is defined in the way that the UK leaves the EU but has completeaccess to the European Single Market through its membership of the European Economic Area (EEA) and stillis a member of the European Customs Union (CU), hence exports are no subject to border controls and trade is managed under existing arrangements. The relationship between the UK and the remaining EU-27 countries is as close as possible. Also, the cost of Brexit should be reduced, for example due to disruptions to trade, as the UK is separated from the EU, their regulations and standards. This kind of Brexit is sympathized by the so called Remainers, who voted to remain in the EU referendum

Other sources, like Oberhofer and Pfaffermayr (2018, p. 3), stated that the UK willnot be a member of the EU’s Customs Union. New bilateral agreements are concluded with regard to free trade, free movement of persons, work and capital but also issues about the absence of tariffs and non-tariff barriers are included.

The strategy,which was adopted in July 2018,by the UK cabinet, as well as the agreed draft agreement by the Brexit sub-dealer in November 2018indicate, that England remains member of the CU and the single market, thus they give up the intention to gain back regulatory power from Brussels. The cabinet wants new free trade agreements (FTA) with the EU in which it agrees to keep the EU regulations for industrial and agricultural products, because these goods should be transported easilyamongst the English Channel without customs checks and tariffs, once the Brexit takes place (Merritt, 2018).Given the fact, that the UK wants to stay in the EEA it must accept the four freedoms of the single market, according to the Single European Act, namely free movement of capital, persons, goods and services. This means, that European nationals still have free access to work and reside in the UK (Sims, 2016). US President Donald Trump has warned Britain that a soft-Brexit would nullify every hope for a US-UK FTA. Such a deal would result in America continuing to engage with the EU, instead to negotiate with the UK (Crerar et al., 2018).

“This free-trade agreement cannot be equivalent to what exists today. And we should all prepare ourselves for that situation. […] This free-trade agreement will be unprecedented in European history. […] Here we are in a different situation: at the outset of the negotiations, our standards and rules are perfectly integrated between the UK and the EU27. What we have here is not regulatory convergence but the risk, or the probability of regulatory divergence, which could harm the Single Market (Barnier, 2017a).” Given this speech, the Brexit deal between the UK and the EU would be completely different from any existing bilateral agreement. Nevertheless, there are some existing models which act as a prototype for the Brexit. Table A.2 in the appendix gives some hints on what Brexit could look like.The first row is the initial EU-28position, thus the UK belongs to the EU, it is a member of the customs union and it has access to the Internal Market, which means that there are no tariffs and the four freedoms apply. As a member of the EU, each nation makes financial contributions.

The Norway alternative implies, that Britain would leave the EU, so it would not be longer part of the CU, but under this option it would join the EEA.“Single Market access without ‘political union’ is secured under the EEA option (Business for Britain,2015, p. 237).”This indeed means, that the UK needs to accept many of the EU laws including the four freedoms and making financial contributions, but it would not have any voting rights over the EU law. Joining the EEA also means, that the level of tariffs and non-tariff barriers are close to the level with the EU countries, thus there are no customs checks and only few trade barriers(Business for Britain, 2015, p. 237ff.).In 2011, the contribution paid by Norway to the EU accounted for 106 pounds per capita. This payment was with approximately 83 percent, as large as the United Kingdoms per capita payment (Miller, 2013, p. 22). Given the fact that Norway, Iceland and Liechtenstein, the EEA countries, are outside the European CU, they can independently negotiate and close FTAs.

If the Brexit is similar to the Swiss option, the UK would leave the EU, therefore it would not belong to the customs union. Instead of joining the EEA, the UK would become a member of the European Free Trade Association (EFTA). The UK and the EU would form special bilateral agreements, whereby the UK wouldgetaccess to the European Common Market only in areas for which an agreement would had been signed.In return it would have to accept the four freedoms of movement and it would need to make payments to the European Union, which would be smaller than under the Norway option. Hence, the UKwould not be not subject to the EU law, nevertheless it would have to maintain these to gain access to the Common Market, then it couldtrade freely with other members of the EU and it could also conclude FTAs with other countries outside the EU (Slaughter and May, 2016, p. 5f.).

Another possible model could be the Canadian option. England would leave the EU and would not become a member of either EEA or EFTA. New FTAs for certain areas would then be concluded between the EU and the United Kingdom, which would reduce the tariffs for these sectors. Examples for those specific areas can be the finance and food industry. Because the UK in this option is neither in the single market nor in the customs union it does not have to accept the four freedoms or make payments to the EU. The disadvantages of this model are the tariffs, but also other trade barriers like customs control and different laws (Stearns, 2017).

The last possible alternative model could be the Turkish option. Here, Great Britain and the EU would form a CU and only tariffs on industrial products would be abolished. As in the Canadian model,the UK is no member of the European Internal Market, thus it does not make payments or fulfil the four freedoms. Although Britain could agree on its own trade agreements, but it would be bounded by the external tariffs of the EU (Hosp, 2016).

With these alternatives in mind, the more England has access to the single market, the more commitments it must accept. If the negotiations do not lead to a soft-Brexit, then there will be a hard-Brexit. I will describe these in more detail below.

3.2 Hard-Brexit

The hard-Brexit scenario is mostly preferred by the so-called Brexiteers. These are people who support the idea, that the UK withdraws from the European Union. The Brexiteers hold on to the “Brexit means Brexit […] and there will be no attempts to stay within the EU (May, 2016b)” position of Theresa May.Hard-Brexit means that the UK leaves the EU and does not join either EFTA nor EEA. Up to this point, it is the same as the Canadian option but with the exception that no free trade agreements with the EU-27 are concluded. This means that the rules of the World Trade Organisation (WTO) between England and the EU take place.Should England act under the WTO rules and additionally erase all import trade tariffs for goods from all other countries of the world, in other words close completely new free trade agreements, it could become the largest economic free trade zone in the world. This option is also known as the Global Britain. As a result, Britain would regain all regulatory power from Brussels and for example, could independently decide on tariffs and trade barriers. The British government could also choose with whom it would like to negotiate FTAs and how these should be shaped (Tice at al., 2015).“We’d have more influence, not less. By regaining our seat on the WTO, which we gave up in 1973 on joining the EEC, we would have more say in global trade talks. We would also have a direct seat on numerous other international trade bodies that operate above the EU. (Tice, 2015).” WTO members are required to hold the principle of non-discrimination, hence, members should all be treated equally, unless there are specific FTAs. The EU common external tariff then serves as the basis for trade with the UK, meaning that the most-favoured nation (MFN) tariffs will be introduced to prevent penalty or punitive tariffs.In addition, non-tariff barriers such as border controls or regulatory costs, are established. The overall economic impact on both the UK and the EU will therefore depend on the tariffs and the NTBs (Miller, 2013, p. 27).

Since it is possible that no deal between England and the EU comes about, it is therefore advisable for companies to prepare for such a result and to be set up for the worst. From one day to the next, WTO rules would apply, making imports more expensive and exports detrimental (Theurer, 2017).

3.3 Advantages and Disadvantages

Depending on the conclusion of the Brexit contract, there are different advantages and disadvantages for Britain and Europe. To maintain close relationships to the EU, thus staying in the customs union, joining the EEA or the EFTA either to be member of the single market or to conclude free trade agreements for specific areas is good for the UK. A hard-Brexit instead would “damages our economy, damages our capacity as a nation to perform capably in the future and actually damages Europe (Carmichael, 2016).” Limited FTAsfavour the areas over which they are concluded and penalize all other sectors. For example, goods between the UK and the EU can be traded without tariffs. The service sector, in which the UK has a big surplus, would then being hit enormously as there is no permitted admittance to the EU market.However, customs controls will continue to exist as England is not a member of the European CU. Given this fact, it could be possible that firms, who want to sell their products in the EU and in the UK, must produce goods which meet both the regulations of the EU and the UK.Building a new UK-EU customs union would simplify trade at the borders. The UK has then the possibility to negotiate own trade agreements with third countries, but Britain would be bound to the external goods tariffs of the EU. The best solution is if Britain remains in the single market through their membership in the EEA. In this case there would be no tariffs and Britain would have to except the four freedoms of movement, which in return would be good for the manufacturing and service sector but also for workers around the EU, who could easily work and live in theUK without any restrictions. Only the Brexiteers would be the losers in this case (Giles and Barker, 2017). Other advantages would be are for example that decisions of the European Central Bank (ECB)would not apply any longer to the British, hence London would become more independent in terms of fiscal and economic policy and without excepting the four freedoms of movement the British government could minimize the number of immigrants.The European Union could benefit from a Brexit, as the British always claim a special role for themselves.Meaning, a more homogenous Europe could emerge, which couldmove closer together and loosen deadlocked structures (InsideTrading, n.d.).

Ebell and Warren (2016) and Dhingra et al. (2017) showed, that regardless of whether no new FTAs are concluded, or the Brexit resembled the Swiss or the Norwegian option, the UK would face a drop in its projected gross domestic product (GDP) compared to the status in which they would remain member of the EU. Hence, Britain would preserve losses in its welfare.If the Brexit takes place without no divorce agreement then there would be “large fiscal consequences (Hammond, 2018).”The exports (imports) to (from) the EU,as well as total trade, could then decline (Ebell and Warren, 2016).Another disadvantage is, that British goods and services would be subject to tariffs and non-tariff barriers. In the case of a hard-Brexit MFN tariffs would be introduced which could amount up to 90 percent of the goods England exports to the EU (Miller, 2013, p. 27). Meaning that the EU imposes these tariffs on imports from a third-country.As long as the UK is not a member of the EEA and does not need to accept the four freedoms of movement, the British government needs to bargain new agreements with the EU in order to secure at least part of the benefits of the internal market.

Depending on how the Brexit negotiations are proceeding, it goes along with different but significant consequences for England, Europe and thus for Germany. These consequences I am going to explain in the next chapter.

4. Current Status of the Negotiations

Referring to the strategy adopted by the UK cabinet in July 2018, Britain is willing to give up its intention to be a sovereign and independent country, as they seek a soft-Brexit and being a member of the EEA to benefit from the European Internal Market. In July 2018, EU’s chief Brexit negotiator Michel Barnier announced, that England as well as the European Union “want an ambitious Free Trade Agreement”. Later in his speech, he said that the UK and the EU “have already agreed on a large part of this Withdrawal Agreement – more or less 80% (Barnier, 2018)”. In November 2018, negotiators of the EU and the UK agreed on a draft Brexit agreement. This draft comprises 585 pages and it includes the most important divorce issues, such as the rights for EU citizens living in England and vice versa for Englishman living in another EU country (Morris, 2018a). It was also agreed that until the end of the transitional period “a single customs territory between the Union and the United Kingdom shall be established ("the single customs territory") (European Commission and Department for Exiting the European Union, 2018, p. 310). As a result of the agreement on the draft, several ministers have resigned. Among them Dominic Raab, former Brexit minister and successor of Davis, as he “cannot in good conscience support the terms proposed for our deal with the EU (Raab, 2018).” The Brexit hardliners also triggered a no-confidence vote against Theresa May. This vote, however, they have lost thus Theresa May remains prime minister of the UK (Watts and Buchan, 2018).

The European Court of Justice ruled on 10 December 2018 that if England wishes to withdraw from their Brexit application, a simple letter to the EU would be sufficient. An authorisation from the other EU-27 countries is needless, as England is an EU member until their departure and thus has all rights and obligations (Berschens, 2018).

5. Political Implications

Once the UK has withdrawn from the EUand depending on what has been negotiated, the British government becomes significantly more independent from the EU in terms of tariffs, justice, home and foreign affairs. Under the assumption that Britain leaves the EU under a hard-Brexit scenario,the influence of the UK in international organisations increases and it regainsits seat in for example the WTO or the United Nations (UN). This means the UK can directly represent itself and its own interests at the global top level as the British foreign policy can be redistributed to a global focus. Furthermore, Britain’s policy makers can decide on their regulations and laws as new policy opportunities become forthcoming. Another point is, that Great Britain remains a dependant in international committees which are dealing with foreign affairs such as the Commonwealth of Nations or the United Nations. Notwithstanding, the EU and the UK could still collaborate on foreign affairs. The Brexit grants the representatives of the Foreign & Commonwealth Office an increased flexibility to drive the British interests forward. Moreover, the exit of Britain from the EU could lead to a closer relationship between the UK and the USA. Both share similar defence and intelligence concerns. It appears that the national policies differ from time to time but therestill exists a commonality of politically and military interests (Business for Britain, 2015, p. 251ff.).

5.1 Fear of further withdrawals

The British exit is a precedent case, as Britain is the first country to leave the European Union. Given this fact, another political implication could be the tendency of other countries, which may use the Brexit as an example to leave the European Union themselves. They are awaiting the current negotiations and future developments between the UK and the EU after Brexit happens and after the transition period. In order to prevent that others also consider leaving, the EU has little incentive to politically comply with the UK (Bies, n.d.).Furthermore, the EU fears to lose international weight for example in negotiating with other countries, for instance USA or Russia on equal terms, as the British population accounts for approximately 13 percent of the total population of Europe,hence it is the third largest member country, which drop out with the Brexit in one stroke, see appendix figure B.2. However, former UK Permanent Representative to the EU, Sir Stephen Wall (2016), justified, that the EU might move to a deeper integration to show that it is still functioning.

Another political consequence could be that the EU as a construct suffers from Brexit. In many countries, inter alia, in Germany, France or Italy, there are political parties, for example the Alternative für Deutschland or the Font National. These have a negative attitude towards the EU and are gaining strong inflow. The occasions for such a negative attitude are versatile. Firstly, they fear to lose their national identity and sovereignty caused by an excessive regulation through the European Union. On the other hand, they are frightened that there could be a high level of immigration from other EU countries, whereby the national culture could break down and the social security systems are overstrained (Bies, n.d.).

Already concluded agreements between the EU and third countries are omitted for England after Brexit.Expressed in numbers, more than 750 agreements are lost for Great Britain, in the case of a hard-Brexit. Some of them are so important, so they must be reagreed. For example, 295 agreements are only for trade.“We are talking about an enormous number of complex acts that we rely on today. The challenge of replacing them falls in the same category as Alice in Wonderland running furiously to stand in the same spot (Hannay, 2017).”In many cases there is a common interest in continuous agreements, because third country nations do not want to give up their preferential conditions for access to the UK.

The political risk for the UK is that all quotas, for instance sales quota, have to be recalculated and that any WTO member has the right to enter a veto on these revisions (McClean, 2017).

5.2 Consequences for British Regions

An important political consequence relates to referendum results of the British regions of Scotland, Northern Ireland and London. As it can be seen in figure B.3 in the appendix.These three regions are the ones who voted to remain in the European Union. The reason for this decision is, that they benefit most from EU support compared to the rest of England. Scotland for instance should receive 941 million euros from the European Structural and Investment Funds Programmes 2014 – 2020. This amount is split across the European Regional Development Fund and the European Social Fund (Scottish Government, n.d.). Even before the Brexit referendum, the Scottish first minister Nicola Sturgeon announced a second vote on the independence of Scotland, in case Brexit happens.Two years before, Scotland’s first independence vote was lost. Sturgeon advocates for Scotland to become independent from England, subsequently joining the EU (Carrell and Brooks, 2016).It may be possible that Northern Ireland or Wales in addition, also will have a referendum for their independence to distinguish themselves from England, which in return would find itself abandoned. A major political problem is Irish border, as Northern Ireland belongs to the UK, whereas the Republic of Ireland is independent and remains a section of the EU. “Ireland regards the prospect of the UK leaving the EU as a major strategic risk. […] Northern Ireland could be the most adversely affected region of the UK in the event of a Brexit. This is extremely worrying on a number of levels. The EU has been an important, perhaps underestimated, enabler of peace in Northern Ireland. […] Common membership of the EU project is part of the glue holding that transition process together (Kenny, 2015).”The border between Northern Ireland and Southern Ireland is the only land border between the EU and the United Kingdom. Currently the border is open, so goods, services, people and capital can move freely between the two regions according to the four freedoms of the single market. However, this can be abolished if the border is reintroduced (Flanagan, 2018).The agreed draft Brexit agreement states, that Northern Ireland is in the same customs area as the UK, and thus is in the European Customs Union. It was also agreed that no visual border between the two regions will be introduced and that this will be maintained irrespective of the future relationship between the EU and the UK. Through this, Northern Ireland is engaged to abide by some EU rules regarding food and commodity standards (BBC-News, 2018c).

Besides this, Britain’s 14 Overseas Territories, where 250 thousand people live, are affected by the Brexit. Gibraltar for example had voted to remain part of the EU with 96 percent of the votes(Morris, 2018b). Except for Gibraltar, all other Overseas Territories depend on theUK and are no part of the EU. Gibraltar “is within the EU, as part of the United Kingdom Member State, although it is outside the common customs system […]. The people of Gibraltar have been declared UK nationals for EU purposes (Almqvist et al., 2004, p. 79).” Only the areas of foreign policy and defence are a matter of the British Government, whilst Gibraltar manages itself in all other areas (BBC-News, 2017b)

Regardless of whether a soft- or hard-Brexit occurs, it is still possible for England to collaborate with the EU and to take an active part in programs of common interest because Article 8 of the Treaty of Lisbon states that the European Union should develop special relations with neighbouring countries. The goal is to create a territory of wealth and good neighbourliness (European Union, 2008, p. 20).

6. Economic Consequences

As already stated, Brexit will have significant impacts on different sectors of the economy as it will make the production and trade of goods definitely more difficult. According to a study of the European Committee for Regions , German territories, after Ireland, will be affected especially by the economic consequences of Brexit.Forty-one of the fifty particularly affected regions in Germany are in the manufacturing, industrial and handicraft sectors. Significant effects will therefore be in Hamburg, Berlin, Cologne, Darmstadt and Dusseldorf with the western Ruhr area, hence the economic effects for Germany, in particular, could be substantial.Karl-Heinz Lambertz, President of the Committee, warned, that without a trade agreement, which limits tariffs to a minimum and continue to allow smooth trade, the British withdrawal will strain local and regional economies(Levarlet et al., 2018 and Kerl, 2018). Likewise, according to regional forecasts, every territory of England would suffer a loss in their gross domestic product after Brexit enters into force, regardless of how it is designed. Above all, North-east England, the West Midlands and Northern Ireland are to be mentioned here (Baynes and Mortimer, 2018 and Department for Exiting the European Union, 2018, p. 23).

Referring on a draft by the Department for Exiting the European Union (2018, p. 5), there are four key factors which will have an impact on the economic effects for the UK. First the reduced admission to the EU market due tariffs and or non-tariff barriers could reduce the trade with the EU or with constant trade it could increase the costs. Second, through new trade agreements with non-EU countries the commerce would increase. Thirdly, the competitiveness of the UK would improve if they are no longer bound by EU law and regulations. Finally, a change in governmental policy could lead to a change in migration. Besides England and Germany, Brexit also affects all other EU member states and, ultimately, future economic relations.In addition,Brexit also affects all other countries in the world, for instance Russia or the USA.

6.1 Monetary System

Christine Lagarde, director of the International Monetary Fund (IMF), explained that a hard-Brexit will lead to a significant economic decline in England in a relatively short timeperiod. Lagarde herself is against a hard-Brexit. “Our projections assume a timely agreement with the EU on a broad free-trade pact and a relatively smooth Brexit process after that. A more disruptive departure will have a much worse outcome. Let me be clear: compared with today’s smooth single market, all the likely Brexit scenarios will have costs for the UK economy, and to a lesser extent for the EU as well. The larger the impediments to trade in the new relationship, the costlier it will be(Lagarde, 2018).” Apart from the Brexit form, leaving the EU is thereforeassociated with high costs for both, the EU and the UK (Elliott and Partington, 2018).It should also be mentioned, that the Brexit will also have positive effects, but the negative ones preponderate. For example, the banking and financial sectors in the EU-27 can benefit from a British exit (WirtschaftsWoche online, 2018a).

6.1.1 The Brexit Bill

First, I would like to discuss the costs associated with Brexit. There are many predictions about how costly such an exit for Britain could be. Also, their range is also considerable, as the economic impact is mainly related to the future EU-UK relationship and this is uncertain at this time. The first calculations of how costly Brexit can be for the remaining EU countries was carried out in 2016 under the authority of the European Commission and the General Secretariat of the European Council. Hereafter, England pays the EU between 14 and 21 billion euros per year. If this and the money that England gets back from the EU is deducted from the EU budget, there will be a deficit of about 10 billion euros per year. This would then have to be redistributed to the remaining European countries to cover the loss. Germany, France and Italy are the other large net contributors to the EU budget besides the UK. These are confronted with significant higher payments after Brexit. Consequently, Germany’s share of the EU GDP would raise from 21percent to 25 percent, hence the share of financing the EU budget would grow by 2.5 to 4.5 billion euros for Germany (Müller et al., 2016 and Felbermayr et al., 2017). However, not only the EU-27 countries, but also England, are eligible for a Brexit bill.“Let me be clear: when a country leaves the Union, there is no punishment. There is no price to pay to leave. But we must settle the accounts. We will not ask the British to pay a single Euro for something they have not agreed to as a member (Barnier, 2017a).” With regard to the high annual deficit, the EU-27-member states are happy about every one billion that goes to the EU budget before Brexit takes place. Therefore, they initially demanded 57 billion euros from the UK.For the most part, these are regional subsidies, for which Britain has made a strong stand. Therefore, it is required, that the decisions, in which England was involved, must continue to be funded by all stakeholders. Pension obligations also account for a large UK share, as all retired EU officials have also worked for England. Over the next 30 years, these commitments amount to 63.8 billion euros. Through, the European Investment Bank (EIB) is not included in these calculations. Should the EIB be included, then the claims against England could double. The British have 16.1 percent of EIB shares, equivalent to 10.2 billion euros, which they could deduct after the Brexit of the claims. However, they would have to participate proportionate in the liabilities, hence, the British ratio of the total debt then amounts to 75.5 billion euros.On the other hand, the British were sure that they would not have to pay these payments legally after leaving the Union.This initial demand was quickly increased to 100 billion euros by more stringent requirements of France and Germany.There have been fees added for EU administration and payments to agriculture (Wettach, 2017, p. 32f. and Barker, 2017).

In a negotiation round, the UK has agreed to contribute financially to all commitments made during its membership of the Union. By the end of 2020, England will pay in the EU budget as if it had not left the EU. For the period beyond 2020, the UK share of the EU budget is based on a percentage estimation of the UK’s average contribution to the budget for the period 2014 till 2020 (European Commission, 2017b).This was again confirmed in the divorce agreement of November 2018 by England (European Commission and Department for Exiting the European Union, 2018, p. 227ff.). The British government estimated that England’s payment to the EU budget is about £39 billion (May, 2017 and Morris 2018a) – approximately 50 billion USD. Yet, Mrs. May has stated that England will only pay this Brexit bill if a trade agreement has been reached. She did so because she received considerable criticism from her cabinet, England would make too many concessions to the EU and thus weaken the British negotiation position (Deutsche WirtschaftsNachrichten, 2018).

6.1.2 Banking and Financial Sector

As mentioned above, England, alongside France, Germany and Italy, hold on average the same EIB shares. Against the background of a Brexit, and the resulting ceasing of the British shares, the EIB could face significant deficits running into billions. Given this fact, the EIB would find itself forced to grant fewer credits. These loans are of vital importance for example infrastructure plans in Europe (Müller et al., 2016 and Kullas et al., 2016).

Not only the EIB, but all other banks in England and Europe have an important role to play in the Brexit consequences. With more than one-third of all wholesale business in the EU’s financial sector are carried out in the UK, banks in the London financial centre are particular benefiting as the trading of financial services is also significant in the European Single market, hence the financial centre of London accounts for about 8 percent to 12 percent of the economy in England.Furthermore, a large part of the Eurozone financial system operates from London, in terms of physical as well as jurisdictional location (TheCityUK, 2016). Banksand other financial establishments benefit from the so-called EU financial passport, which allows financial institutions of an EU member state to offer services in other member states without further authorization. As London is an important entry point for capital flows from non-EU states into the domestic market, a loss of these rights couldlead to an outflow of foreign investments (Miethe and Pothier, 2016, p. 682f.).“The legal consequence of Brexit is that UK financial service providers lose their EU passport […] but the EU will have the possibility to judge some UK rules as equivalent, based on a proportional and risk-based approach. And in those areas where EU legislation foresees equivalence (Barnier, 2017b).”Currently they can act freely across borders. As many foreign and many European banks hold almost half of all assets in the UK banking sector, the loss of the rights of the EU financial passport would be substantial (Bush et al.,2014, p. 386f.).The best way to understand England’s importance is to compare US direct and portfolio investment. An FDI describes a company acquisition of at least 10 percent, whereas portfolio investment is a measure of short-term or more volatile investments. Direct investments from the USA to England are three times and portfolio investments are one and a half times as big as those to Germany and France together. Should the access to the European financial market not be possible after Brexit, FDI will be channelled through alternative access points to the EU.Also noteworthy is the position of Luxembourg, Ireland and the Netherlands. These are financially strong linked to the United Kingdom.This could be because there are comparatively low corporate tax rates in these countries. Furthermore, there are regulatory loopholes that allow funds to be transferred from there to subsidiaries in England, hence, these three countries have so much to lose in the Brexit(Miethe and Pothier, 2016, p. 682ff.).However, barriers are feared with the British withdrawal.Concerning these matters banks in London are in apprehension of the Brexit. Possible consequences for the financial sector in England can be described by means of two alternative models. The first would be the Norway alternative. After this, England would be out of the EU and thus has no influence on the EU policy and on the financial sector, but they still would be a member of the EEA. For the banks to continue to have full access to the EU market, the British would have to implement EU regulations and accept the EU-wide financial regulatory authorities. Due to the existing membership of the EEA, UK remains committed to the EU budget and has to accept the free movement of workers. For this reason, this scenario will probably not prevail. The second option would be anFTA similar to the Canadian alternative. Problem in this case is that the financial sector for the most part is left out of such agreements. Furthermore, the EU would partly link EU funding with the European financial market, which would be out of the question for the British. After leaving the Union, access to the financial market would be more difficult, wherefore financial service providers are considering moving to Amsterdam, Dublin, Paris or Frankfurt to operate in Europe as usual and bypass the complicated path of the EU’s external borders.Even before the referendum, US banks like JP Morgan or Citigroup announced that they would transfer parts of their business to other EU countries should England vote to leave (Treanor, 2016).In particular, they would move to Frankfurt am Main, as this city is one of the largest financial industries in Europe and the European Central Bank is there as well (InsideTrading, n.d. and Frankfurter Allgemeine Zeitung, 2016).Deutsche Bank is also shifting its customer service to Frankfurt, as continental European customers should be able to continue to do business with this bank after Brexit (WirtschaftsWoche online, 2018b).


1 This emerges from pre-distributed excerpts to journalists (Spiegel Online, 2013).


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University of Trier – Lehrstuhl für Internationale Wirtschaftspolitik
Brexit United Kingdom Consequences Welfare effects Political consequences Economic consequences Germany European Union negative effects Referendum Theresa May EU England Great Britain



Title: Brexit and the potential consequences for the United Kingdom and for the European Union