Tuesday, 19 June 2018

Why I don't like Free Trade Agreements


I had quite an interesting exchange with David Bannerman, the Tory MEP for the East of England, on Friday evening over Twitter. We clashed over the use of a Free Trade Agreement in any UK-EU future relationship scenario. Mr Bannerman is under the impression that a 'Super Canada' (as he calls it) type deal is both available to us and ideal for our post-Brexit EU trade. Of course, he is entitled to his opinion, but I do not share his position. And given that our interchange was unfortunately cut short, I thought it would be of some use to clarify why.

The initial battle line in our dispute emerged when another user asked for my thoughts on his Super Canada aspiration. Bannerman had been at an event with Barnier's Chief of Staff and an assortment of Brexit minister from other member states, after which he tweeted that all were hopeful of an ambitious FTA. This he labelled Super Canada. I responded:

"What is there to say? FTAs are retrograde, macroeconomically ineffectual and limited in the level of market access they can achieve. There really is no Super Canada."

Bannerman then hit back, explaining:

"Utter nonsense. Retrograde?! Why does EU indulge then with FTAs all around the world? CETA gives 99% access to EU Single Market; 92% in agriculture due to French protectionism. U.K. is being offered 100% tariff & quota free - an open market. So none of the 19,753 EU tariffs of CU."

My comment summarised most of my dissatisfaction with FTAs, but really there are four good arguments against their utilisation, especially within the context of Brexit. The fourth point, which I forgot to add in the moment, was that the enforcement regime which couples any FTA is not suitable for post-Brexit trade relations. This is because both the EU and UK are operating with intricate, often JIT, supply chains which are vulnerable to even the most subtle of disruption. Evidence of this need only be sought from 2016, when the French introduced enhanced passport checks at Dover and the lorry queues reached 17 miles, not all to too far from my home in Kent.

I do not need to use this blog for excessive repetition and so I do not feel it is necessary to go over the effects on the enforcement regime when we transition from the safety of the Single Market to the bristle harshness of an FTA. If you are new to this blog, I have written about the re-organisation of customs and regulatory formalities in such an event here and here. Suffice it to say that any exercise in reverse engineering of trade relations such as this will facilitate the re-imposition of controls at the point of the border, precisely where supply chains are so fragile.

British manufacturing has grown used to rapid movement of goods, and of components and processing inputs which go into goods. Reliance on Just in Time production methods, which are designed specifically to reduce storage costs, has strengthened as a result of the effectiveness of the EU's market surveillance programme and Customs Union, which work in symbiosis with one another. For exporters, the resultant level of comfort cannot be afforded by FTAs. It is conceptually impossible for an FTA to produce frictionless borders between trading partners.

Away from the border, the macroeconomic benefits of FTAs are small at best and pitifully unworthy of years of negotiations at worst. CETA, provisionally applied between the EU and Canada, is expected to boost European GDP by as little as 0.03%, a figure so small it pains one to think about the value in years of arduous negotiations, which incidentally remain threatened by Italy's heightened faith in geographical indications. A 2007 Copenhagen study projected a boost of a mere 0.3% for European GDP upon the application of the EU-Korea FTA, then (and still) an example of a pretty ambitious FTA.

If Mr Bannerman is under the impression that any 'Super Canada' will boost GDP then he would be naive. Any exit from the Single Market is bound to hit GDP by at least 5%, a figure which could plummet to 10% if we fail to mitigate the effects of becoming a third country with targeted customs cooperation and various elements of mutual recognition. Furthermore, analyses from other EU member states tend to demonstrate quite similar trends. A report on the impact of six EU FTAs on the Dutch economy concluded:

"The estimated impact of six envisaged bilateral EU Free Trade Agreements (FTAs) on the Dutch economy is small. If all six envisaged FTAs were to take effect simultaneously, Dutch real GDP would grow by around half a percentage point." 

Here we are talking about minuscule figures which appear to bring to question whether or not bilateralism is actually worth much. And that is the whole point: There is a reason I refer to FTAs as retrograde. They are not fit for purpose in a world which increasingly organises standard setting with a top down approach. As mechanisms seeking to globalise agreements on regulatory practices develop, it becomes far more important for countries to participate in multilateral arenas in order to exert as much influence as possible on the trading system.

Non-tariff barriers have clearly emerged as the common enemy in modern trade. Bannerman points to the benefit of a zero tariff continuum, and he is not incorrect in doing so, but his focus is misplaced. As I have written about elsewhere, regulatory protectionism is the real issue for us to worry about. The effects of NTBs on the cumulative costs of trade are far higher, both nominally and as a percentage, than any effects felt by residual tariffs. Indeed, with tariffs we can at least pinpoint certain sectors - particularly agriculture - where improvements can still be made.

Actionable and inactionable NTBs are scattered right across trade like a painted mood board. It is true that not all can be dealt with. Sometimes by virtue of differences in national legislation, culture and language, sometimes by virtue of geography and sometimes by virtue of national efforts to protect domestic industry (as in the case of America and their refusal to adopt European car manufacturing standards developed by UNECE). Every day their navigation slows the cogs of trade and actively harms the economic development of - in particular - LDCs.

The point here is that if one is to make tariff elimination a priority, then leaving the Single Market is made an entirely pointless pursuit. The fact of FTAs remaining effective eliminators of tariffs is more a reflection of low external walls than it is of the effectiveness of bilateral negotiations. Bannerman refers to a zero tariff regime as an "open market" but this is highly disingenuous. A market plagued by technical barriers to trade, from administrative hurdles to documentary checks to licensing practitioners and establishments, is no open market at all.

All indicators point towards the future depending far more on multilateral sector-specific agreements, especially if we are already wasting years of discussion on FTAs. If anything, MFN constraints now placed upon the scope of FTAs further demonstrate the futility of bilateral negotiations. Equal treatment amongst new generation FTAs is advanced primarily as a means of achieving some kind of level playing field, but in reality the whole process of two WTO members going 'beyond WTO' with an FTA to begin with will leave imbalances for countries vis-a-vis its trading partners.

Since FTAs scoop together multiple issues and sectors, negotiations are more likely to encounter friction and important issues are overlooked. Agreements on sector specifics, sometimes called Partial Scope Agreements (PSA) and sometimes referred to simply as 'unbundling', are mostly technical in nature and are thus better equipped to close loopholes otherwise exploited by criminal activity. Global unbundling is on paper a massive diplomatic effort, and this is indeed true in application, but so are FTAs, which have proven to be far less effective.

I have had discussions with trade negotiators online which have revealed to me that speed is the name of the game. If a negotiation is to fail it must fail quickly. The same is true of success. By building sector and issue-specific concords from the groundwork laid in global regulatory agencies, countries can reach precise agreement on technical regulations more easily and flex their diplomatic muscles by influencing standards at their very genesis. With bilateralism, years of effort is absorbed and little gains are made across the board. Unbundling can help to promote the opposite.

UNECE, a regulatory forum I retain quite a lot of interest in, has shown real promise in its combative approach to issues like documentation for use by cargo ships and labelling standards. This isn't of course to say that everything can be achieved in a reasonable time frame. Some barriers will persist simply because they must do so. But we have to look to the future and sensible alternatives to present methods must form part of that future. Brexit, if it does anything, gives the world a chance to rethink trade efforts and examine new possibilities.

Wednesday, 23 May 2018

A drop in the ocean


For those who may have missed it, a useful slide was tweeted out yesterday by Michel Barnier's adviser, Stefaan De Rynck. As we see above, it depicts the nature of the EU's regime on external controls imposed upon third countries. The red text was not added by me but is in fact very interesting. It highlights the extent to which a customs union relates to border friction, and by comparison the use the Single Market (EEA) has in diverting controls away from external borders. This will be of particular significance to the Irish conundrum.

In essence this slide tells us that when in a customs union with the EU, checks for proof of origin and payment of tariffs are not necessary. There is a very simple reason for this. By virtue of the fact that members of a customs union have a Common External Tariff (CET) wrapped around them, it can be assumed that a good inside that customs union either originates in the EU, in which case it automatically qualifies for preferential treatment, or it has filtered through the CET in order to move on to a member state, and so also qualifies. Checks for origin therefore move to the external borders.

In reality these two checks are pretty minor, but they become important precisely because in order to carry them out, a modest amount of infrastructure is required. Typically this amounts to customs posts, a lorry park and officers instructed to scan barcodes on documentation for feeding into highly integrated computer systems. The technological aspect of customs procedures is likely where the British government will struggle most, and I think this element of the Irish border issue is increasingly under appreciated. Violence is not the only potential problem to worry about.

In the event of the absence of a customs union between the UK and EU, exporters will likely need to provide some form of origin declaration at a border facility and where necessary proof of tariff payment. Some hauliers will also be asked to provide an invoice when transporting goods on behalf of another company. The issue with these stoppages is that they build up and create time-consuming queues. It is unclear how long customs queues will be and what material impact they will have upon, especially, just-in-time supply chains. Disruption may mean some supply chains are lost altogether.

Customs checks imposed upon British exporters in the event of an absence of a customs union will be pretty painful, but they are merely a drop in the ocean when we compare the impact with the impact of leaving the Single Market. It is here, denoted by the black ink in the graphic above, where much of the enforcement regime - where the checks come in - will be fundamentally altered. As I have been at pains to point out at this blog, one of the primary benefits of the Single Market is that it positions checks on product standards at the point of production, before goods reach importing member states.

This point is absolutely central to understanding the effects of leaving the EEA on the EU's enforcement regime and on our borders and supply chains more widely. The Single Market plays host to an intricate web of regulatory agencies that are responsible for cross-communication in the event of potential criminal activity and maintaining information on the completion of checks and the manner in which checks out to be carried out. This web is called the EU's market surveillance programme, the primary mechanism held responsible for keeping our borders frictionless.

Through a Rapid Alert System (RAS), agencies communicate with each other in order to weed out any counterfeit goods or general customs risks. Customs is intelligence-led and the market surveillance programme is designed to facilitate information-sharing through complex databases and analysis. Member states are in constant contact with each other through this largely invisible system, ensuring that the free flow of goods can continue for exporters and importers, and that fraudsters can be caught and prosecuted if necessary.

The text in black ink above outlines the breadth of influence possessed by the Single Market, and just how important it is to us. It is one of the main reasons why I don't support leaving the EEA. To be a part of the Single Market means to be a part of its enforcement regime. Leaving those regulatory agencies (which comes with de-alignment) means the relevant checks are re-positioned to the point of the border. This is just how trade works. This concept stands as the primary structural difference between a Free Trade Agreement and the Single Market.

It is a little ironic that just hours after we see this slide emerge, a van driver speaks to James O'Brien on LBC and outlines the difficulties he faces outside the Customs Union. He spoke passionately and articulately and I sympathise with his situation. This is why I despise the constant lying from figures like Dan Hannan and Kate Hoey, who serve only to maximise their own partisan audience share. The point I seek to make, though, is that the bigger picture paints the Single Market as a far more important instrument in the border cleaning process. I think a re-focus is in order.

Friday, 18 May 2018

The more things change


That I can spend seven weeks completely isolated from Brexit noise, return and slot seamlessly in to the chronology of events speaks volumes to the uncomfortable dithering over our EU withdrawal. It has nothing to do with me or my knowledge. It is precisely because nothing of any particular significance has taken place that I needn't have worried about losing track of things. We are no closer to reaching solutions to the core problems and this government instead prefers to dance around flirting with made-up answers to complex questions. See maximum facilitation.

Upon returning to Twitter's wonk bubble I notice immediately the familiar stench of intellectual atrophy emanating from Westminster. Ignorance of concepts still pervades what is left of trade debate and there are no signs that anything will improve any time soon. Some politicians still believe that an FTA can achieve frictionless borders with the EU if coupled with advanced elements of mutual recognition. Others are convinced that a no deal Brexit will not give rise to any new technical barriers to trade on the grounds that we already have full regulatory equivalence.

The more I have analysed Brexit the better I have come to realise that I have been right over the past year to place my faith in the inevitability of a soft Brexit. The irony from the outset has been that the harder our leaders have dug for a hard Brexit, the more clearly they have exposed the underlying necessity of a soft one. To Leavers I say this isn't half bad and we can make the most of a  much better situation, and to Remainers I say that the worst is probably over. The kicking of the can further down the path is not at all coincidental. It is the effect of red lines meeting a brick wall of trade realities.

In all of this I still believe in the primary purpose of Brexit, itself a political (not economic) pursuit. People ask me why I haven't converted to a Remain position and my answer has stayed more or less the same. I believe the UK is better off with the Single Market and worse off with ever closer union, which I believe extends the chain of accountability and pushes the levers of governance further away from citizens. Remaining would also still equate to very limited wiggle room for the kind of treaty change we need in Europe.

I also believe that a gradual regulatory separation between eurozone and non-eurozone EU members was to become a necessary component to future European integration. In this I saw an Efta Brexit as a mechanism by which we could jump-start a slightly different power dynamic on the continent, enabling us to position ourselves at the forefront of a European alternative to close-knit political union. Whether this happens in practice is anybody's guess, but there is a lot to be said for the argument that the EU's inner eurozone core is in need of special attention.

The case, now, for an EEA Brexit is unchanged and really rather simple. In retaining the EEA framework, we avoid the economic consequences attached to leaving the Single Market. This will prove invaluable because British supply chains have spent upwards of four decades acclimating to the EU's intricately developed systems. Sudden disruption is to supply chains what Christmas is to turkeys. Furthermore, by slipping into a ready-made package we are better able to eliminate much of the can-kicking and conceptual haziness from the process.

In all honesty the boat may already have left the harbour on applying to rejoin Efta, but this needn't cause too much in the way of panic. If the UK finds itself floating in a bespoke EEA position in the forthcoming years, application to rejoin may seem like the natural next step in order to maximise consultation and participation at key bodies within the EEA. The framework is based upon extensive collaboration and mutual trust, and its inherent flexibility makes it worthy of more serious consideration as a future UK pit stop.

Whatever red lines still breathe life in Whitehall are sure to die as negotiations progress. There are too many to work with and some are in direct contravention with others. And in all of this time wasting lies the uncomfortable fact that there is actually little point in leaving the Single Market. Standard setting is increasingly organised at a global level and the world is slowly converging on multilaterally agreed regulations. Any reductions in gross immigration will likely be modest and we will be left feeling as if we have opted for the short straw come the end of it.

Sunday, 25 March 2018

Too many eggs in the wrong basket


We know by now that leaving the EU means leaving its Customs Union. The Customs Union is an integral tenet of the Union’s treaties, and as such, simply falls away after the transition period comes to an end. For the UK, leaving it brings both opportunity and difficulty. Outside the (or a bespoke) Customs Union, we are able to regain much of the independence of our trade policy, but the necessity of customs posts dotted along the Irish border will be the price we pay.

Leave campaigners have consistently, and with some merit, pointed to a withdrawal from the Customs Union as being a sort of launching pad towards a new, UK push to champion global free trade. This, many argue, rests on the ability to reduce or ultimately abolish tariffs. The issue, though, is that by focusing purely on the gains to be made from tariff reduction we are setting ourselves up for underwhelming results. We are ignoring important points about protectionism and the nature of the Customs Union.

In the international trading system, any substantive efforts to promote free trade must focus on overcoming what are called non-tariff barriers. Typically NTBs come in the form of divergent regulations – different rules specifying the conditions for market access, and countries continue to struggle to find ways of agreeing on harmonised rules to facilitate trade. Without reaching common standards, trade will be either much more difficult or implausible altogether.

Most protectionism is now regulatory protectionism. Countries use rules and regulations to protect the integrity of their domestic markets, requiring of trading partners adoption of these rules. This development has emerged in response to plummeting tariffs, sparked largely by globalisation. More and more academic studies are pointing towards the effects of NTBs as representing far bigger costs to global trade than those added by tariffs.

Since the Customs Union only deals with tariff issues, as a protective device its use is inherently limited. The Customs Union does not give us common regulation and nor is it a device for rulemaking. Its only residual feature is the Common External Tariff (CET). But even here the extent to which the Customs Union is protectionist is somewhat exaggerated. The EU has implemented an intertwined mix of different initiatives designed to alleviate the tariff burden it imposes upon other countries.

The first of these initiatives is the Everything But Arms agreement (EBA), which provides 49 UN-classified Least Developed Countries (LDCs) with tariff-free access to the EU’s Internal Market. As the title suggests, this applies to any goods which aren’t arms or armaments. The second such initiative is a Generalised Scheme of Preferences (GSP), or a GSP+ scheme, which provides low to middle income and vulnerable low to middle income countries with tariff free access across two thirds of product categories.

Arrangements like these offer what is effectively a waiver on the Customs Union. They say that for countries which are poorer and trying to develop, application of standard EU tariffs is unnecessarily punitive and stifles the promotion of economic growth and free trade. On Brexit, the UK will not be able to offer these countries preferential tariff regime, and the lesson here is that the scope of the Customs Union is far more restricted than is widely claimed.

Of course, the Customs Union is protectionist and demands that the needs of many European producers are prioritised over the needs of consumers. I broadly agree that tariff reduction is a positive thing, but at the same time I don’t subscribe to the notion that the way to go is total unilateral disarmament. In dropping our tariff walls to zero post-Brexit we would leave ourselves with much less in the way of negotiating leverage.

The UK will find benefit in leaving the Customs Union, but it is important not to wildly inflate our expectations of what is to come. Tariff differentials create border friction, along with the Rules of Origin hurdle which will be reintroduced when exporting to the EU as a result of leaving the Customs Union. Without the or a comprehensive customs union, the Irish border will not be completely frictionless, though technological devices can help to alleviate some of the pressure.

I don't want the UK in any sort of post-Brexit customs union with anybody. But I acknowledge that this cannot be squared with frictionless trade on the Irish border. Really it is a question of weighing up the benefits of such an arrangement with the drawbacks. The Customs Union does create barriers to trade but it is important that we identify where these are. I think a little calm on the question of post-Brexit trade policy is in order if we are to discuss the merits of leaving the Customs Union constructively.

Saturday, 3 March 2018

A looming deadline


Last summer I made quite a fuss about two important provisions within the confines of the EEA Agreement. They are Articles 126 and 127, which deal with withdrawal and the scope of the Treaty's application. Some of my more long-term readers will remember work I have written on the legal withdrawal from the EEA, such as here. My position, in summary, was that in order to formally initiate its departure from the Single Market, the UK Government would have to invoke Article 127. And that not doing so would see us enter a period of legal haziness.

Article 127 of the Agreement states: "Each Contracting Party may withdraw from this Agreement provided it gives at least twelve months' notice in writing to the other Contracting Parties. Immediately after the notification of the intended withdrawal, the other Contracting Parties shall convene a diplomatic conference in order to envisage the necessary modifications to bring to the Agreement." This twelve month period extends to March 29th 2018, a date which sits but a few weeks away. The deadline for invoking this Article is closing in.

Quite what happens if the government does not pull this lever I do not know. Frustratingly, legal opinion is heavily divided on the issue and far be it from me to masquerade as some kind of QC or expert on international law. I try as hard as possible to base my views on the available evidence and will reference those with the expertise as I go. I have found use in following the arguments of the Single Market Justice campaign (led by Peter Wilding and Adrian Yalland), this paper produced by the Institute for Government and this EEA Briefing Paper, which notes:

"The United Kingdom is a separate “Contracting Party” to the EEA Agreement in its own right: so it is bound, in its own right, by the EEA Agreement. It owes obligations under the EEA Agreement to States that are not members of the EU (Norway, Iceland and Liechtenstein), and since it is a basic principle of international law that States are not affected by Treaties to which they are not party, it is impossible to see how the rights of those States (and the rights of their citizens) could be affected by action under the EU Treaties. 
Some commentators have pointed to the fact that Article 126(1) refers to the territory covered by the EEA Agreement as being the “territories” to which the EU Treaties apply (in addition to Norway, 3 Iceland and Liechtenstein). Indeed, this was the Government’s initial position prior to the commencement of the EEA Judicial Review. 
However, the Government then abandoned this position and finally accepted that Article 126 did not “give rise to termination of the EEA Agreement ipso jure”. In fact, if the intent of Article 126 were to limit the Agreement only to states which are at any time member states of the EU (and Norway, Iceland and Liechtenstein), the use of the word “territories” would then be incongruous. 
It is made clear by Article 126(2) that “territories” refers to territories which are not included within the Contracting Parties’ national borders, but for which the Contracting Parties have diplomatic responsibility. Article 126(2) then disapplies the Agreement from some of those territories."

Readers should remember that the European Economic Area is a separate legal entity from the European Union. The EU makes up a large part of that area, with three Efta states (Norway, Iceland and Liechtenstein) making up the other part. A portion of the EU's acquis is transposed into the EEA Acquis, where fisheries and agriculture are notably excluded and the residuals in the framework relate only to trade. The EEA becomes effectively an extension of much of the EU's internal market, so we are left really with two Single Markets, almost totally identical, sitting side by side.

The 2015 Referendum Act did not cover membership of the EEA. And, as per standard UK constitutional requirements, new parliamentary legislation is the only mechanism through which a change in international law can have any domestic effect. Unlike most countries on the continent, we are a dualist state and, since Brexit is rooted largely in a clamouring for parliamentary sovereignty, it seems fitting to honour the process with a little consistency and take the appropriate legal and parliamentary route towards whichever destination this government is steering us.

I notice also that my friend Jonathan Lis has written a useful article on the issue just recently. I was happy to see this because I had completely forgotten about its importance in debate. So much concentration has been placed upon Article 50 (of a separate and legally distinct Treaty) and phase two and transition periods that the EEA elephant in the room has been left marginalised so to speak. This oughtn't continue. We aren't appreciating the enormity of the legal uncertainty which could lie ahead. I am talking the UK operating as a third country (to the EU) and EEA signatory simultaneously. Politically these positions stand in direct contradiction to each other.

Even if legally it is decided A127 invocation isn't necessary, we should still opt to do so for the sake of clarity. Most Efta officials believe that formal notification of withdrawal is congruent with the scope of the agreement. So too do a large number of barristers. The weight of this opinion renders mine valueless but I will make my points regardless. My agenda here is clearly political. Nonetheless a good way to build on the Prime Minister's pragmatic speech this week would be to take our loose ends seriously and tie them up wherever possible.

Thursday, 1 March 2018

A further complication


I am coming to the end of my body of work on the EU's Customs Union, and on customs unions in general. Most of the content here can now simply be re-plugged, rather than added to, and I thank readers who spend their time sharing it. I mentioned in my post on Tuesday that there were a couple of little residual issues left to write about for the sake of informing those invested in these issues. One of them is the relationship between services and customs unions, tackled here, and the other is the variety of exemptions from the Customs Union afforded to poorer, developing countries.

In truth I should have grappled with this stuff before the referendum but it wouldn't have made much difference. The level of knowledge of the features of customs unions in the Commons is so dire and I have no real way of influencing public policy. All I can hope to do is inform the informers, which I rather think must continue with broad clarification on the relationship between trade in services and customs unions. This issue has been left uncharted thanks to stoic agreement that tariffs do not apply to services, but there are important exceptions to this rule that are worthy of discussion.

Thankfully, grasping a broad outline of services trade is not especially difficult. The WTO's General Agreement on Trade and Services (Article 1.2) outlines four international modes of service. Mode 1 is cross-border, where a customer in country B receives a service from country A by means of post or telecommunications. Think architectural drawings or medical advice. Mode 2 is where consumption takes place abroad, for instance in the case of a patient travelling to another country in order to benefit from some kind of medical service.

Mode 3 services are transmitted by commercial presence abroad, where a company based in country A sets up a subsidiary in country B and offers services from that sister outlet (such as EasyJet in Vienna). Mode 4 services involve the movement and enterprise of persons. An individual, such as a caseworker or consultant, moves to a different country and provides services in the new country. An argument can therefore easily run that since services do not relate in any way to customs duties, they are not affected by a (or the) customs union.

Except this is not technically accurate. And to understand why we need to delve into changes to manufacturing techniques and examine the role of service inputs in goods, or 'services in a box'. This we have come to term Mode 5 services, which have fallen completely under the radar of trade discourse and the WTO's website. This is perhaps useful as the simplicities of the Customs Union have themselves been difficult enough to grasp for the relevant politicians. Further complication of discourse is arguably ill-advised for those who do not consider themselves Brexit or trade obsessives.

Mode 5 services are goods to which a service (or more) has contributed or accompanies. An example of a Mode 5 service might be a software package embedded within a bundle of IT hardware or design engineering accompanying an automotive part. They are services which are inseparable from and embedded within goods, which then rely on GATT for general trading guidelines, meaning that they count as goods and that they may be subject to duties. This means that if the value-added service element appears within a product which qualifies for a duty, we know we have a Mode 5 service.

For manufacturers the external sourcing of service content, whether domestic or international, represents an increasingly quantitatively significant part of production. We refer to this trend as the 'servicification' of manufacturing and Mode 5 services exports now form around 35% of the EU27's merchandise exports, according to 2009 TiVA statistics. This is a mathematically important chunk.  Typically, merchandise exports will mean retail goods, as they are unnatural products which are produced in response to consumer preference and market demand.

So services relate to the or a customs union in so far as a service element is added to a good which must filter through some kind of duty. Inside the EU, UK exporters exporting to Europe are not presented with any additional hurdles. The very fact of the CET being wrapped around EU members and (theoretically) eliminating the possibility of circumvention means that preferential treatment is assumed. A good will either originate from within the EU or it will have been fed through the CET. Tackling tariff differentials becomes a problem for customs officials at the EU's external frontier.

In leaving the EU's Customs Union and not establishing a bespoke alternative, Mode 5 services are likely to face documentary hurdles since they will simply be treated as goods. This could mean they qualify merely for MFN tariffs or FTA-negotiated tariffs depending upon the nature of the future relationship. Customs officials will simply treat them as they would other physical goods. Their job is to assess whether the relevant VAT and tariff has been paid and translate any transactions to HMRC upon scanning paperwork. The fact of an internal service element existing will mean nothing.

What makes this interesting is that often Mode 5 services add substantially to the value of a product. We might be looking at research and development or we might be looking at some form of marketing consultancy. All indicators point towards Mode 5 services gaining traction as an influential aspect to modern trade and this may be an area where tariffs have a more discernible impact. And beyond tariff rates, a post-customs union UK will need to accompany Mode 5 service goods with certificates of origin in order to prove qualification for preferential treatment.

Another important point here is that plain to see are failings at the WTO. Exporters are in urgent need of a global redefining of trading rules to accommodate significant changes to the ways in which services are actually administered. Effectively trading actors have jumped ahead of the rules and find themselves in need of guidance. The omission of Mode 5 services in both GATS and GATT reflects how far multilateral trade negotiations have actually fallen behind developments in manufacturing and globalisation. Global talks are long and arduous, technological change is often very rapid.

The end result is that we have yet another sizeable gap in Britain's understanding of trade. Just as it embarks upon the greatest shift in trade policy in living memory.

Tuesday, 27 February 2018

Intelligent naivety


Slowly, the obsessives in Brexit's intellectual domain are arriving at a general consensus of understanding as to the features of the EU's Customs Union. It has been a frustrating journey, partly because certain people who claim to be expert on these issues did an inadequate job of informing the necessary players prior to the referendum result and so politically active circles have lagged behind ever since, hurrying attempts to grasp an important pillar of this debate. In this we thickos have been at pains to make up ground and inform others.

This blog has covered the basics. We know what a customs union is, we know that it restricts the independence of our trade policy but does not prevent the signing of all trade deals, we know that the Customs Union eliminates a Rules of Origin hurdle when exporting to the EU and we know that we leave it when we leave the EU (post-transition, presumably). Thankfully there is less to grapple with than the ignorance of our politicians appears to imply. There are, though, a couple of much smaller, residual issues left to tackle but I will save them for a later date.

The latest development in the national customs union debate is yesterday's announcement from Jeremy Corbyn. His party claims that it supports full membership of both the Single Market and Customs Union during the transition period and, beyond that, "a new comprehensive UK-EU customs union to ensure that there are no tariffs with Europe and to help avoid any need for a hard border in Northern Ireland. But we are also clear that the option of a new UK customs union with the EU would need to ensure the UK has a say in future trade deals."

There are quite a few claims here worth commenting on. To begin with, the guarantor of tariff-free trade across the EU and Single Market is Article 10 of the EEA Agreement. For the Efta/EEA states the omissions of agriculture and fisheries from the provisions of Article 10 are not inevitable. They are merely the result of domestic political policies, like vast disparities in agricultural subsidies leading to a notable imbalance in competitiveness. It is highly dubious for a politician to contend that the Customs Union ensures tariff-free market access.

On the point about the Irish border, Corbyn chose his words quite carefully. To "help" avoid a hard border in Northern Ireland rather emphasises the fact that a customs union alone does not bring about a frictionless Irish border. A customs union deals with an origin check, in which certificates and invoices are scanned by officials at customs posts, and enables one country to determine whether the relevant tariffs have been paid on goods. Customs unions do not deal with sanitary and phytosanitary checks, which require physical intervention, and other general checks on the standard of goods.

These controls are removed by the Single Market, the mechanism which enables us to enjoy a behind-the-border enforcement regime and the absence of Border Inspection Posts (BIPs) and Community Entry Points (CEPs), which accommodate controls against third countries on animal and plant products respectively. Typically these control points are merged into one facility, such as in the case of Dunkirk, whose expansion in 2009 was privately funded to the tune of almost £4m. Leaving the Single Market will mean agricultural exports and imports are diverted through these checkpoints.

In addition we have a VAT hurdle to tackle, which becomes a border issue precisely because the regime is likely to transition from 'acquisition' VAT to 'import' VAT (exercised by Norway), where goods are held at the border until proof of VAT payment has been confirmed by customs authorities. Usually there is scope for mitigating VAT procedures at the border. Pre-arrival declaration systems, where importers pay VAT away from the border periodically subject to rigorous auditing of accounts, can be introduced by HMRC after adequate bureaucratic preparation has taken place.

There is some dispute over whether or not the EU will allow the UK to continue its participation in its VAT area, in the way that it does the Isle of Man. I personally think this is possible, especially if VAT proves to be the last area of contention for the border. The EU is known for its ability to fudge relationships and I don't see any particular reason why Brussels would be stoically inflexible here. VAT is not a huge issue and can in large part be dealt with electronically. If we can remain in the EU's VAT area, this would eliminate the border issue but would also require continued ECJ submission. It's a trade-off.

From a logistical and analytical perspective, the last sentence in Corbyn's customs union policy announcement is the trickiest. What we know for sure is that there will be no UK veto over future EU trade negotiations. There is no political will for this in Brussels and no precedent for it in the EU's other customs union relationships. It is out of the question. Whether we can influence the shape of future trade negotiations is unclear. We would, of course, only need a vested interest in contributing to discussions over changes to tariffs, as this would be where our trade policy would be restricted.

I believe that meaningful influence is highly unlikely. Third countries may in some cases request that the UK partake in discussion, but I cannot be sure about where or why. At best I might suggest that a consultative mechanism could be established to enable the UK to leave 'comments' on proposals and negotiation developments in a similar fashion to EEA legislative processes. They would have limited impact, naturally, but such is the very nature of customs union participation that the independence of trade policy is infringed upon. I am therefore clutching at straws to find ways of supporting Corbyn's aim.

Turkey, for instance, forever trails EU trade negotiations. Turkey's bargaining position is weak: they must automatically apply tariff concessions after the EU has negotiated FTAs, and will subsequently arrange reciprocity with relevant trading partners. Brussels takes the lead on the application of tariff concessions and Ankara follows slowly behind. Notice, importantly, that Turkey is not guaranteed to receive reciprocity from third countries after obliging to apply these tariff concessions. Labour's new policy could well see the UK arrive at an identical position.

In this sense I think the change in party policy is logistically naive. Politically it is clever in its ability to tempt Tory remainer loyalists to vote against the Government and join opposition seeking to soften and water down Brexit. It might well be worth describing Labour's shift as intelligent naivety. Whether Corbyn and allies believe that Britain could influence EU trade deals whilst parked inside a parallel customs union is really not important. The Tories are the governing party and the pressure is now on Mrs May to pass crucial legislation, avoiding the prickles of thorny amendments.

Thursday, 22 February 2018

Quickie fantasies


One of the most pervasive fantasies of Brexit discourse is the idea that a Free Trade Agreement between the EU and UK would be a matter of unique simplicity. The justification for this claim tends to be that since both sides start from the point of regulatory equivalence and harmonised tariff regimes, reaching agreement would be straightforward and quick. This is a falsehood but nonetheless remains a very easy trap to fall into. Today, Andrew Bridgen, Tory MP for North West Leicestershire became its latest victim, as he told Business Insider:


"A free trade deal can be sorted very, very quickly. It isn't complicated is it? It's the most straightforward trade deal you could ever do. The free trade deal we could do with the European Union will be the most straightforward ever in history. We've got full regulatory equivalence. It's just a matter of what you want tariffs on. It could be done in an afternoon."

We all know that the best and most effective lies are those which contain a grain of truth. Though the term 'lie' may not be entirely appropriate here, the principle is more or less the same. Bridgen's assertion is a prediction, but it is one which will not and cannot come true. It is true that both sides start from the point of equivalent regulatory systems. This does not only mean adhering to the same set of rules. It also includes joint participation in regulatory agencies, the second of the important characteristics of regulatory alignment. But the trap lies just behind this truth. 

To lay the groundwork here for a moment, it is important to remember two things. Firstly, the UK can only enter into FTA negotiations once it has acquired the status of a third country. The withdrawal process does not include scope for concluding an FTA and nor does it come with the necessary time frame. We begin negotiating an FTA after we have left in 2019, which means during the transition period. Secondly, the looming FTA between the UK and EU is the most unique in the history of international trade. It symbolises an unparalleled resetting of tightly knitted economic ties. 

The way to begin disproving Bridgen's claim is to sit back and think about the purpose of a UK-EU27 FTA. The answer is actually pretty simple. It would be to establish a difference from the terms of EU membership, just as it is with other trading partners. A third country UK would operate a symmetrical regulatory and tariff regime, enjoying the terms outlined by the transitional arrangements without the internal democratic representation. The present volume of trade between the EU and UK will make this painful, but equal treatment rules are fixed in place and upheld for a reason. 

That the EU is protectionist is deliberate. It has created something worth having and preserving integrity is vital. If you want in, you bring obligations with you. No exceptions. If we refer to the EU as a 'protectionist racket', which it is, we need to remain consistent in our criticism and not chop and change this critique when it suits us. If we attempt this we will only be fooling ourselves and cheapening an already insufferable quality of debate. We must face up to the fact that in heading into negotiations with the EU we are swimming upstream in our fight for comparable market access.

Unlike ordinary FTAs, which seek to harmonise regulatory architecture, reduce tariffs and promote increased volume of bilateral trade and economic growth, this FTA would be somewhat different. Beyond tariff re-reduction, it would effectively seek to ensure that market access reached a plateau or compromise. It would start with equivalent trading terms but would evolve effectively a fight between efforts from the EU to forge a separation, and efforts from the UK to exploit the EU's right of reservation on its services MFN clause built into CETA. 

Examination of CETA's scope on services reveals how unimpressive it really is. This is the kind of sticking point where politicians will begin to appreciate more strongly the benefits of Single Market membership. Canada can pursue even greater services access, but in return it must shed much of its rulemaking apparatus and adopt EU requirements. The UK won't have the regulation adoption problem, it will have the opposite problem: we can meet their demands but the fight begins when Brussels realises it cannot overshare and be too generous. In trade, precedents matter. 

The EU knows that its relationship with the UK is not the be-all and end-all of its trade policy. For them we represent a 15% chunk of total trade, for us the figure is approaching 50%. Brussels must therefore reassure remaining members that it is in their interests to stay part of the club. It can and will move on. This is where the bargaining power favours the EU, a vastly bigger market with a significant experience leverage on a panicked and disorganised Westminster. It is also why I decided the best way of leaving the EU was to depart with a guarantee on EEA membership. 

I would also make mention here of the fact that regulatory equivalence does not and will not prevent border controls. As I have explained in more detail elsewhere, the main structural difference between an FTA and the Single Market is the nature of the surveillance and enforcement regime. In other words, where the checks come in. An FTA between the EU and a third country sees controls, whether they are customs checks or SPS checks (requiring physical intervention), reintroduced at the border. This is because the EU has no jurisdiction in the internal workings of a third country. 

It cannot organise a behind the border approach to controls in the way that it can with its members. The level of checks will prove bothersome in FTA negotiations and our negotiators will want as soft a border as possible. By virtue of the location of the enforcement regime, FTAs can't produce frictionless borders. This will have costs to supply chains and, in particular, UK based companies operating Just in Time production regimes. Parts required quickly will stumble their way through procedures not previously necessary. Arguments will break out here too as the UK seeks ways of easing the burden on its borders.  

Bridgen's absurd naivety went largely ignored by commentators today and this is a worrying sign. We are just months from the conclusion of the Article 50 period and still we have elected officials barely able to understand the basics. I can only despair when I look at the intellectual vacuums which grace both our major parties. Labour's new policy announcement on the Customs Union is a whole other post in and of itself. And the sad part about all of this is that those of us who are well-informed and care are not able to take a lead on debate. We are firefighters, running around in circles correcting the ignorant headline-grabbers as we go.