Wednesday, 21 February 2018
Diverging from reality
Some readers will by now have come across this Julia Hartley-Brewer interview with Steven Edginton in which she outlines what her approach to post-Brexit trade with the EU would have been. The specific, 90-second segment I want to address can be watched separately here. In the clip, Ms Hartley-Brewer explains that the government's negotiating 'strategy' ought to have been to tell the EU that "we want tariff free access and you can have tariff-free access to us." She explains that if the EU wanted to respond with punitive tariffs that would be "entirely their choice."
This is not accurate or legally workable. And fortunately it is not difficult to identify the problems with it. The root of the ignorance on display here is a failure to understand the consequences of becoming a 'third country' to the EU, as well as the application of international trade law. A third country, of course, refers to a non-EU member and is a necessary and inevitable consequence of leaving the EU and EEA. We acquire this status upon leaving and it is crucial this is understood. Acquisition of third country status has important ramifications for trade.
At the heart of the international trading system is a commitment to equal treatment. At the WTO this is called 'Most Favoured Nation' (MFN). MFN has emerged as an important pillar in global trade and acts as a barrier to undue discrimination and a promoter of liberalised trade, harmonised standards and fairness. It requires that WTO members apply the lowering of a trade barrier, such as a tariff reduction, to all other members. This applies to both goods and services. MFN is so crucial that it takes point in Article 1 of GATT, Article 2 of GATS and Article 4 of TRIPS, the WTO agreement on Trade-Related aspects of Intellectual Property Rights.
When the UK becomes a third country to the EU it inherits existing EU MFN schedules. Schedules cover goods and services. There is no such thing as a tariff schedule, though I may use the term from time to time for the sake of ease. Within goods schedules are tariff rotas, broken down into product categories. Typically lower MFN tariffs are found attached to industrial goods, averaging at between 3 and 4%, and higher ones in the agricultural sector. Tariffs on meats, cereals, vegetable oils and milk can be especially punitive, often reaching upwards of 30%.
Let's use beef as an example. In the case of beef, the EU-wide ad valorem, MFN tariff is 12.8% plus a charge of 3 euros per kilo. Currently 92% of the UK's beef exports go to the EU, with large proportions sent to France, Ireland and the Netherlands. For obvious reasons these exports are not met with tariffs of any kind. Upon becoming a third country and after the EU adheres to its equal treatment commitments, 92% of the UK's beef exports are automatically hit with the standardised ad valorem MFN tariff of 12.8%. It is not a question of the EU making a choice.
I am deliberately working with an agricultural example because it is in this sector that we see more clearly the impact that tariffs can still have. I tend to argue that tariffs are not the issue, but this is not uniformly the case. They are not problematic for most sectors, and indeed we do see continual efforts to bring about further reductions. These include international agreements like EBA and GSP (or GSP+) schemes, explained here. What I am trying to build is a picture of what slotting into third country tariff regimes will, not could, mean. Hartley-Brewer's element of 'choice' is totally irrelevant.
Interestingly, EU members are able to discriminate in favour of the UK as a fellow member, and this would appear to breach WTO rules on equal treatment. But it does not, as there are important exceptions. WTO members are permitted to move 'beyond WTO' (offer preferential market access) if and when they enter into a Customs Union or other Free Trade Area, such as an FTA, with another member. These exemptions are granted under Article XXIV of GATT, and being a customs union, EU member states are able to offer each other preferential market access in the form of zero tariffs without breaking rules.
These exemptions are important because they effectively encourage moves towards promoting freer and freer trade. But there is a catch. The UK will not leave the EU with a Free Trade Agreement, as this is not plausible, and so must rely solely on the MFN terms given to other third countries (not in a customs union or FTA with the EU). An FTA with the EU would take years to negotiate in spite of regulatory equivalence for the very fact that the whole purpose of the FTA would be to establish separation from the terms of EU membership.
As to Ms Hartley-Brewer's assertion that we can offer the EU tariff-free access, this is in principle true. We can unilaterally disarm, but it needs to be remembered that this would become the yardstick for our new MFN schedules. This means that we would need to apply the same treatment to all other trading partners for the sake of not falling foul of equal treatment rules. To one and to all. This will prove to be one of the most important lessons for the UK to learn as a newly established customs entity.
Total unilateral tariff-free trade is not recommended by industry, politicians or trade experts. In lowering our walls we would find ourselves with less to negotiate with. Incentive would be lacking for other countries to enter into improved bilaterals with us and we would be spending all of our time chasing other countries for reciprocity with much less to offer them in return. We would look weak. And this is without mentioning the costs to well-protected domestic producers, which could backfire for the government if certain sectors overwhelmingly vote Tory. These considerations will be pondered.
Enforcement of the core principle of equal treatment can be arduous. Dispute settlement is long-winded and involves many review stages. Lodged disputes can take years to settle. What we do have, though, is a system of checks and balances, in which any divergence from MFN undertaken by countries which results in undue discrimination is met with diplomatic chaos or trade wars. For the EU, making an exception for the UK would be impractical. The Customs Union and Single Market operate together and protect European markets for a reason. They are not to be undermined or played with.
One of the reasons that I ended up proposing a Norway-type model is that such an arrangement would allow us to circumvent standard third country protocols. In effect we would be able to leave without becoming a third country. In this we would have protected our place in the Single Market, more or less escaped political integration and avoided the hassles of technical and other non-tariff barriers to EU trade which wait for us on the horizon. Forgive the wretched expression but it would have been as close to 'cake and eat it' as we could possibly have gotten.