Late last month the UK announced its post-Brexit trade policy, shedding more light on one of financial commentators longest-running concerns about the UK economy and equity markets: a no-deal Brexit. Based on our assessment, as we will discuss below, whether or not the UK is able to sign a free-trade deal with the EU, the country looks open for business, not a protectionist nightmare.
On the international trade front, the government unveiled a tariff regime—the UK Global Tariff (UKGT)—that shows what a Brexit on World Trade Organization (WTO) terms would look like. As an EU member, the UK had to apply the tariffs (taxes on imported goods) the EU set for the bloc’s trade with the rest of the world. Once the Brexit transition period expires at year end (provided it isn’t delayed), the UK will be able to set its own tariffs, following the guidelines that accompany its most-favoured-nation status at the WTO. These tariffs will apply to all nations the UK doesn’t have a separate free-trade agreement with.
The result, contrary to what many financial commentators we follow anticipated, is broadly freer trade with simpler terms than the EU’s. The plan eliminates all so-called nuisance tariffs, meaning all those presently set at 2% or lower, and reduces most others. It also reduces the percentage of imported products subject to tariffs from 53% to 40%.[i] In value terms, 60% of imports will be tariff-free.[ii] But there are still carve-outs to “protect” pet industries. For instance, the plan cuts tariffs on car parts and other strategic manufacturers’ components, but levies will apply to competing final goods—such as assembled cars, as well as agricultural and fishing products.
Loopholes aside, the result is a post-Brexit Britain with broadly freer trade with non-EU nations. This is significant, in our view. In 2019, 45.8% of UK goods exports went to the EU, with 54.2% going to the rest of the world.[iii] On the import side, 52.9% of imported goods in 2019 came from the EU, and 47.1% came from everywhere else.[iv] So, in the event it and the EU fail to reach a trade deal, just over half of UK goods imports (those from the EU) would see a slight tariff increase from the current zero percent rate to WTO and UKGT terms, which are still generally quite low. Meanwhile, a good share of the remainder would see a reduction. In our view, this should be a positive surprise to many. Financial commentators we follow frequently portrayed Brexit as a nationalist, protectionist move. They seemingly focused on its implications for UK/EU trade ties, which have yet to be determined (more on this below), rather than trade with the rest of the world. Now we have clarity on this, and it is largely better than protectionist fears portrayed.
A separate announcement brought clarity on what having a de facto EU border running down the Irish Sea could look like. One major sticking point in last year’s Brexit talks was that whilst 1998’s Northern Irish peace accords mandated an open border between Northern Ireland and the Republic, Brexit moved the EU’s border there, technically requiring customs inspections. The solution, agreed in January, kept the Irish border frictionless but mandated checks on certain goods crossing from Great Britain to Northern Ireland. Yet until last month, it wasn’t clear how either side would apply that agreement in reality. But one day after announcing UKGT, the government detailed its interpretation of the treaty and its planned policies. Amongst them: Food and live animals crossing from Great Britain to Northern Ireland would face inspection, but not those travelling the other way. Tariffs would apply only to goods destined to be transshipped to the EU, though details on how officials would determine this aren’t available.
We think this gives UK businesses on both sides of the sea some clarity, but if recent experience is a guide, we suspect it probably won’t be the last word. The EU likely has its own interpretation of the treaty, and it wouldn’t surprise if either side used their differences as leverage in trade talks. However, considering we are dealing with two parties’ differing views of a signed treaty rather than starting from scratch, any debate seems mostly symbolic.
Whilst these events probably affect Brexit trade talks, we don’t think they much alter the likelihood of a no-deal Brexit. Rather, they provide clarity on how that scenario would look. Failing a deal, the UK’s Irish interpretation would likely hold, and UKGT would apply to trade with the EU. Whilst that does represent new barriers, they aren’t high. UK companies dependent on European parts won’t see their supply chains interrupted. Questions linger over how differing regulatory standards could create non-tariff trade barriers, but just as the UK unilaterally lowered tariffs, it could also unilaterally recognise EU standards as sufficient for imported products, negating the need for inspections and the associated backlogs at the border. In the meantime, there is a chance these moves on trade and Ireland could give EU negotiators the impetus to resume trade talks in earnest. Time will tell how that evolves, but if UKGT and the Irish Sea proposal amount to the potential worst-case scenario, that seems like a positive surprise to us.
[i] Source: Reuters, as of 3/6/2020.
[iii] Source: Office for National Statistics, as of 3/6/2020.
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