There are four dimensions to the UK’s future trading relationship with the EU and the rest of the world.
First, whether or not we will be in or out of the Customs Union. Second, whether or not we will be in or out of the Single Market. Third is the potential negotiation of bilateral free trade agreements. Fourth is the nature of future independent WTO membership.
When the Prime Minister set out her 12 principles earlier in the year, she clearly set out a hard Brexit, with quotes such as “what I am proposing cannot mean membership of the Single Market” and a desire to conclude “bold and ambitious free trade agreements” with “old friends and new allies” and “be free to establish our own tariff schedule at the WTO.”
With Single Market and Customs Union membership ruled out, the focus turned to the breadth and depth of potential free trade agreements, and the nature of the UK’s future tariff schedule to be submitted to the WTO. Economists for Free Trade (I should declare an interest here as a member) argues for unilateral free trade and a zero tariff schedule. Others argue for the retention of tariffs as a tit for tat bargaining chip in negotiations.
But in the wake of the General Election there is intense debate as to whether or not all four dimensions are now in play and could come to pass. Over the past week foreign secretary Boris Johnson has spoken of his desire for an “open Brexit”. The debate is now around how the government might shift its red line on immigration and free movement.
So let’s take a look at the most likely potential options.
Option 1 involves leaving the Customs Union but remaining a member of the Single Market (EEA). This option would permit bilateral free trade agreements (outside the Customs Union) and an independent tariff schedule at the WTO. Option 1 has huge political challenges, relating to continued free movement, ECJ supremacy and EU budget contributions. There is also a potential hybrid version, whereby free movement of people and annual budgetary contributions are restricted – i.e. a bigger divorce settlement cheque, but with reduced annual maintenance. EU supremacy would remain a significant political obstacle. Option 1b would be this scenario with a zero WTO tariff schedule – i.e. unilateral free trade.
Option 2 entails leaving the Single Market but remaining a member of the Customs Union. Consequently this option also rules out independent bilateral trade agreements and a separate tariff schedule at the WTO. The problem with this scenario is that in one fell swoop it removes the potential benefits to consumers and intermediate producers from trading at – lower – world prices outside the common external tariff.
Free trade agreement with the EU... or not
Option 3 means leaving the Customs Union and Single Market, and striking a free trade agreement with the EU. This option could also come with or without unilateral free trade.
Option 4 would also involve leaving the Customs Union and Single Market, but without striking a free trade agreement with the EU. Again, there are two scenarios, with or without unilateral free trade.
Staying in the Customs Union is economic nonsense. The gains to consumers and intermediate producers, from exiting the common external tariff, would vastly exceed the cost to other producers. With regard to the Single Market we are back where we started a year ago, with a need to understand why the conventional wisdom on single market participation is deeply flawed. Yes we need freedom of movement for skilled workers, but aside from that the benefits of membership are decidedly vague.