Economic Implications of Brexit
Whether Brexit is judged to be success or not will depend to some degree on its economic impact. Much of the public debate in the UK around Brexit has been focused on the binary choice of ‘soft’ or ‘hard Brexit’, which relates to whether the UK should stay in the Single Market and the Customs Union, or have a clean break from both and set up new trade arrangements with other countries. However, a range of different trade opportunities and arrangements are possible between the UK and European Union (EU), and other countries, such as the United States, post-Brexit.
The chosen trade arrangement will largely depend on the UK’s negotiations with the EU. This will involve a complex set of talks between both parties involving multiple issues. The Brexit negotiations appear to be particularly challenging for the UK, as it attempts to disentangle its current ties with the EU while also negotiating arrangements for a future UK–EU trading relationship.
Both the UK and the EU have declared their intent to have a positive partnership, but if discussions over the divorce arrangements and future accord are negotiated consecutively rather than concurrently, it could lead to the two parties being unable to reach mutually advantageous accommodations. This is likely to present a number of political and economic challenges for both sides, but especially the UK.
With RAND Ventures funding, researchers from the US and RAND Europe explored the economic implications of eight different trade scenarios involving the UK, EU and US after Brexit. The study also aimed to create a better understanding of how a variety of factors might affect the outcome of Brexit negotiations between the UK and EU. Finally, the study explored the potential implications of Brexit for the US, including the effects on its economic, political and security interests.
The study used an economic model to analyse the potential economic implications of eight different trade scenarios. These scenarios included five ‘hard Brexit’ options:
- An arrangement in which UK trade is governed by WTO rules
- The successful negotiation of a UK–EU free trade agreement (FTA)
- The creation of a UK–EU–US FTA based on the proposed Transatlantic Trade and Investment Partnership (TTIP)
- The creation of a US–UK FTA excluding the EU
- An extended transition period during which EU and UK tariffs do not change but other non-tariff barriers to trade come into effect
It also examined three ‘soft Brexit’ scenarios:
- The Norwegian model (membership in the European Economic Area)
- The Swiss model (a series of bilateral agreements)
- A customs union
The researchers used game theory insights to develop a better understanding of how a wide variety of factors might affect the outcome of the Brexit negotiations.
Accompanying the study is an online calculator, allowing policymakers and economists to alter key trade assumptions in order to understand their economic impact on the UK, EU and US. It also allows users to create other scenarios for examination as Brexit negotiations develop and trade talks begin.
- The economic analysis shows that the UK will be economically worse-off outside of the EU under most plausible scenarios. The key question for the UK is how much worse-off it will be post-Brexit.
- The failure of the UK to achieve an open trading and investment with the EU post-Brexit would have negative implications for the UK and EU, and provide little, if any, gain for the US.
- The option of leaving the EU with no deal and simply applying World Trade Organization (WTO) rules would lead to the greatest economic losses for the UK. The analysis of this particular scenario shows that trading under WTO rules would reduce future GDP by around five per cent ten years after Brexit, or $140 billion, compared with EU membership.
- The WTO outcome would likely move the UK decisively away from EU standards and result in significantly increased non-tariff standards, harming the ability of UK businesses to sell services to EU countries. The services sector, including financial services, dominates the UK economy, contributing to around 80 per cent of its GDP.
- Under WTO rules, the EU would also lose out economically, but nowhere near the same proportion as the UK. The economic loss to the EU could be about 0.7 per cent of its overall GDP ten years after Brexit.
- The seven other trade scenarios would be considerably better for the UK than WTO rules, but most would still lead to economic losses compared its current status as an EU member.
- Of all the scenarios analysed, the one that would have the most benefit would be a trilateral UK-EU-US agreement, essentially a TTIP-like agreement. The UK would be 7.1 percentage points of GDP better than the WTO rules scenario, which is even slightly better than continued EU membership would be. This is because the UK would gain preferential access to both the US and the EU marketplaces and benefit from their stronger economic growth attributed to a TTIP. However, a TTIP-like arrangement is seen as very unlikely in the current political environment.
- None of the ‘soft Brexit’ scenarios would be as beneficial to the UK as the trilateral UK-EU-US agreement. All three scenarios are likely to lead to modest financial losses to the UK economy compared to the current arrangement of EU membership.
- After Brexit, political and security effects would be the more important to the US. The potential economic gains and losses for the U.S. in Brexit are small, , apart from the TTIP-like arrangement which would result in substantial economic gains for the US. The US will miss the influence and global perspective that the UK brings to the EU decision-making process, particularly around foreign policy, security and defence.
- The EU is likely to engage with the UK during Brexit negotiations, but may see benefit in adopting a ‘zero sum game’ approach. Europe’s top political priority is to discourage other member states from withdrawing.
- It will be important for the UK to seek ways to move away from a ‘zero-sum game’ and towards a ‘positive-sum game’ as negotiations proceed, to ensure the best possible deal for all parties. A UK strategy of trying to pick apart European unity is unlikely to work since it is in the best interests of all EU member states to work together.
- Overall, it is in the best interests of the UK, and to a lesser extent the EU, to work together to achieve some sort of open trading and investment relationship post-Brexit. The “no deal/WTO rules” option would be economically damaging to both parties.