28 February 2018

How long will the EU’s Brexit inflexibility last?


While the debate rages about the European Commission’s draft treaty setting out the terms of the Brexit divorce and transition period, we’ll soon learn more about the UK’s vision for its future relationship with the EU.

On Friday, Theresa May will make yet another big speech on Brexit. She will set out in more detail how the British government sees UK-EU relations after the transition stage, which is due to end by January 1, 2021 and the terms of which still haven’t been agreed.

Thankfully we already know, in general terms, what Theresa May will say. The proposal has been dubbed the “three baskets approach”.

The first basket contains sectors in which Britain would be happy to voluntarily take over EU regulations. These are areas where this is needed to prevent supply chain disruption. Aviation, car manufacturing and chemicals are three salient examples. Would the UK really want to insist on having different standards for steering wheels?

Then again, the “voluntary” part is also key. Britain would be happy to avoid damage for supply chains by taking over EU rules, but ultimately it shouldn’t be forced to do it automatically. What if the EU were to come up with an onerous update of its costly REACH chemicals regulation, which faced a lot of protest when being drafted? It’s known that the EU regulatory process is, to put it mildly, not always science-led. The European Parliament in particular has demonstrated a fondness for the more superstitious side of things. In such cases, Britain may find it useful to be able to refuse to simply copy the EU’s rules, instead raising the issue at a joint committee where both sides can then try to find a compromise in order to avoid the UK losing market access and supply chains being disrupted.

The first basket, then, is basically what Switzerland negotiated with the EU after it voted against single market membership in 1992. But in other areas Britain would refuse to import EU rules. Instead, it would try to obtain a declaration from the EU that UK rules are “equivalent”. This is the second basket.

A good example of this approach would be clearing houses. It’s quite realistic for the UK to obtain this status given that the EU grants US clearing houses access to the EU market and that blocking UK clearing houses from offering their services to EU27 clients would fragment the clearing market and badly affect finance opportunities for companies in mainland Europe.

Of course, in many cases, the EU will refuse to declare divergent UK regulation to be “equivalent” and deny market access, even if this harms EU27 consumers. After all, Trumpist economic thinking is alive and well in the EU27. Special interests and powerful exporters will come before consumers, even if that flies in the face of economic orthodoxy.  Hence the need for the “third basket”, for sectors without equivalence.

Is this UK government approach realistic? The short answer is yes. Brexiteers like Boris Johnson, will be very keen on the ultimate UK right to say no, but are sympathetic to industry’s concerns about supply chains, so to take over 99 per cent of the EU’s rules is fine, as long as Britain can say “no” when EU rules really don’t make sense. The Swiss approach squares that particular circle.

Where there are no supply chains, why should the UK government take over EU regulation rather than merely try to get its own rules to be declared “equivalent”?

Many will say that, however reasonable such an approach sounds, the EU will not agree to it. I don’t think that is the case. Why would the EU refuse the UK’s offer to copy and paste many of the EU’s rules, while only asking in return that for the sectors where it does that, the EU offers market access?

Brussels will be flattered by the thought that others are importing its own regulations; and EU companies with supply chains between the UK and mainland Europe will also push very hard for this.

Therefore, it is surprising that the initial EU reaction vis-à-vis the “three baskets approach”, even before its official unveiling on Friday, has been quite so negative.

The first reaction came in the form of slides published by the European Commission, which claim that the approach would amount to cherry-picking and represent a “risk for integrity and distortions to proper functioning of [the] internal market”. This claim ignores the fact that the EU has such a deal with Switzerland. That, apparently, doesn’t endanger the internal market.

Furthermore, European Council President Donald Tusk called the approach “pure illusion”, describing it as “cake philosophy”. Irish PM Leo Varadkar also felt the need to mention cake, saying it was “not a significant move away from having your cake and eating it”. Even Dutch PM Mark Rutte, one of Britain’s friendliest neighbours said: “I told [May] we don’t like cherry-picking and that it’ll be difficult to come to a bespoke deal along the lines some in the UK are suggesting.’

Despite the fondness to dismiss “picking and choosing” or “having your cake and eating it”, EU leaders are well aware that the EU did close such a deal with Switzerland and that even within the internal market, the opening of markets has been selective. Germany has for years obstructed opening its insurance market, in spite of the fact that doing so is a Treaty obligation.

In reality, the EU truly is one big festival of picking and choosing. But, of course, it’s possible that such flexibility will not be granted to the UK. That however would impose a very high cost to both sides, with estimates of up to 1.2 million job losses for the EU27 alone in case of a cliff-edge “WTO” Brexit.

Behind the scenes, things look less inflexible. A Swedish government report makes mention of the Swiss deal, internal Belgian Foreign Ministry deliberations are looking at the arrangements foreseen in the proposed TTIP trade deal between the EU and the US, and some more market-friendly German commentators are openly dismissing Barnier’s “no pick and choose” approach. Warnings that Brexit woes are hitting German businesses in the UK hard and outlooks are growing increasingly pessimistic, focusing some German minds on the economic consequences of inflexibility.

Even EU Commission chief Juncker has admitted that he thinks EU unity is unlikely to survive the second phase of the Brexit talks once big business starts pressuring capitals to accept British proposals on cherry picking. He fears that “in the end we’ll have several extras, several exceptions that will make Europe a mess”.

It is a fiendishly complicated negotiation, but the one big advantage is that, unlike in other trade talks, there won’t be talks on which sectors should be opened up but instead on which sectors should face restrictions. This is likely to lead to warnings from industry that will hopefully avoid most of the damage. And, as the UK government has pointed out, it’s of course a great advantage that Britain will have implemented all of the EU’s rules already, a big difference with Japan and Canada, and a reason why some optimism is warranted.

Former UK deputy PM Nick Clegg does offer some fair criticism of the UK government’s approach, when he writes that under this Tory plan, “the state anatomises a sophisticated economy into three discrete zones and gives each a different regime”. That’s correct, but it’s also the case for Swiss-EU relations. Moreover, it’s mainly the EU side demanding market restrictions, so perhaps he should focus his wrath on them.

In practice, it may be that only two sectors are identified: goods and services. That avoids the legal complexity involved in defining which exports belong to which sector. As the EU’s Single Market in services hasn’t been opened up properly, the UK also has less to lose here from demanding the right to have divergent rules and lose some market access.

It is regrettable that for now the EU is effectively refusing the UK’s offer to voluntarily copy EU rules in selected sectors to get market access there. Clearly, the EU instead wants Britain to copy its rules in all sectors. That is to choose self-harm over the kind of flexibility the EU has already offered Switzerland. Let’s hope that after Theresa May fleshes out the UK government’s approach in more detail, that rigidity starts to disappear.

Pieter Cleppe represents independent think tank Open Europe in Brussels.