By Geoff Pugh, Professor of Applied Economics
The pro-Brexit Daily Telegraph has made a case, based on serious evidence, for a “No Deal” or WTO Brexit. Yet at least some of its articles acknowledge that this Brexit outcome will impose substantial costs on UK business, arising from “the initial trauma of an exit on WTO terms” (Ambrose Evans-Pritchard, 3rd Apr 2019). Below, I offer a “back of the envelope” indication of how large these costs are likely to be for typical individuals and families. I use the Daily Telegraph’s judgement on the likely costs, because these are least likely to be exaggerated. Most other sources suggest higher costs.
My point of departure is an article by Allister Heath: “It’s a complete myth that a no-deal Brexit would cripple the British economy” (the Telegraph, 6th March 2019). Mr Heath claims on the basis of serious, although somewhat selective, evidence that “a so-called no-deal … would probably cost just 1-2 per cent of GDP”. We can agree that this might not “cripple the British Economy”. However, two per cent of Britain’s GDP in 2018 amounts to somewhat more than £42 billion or a little over £1,200 for every member of the working age population.
This is calculated as follows (all the data is easily accessible from the Office of National Statistics website):
- UK Gross Domestic Product in 2018 (at market
prices): £2,114,627 million (i.e. somewhat more than £2 trillion);
- Two percent of UK GDP in 2018: £42,292,540,000
(a little over £42 billion)
- UK working age population in 2018: 34,300,000
(somewhat more than 34 million)
- Cost per member of the UK’s working age population:
For a family with two wage earners then, a cost in each year of around £2,500. Even if we accept Mr Heath’s lower bound of one per cent of GDP, this still greatly exceeds even the highest estimates of Britain’s net contribution to the EU. It is getting on for half of total UK annual public expenditure on education.
This does not mean that the typical wage earner will suddenly lose more than a £1,000. What these calculations indicate is that over time – possibly over many years – the typical wage earner will be more than £1,000 a year worse off than he or she would otherwise be. If the economy is booming, growing at, say, 2.5% or 3% each year, then the cost of Brexit will hardly be noticeable as collective and individual prosperity continues to increase. Conversely, if the economy were to stagnate, or move into recession, then the costs imposed by Brexit will be burdensome, especially for the least well off.
Typically, the economic costs of administering large policy shocks take rapid effect whereas benefits (if any) accrue only after many years and are uncertain. Hence, even in the most favourable scenario, Mr Heath’s claimed reduction of “1-2 per cent of GDP” in our individual and collective prosperity will recur for many years. Over five to 10 years, these cumulatively enormous costs will translate into business failures, continued downward pressure on wages, lost jobs and homes, and additional stress on the public finances, prolonging austerity.
How might Brexit yield benefits in the long run? It is hard to be definite. On the one hand, administering a huge shock to an institution, firm or whole economy might prepare the way for radical reform and renewal. This is what Nigel Lawson hopes for: “Brexit gives us a chance to finish the Thatcher revolution” (Financial Times, September 2nd 2016). This perspective is shared by many of the more hard-line proponents of Brexit, for whom the EU is an obstacle to thoroughgoing deregulation liberalisation and globalisation. On the other hand, shocks imposed by poor policy choices can destabilise institutions, firms or whole economies. This can lead to stagnation and relative decline in the long run (even absolute decline in extreme cases).
Much of the debate has centred on trade. Few on either side would dispute that the UK’s future economic well-being is greatly dependent on the ability of its firms to export goods and services. Yet, there are few reasons to believe that the effects of a “No Deal” or WTO Brexit will yield trade benefits sufficiently substantial to offset the almost certain losses detailed above. These are some of the points to consider.
- Many of the most productive firms in the UK, and especially in the West Midlands, both export to the EU and form integral parts of supply chains based in different EU member countries rather than having a purely national base. Cross-border trade friction will thus not only restrict direct exports but also disrupt such supply chains. This will damage many of our most productive firms, which are those most capable of paying high wages and generating new jobs. Indirectly, the whole economy will be damaged.
- Membership of the EU and its Customs Union is not what stops us exporting more to emerging markets. Germany not only exports hugely more to China than does the UK but even exports more to India (in spite of our inherited advantages). The barriers to UK firms exporting are to be found at home rather than with the EU.
- The UK on its own is unlikely to be able to strike more favourable trade deals than those negotiated by the EU.
- The US, for the first time since 1945, has both Congress and a President sceptical of free trade. President Trump’s “America first” policy does not bode well. As for the “special relationship”, this is unlikely to survive the loss of our (considerable) influence as a leading member of the EU.
- A Sovereign but economically medium-size UK is unlikely to exercise the same bargaining strength as the economically (very) large EU.
- Potential trade partners either account for too small a proportion of our trade to make much difference (most Commonwealth countries) or are not well disposed towards the UK (Russia; China – the Chinese have long memories when it comes to national humiliation). Even if favourable trade deals could be struck with other countries, impossibly large proportionate increases in trade would be required to offset the loss of trade with the EU. (This is a matter of arithmetic rather than of economic analysis.)
Other long-term effects are foreseeably negative. (i) Adverse impact on the financial sector will reduce the tax base, reducing both the scope for ending austerity and government’s ability to finance much-needed public investment. (ii) An end to the free movement of labour will damage firms dependent on certain types of highly skilled labour as well as other firms dependent on the unskilled end of the labour market. And (iii) the exclusion of UK researchers from EU research funding will damage our national science base and, hence, reduce innovation and growth in science-based industries.
In conclusion, a “No Deal” or “WTO” Brexit will almost certainly impose substantial economic costs while the claimed benefits are either speculative or predictably small.
Professor Geoffrey Pugh, Professor of Applied Economics, Staffordshire Business School (personal capacity); 20-05-2019