The Grand Bargain

At the outset of Theresa May's administration, she branded it with her campaigning slogan, “Brexit means Brexit”. But what Brexit did she mean? This article offers pointers to the outcome, negotiations and legalities associated with soft and hard Brexit; and sets out a "Grand Bargain" to serve the nation's purposes. It brings together notes written in July, which explains the references to events at that time. 

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“Four freedoms”

A preliminary test of the UK’s approach will be its willingness to challenge the EU’s claims of the inviolability of its signature “four freedoms”: free movement in labour and capital and free trade in goods and services. This inviolability has always been honoured more in the breach: the freedoms themselves have been imperfectly achieved, with those most valuable to the UK least to hand. The Realpolitik is that western European members of the EU are threatening to withdraw the single market in goods to show solidarity with Eastern and Southern Europe members with large migrant populations in the UK. Challenges on this score to the EU or its members will best be undertaken sotto voce to avoid provocation and will stem from a view of the real value of the “single market” in goods. First, however…. 

Free movement of labour within the EU

Pre-emptive rights of arrival.  At present, citizens of EU countries have a de jure right of arrival in the UK. Cameron negotiated his famous “emergency brake”, which the referendum vote may be taken to have rejected. Nonetheless, a “soft Brexit” may revisit something along these lines as a way of ensuring access to the single market in goods. By contrast, a “hard Brexit” would deem this unacceptable, instead introducing an “origin-neutral” points system. If this becomes the UK’s position, it would be something close to a red line, regardless of the outcome for the single market. 

Equal treatment of current residents.  Citizens of the EU currently enjoy treatment identical with locals as to government services and welfare. This is not only part of the EU aquis, but a key tenet of the European Convention on Human Rights which prohibits discrimination by nationality (but for matters bearing narrowly upon citizenship such as voting etc). A “soft Brexit” would extend this to those now present indefinitely and without qualification, expecting likewise from our neighbours. A “hard Brexit” might offer this only on the explicit condition that our neighbours reciprocated, reasoning that the 3.6m EU nationals resident here counted for more than the 1.2m UK nationals resident in the EU. This is complicated by the bilateral disparity, eg, many Brits in Spain but many Poles here. A “hard Brexit” might also want to introduce conditions about criminality, either by way of a prior record or offences after arrival. 

Government’s position.  In the week of 4 July, May seemed to toy with making continental co-operation an explicit condition for promising continuity of residence to EU citizens, consistent with her attitude as Home Secretary, though this prompted much criticism. 

Equal treatment of future residents.   A “soft Brexit” would continue the current regime of equal treatment of EU residents, possibly subject to other “emergency brakes”, in return for access to the free market. A “hard Brexit” would rely on something like an origin-neutral points system, possibly combined with bilateral arrangements with major sources and destinations of migrants (eg, seeking rights for UK residents in Spain in return for fishing rights for Spanish vessels in UK waters; agreeing with the Polish government that welfare will be paid to Polish citizens at reduced rates); and either abrogate the EHRC system which enjoins equal treatment or find a lawyerly device to evade it. As with pre-emptive rights of arrival, this could become a red line. 

Government’s position.  May originally spoke of abrogating the EHRC system but then said there was no parliamentary majority for it. This may well be right, with the Lords in particular great zealots for international courts. May’s reputation as a tough cookie will be challenged by a second flip-flop, so it is hard to see where she might be going on this. 

Mutual recognition of qualifications.  This is something of a work in progress, with some academic qualifications mutually recognised, but most professional qualifications not. No kind of Brexiteer would object to keeping this up, and neither would May, but it is hardly a priority, instead possibly lending itself as a cheap concession.

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Free movement of capital within the EU 

This freedom has been held out as serving the interest of the UK as the EU’s centre for capital intermediation. In the event, it turns out a mixed blessing given the risks flushed out by the crisis of 2008, the slow train-wreck of the Euro, and the failure to recapitalise European banks whose balance sheets are flattered by overvalued books of property loans and local sovereign debt.

Capital requirements.  The EU takes high-level standards from the Bank for International Settlements and other international bodies, agreeing mutual recognition of lower-tier rules between European regulatory authorities and central banks. It has done nothing to prevent continental regulators permitting derelict banks to continue to trade with extended timetables for recapitalisation. In addition, the ECB encourages local banks to fund their home governments, at odds with its own charter. A “soft Brexit” implies maintaining current arrangements; a “hard Brexit” might cause the UK to revisit the risks it bears in accepting such banks, where not properly capitalised for operation in this country. This takes us to...

Passporting.  To simplify, the passporting regime permits financial entities under the regulation of any single EU member-state to trade throughout the EU. Interests in the City of London argue that this sustains the UK’s role as the EU’s financial centre. There is something in this, but it is overstated: the regime has been introduced only in stages over the last decade or so, while the City’s financial dominance of Europe goes back at least another ten years. Once again, a “soft Brexit” implies maintaining the current arrangements, while a “hard Brexit” calls for a tougher recalculation of the balance of advantage to firms based in the UK and wishing to trade in the EU, versus the risk of those coming the other way.

Government’s position.  In 2013, May criticised “Britain’s overreliance on financial services”, going on to say, “While London has boomed, many parts of Britain have suffered painful deindustrialisation and unemployment”. However heartfelt these sentiments, they may not turn out definitive. 

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Free trade in services within the EU 

This freedom has also been held out as serving the interest of the UK as a major exporter of services, but is problematic in several respects. 

Barriers to trade in services are generally regulatory. The EU’s solution has been “harmonisation”, universally seen as heavy-handed, indeed one of the most unpopular aspects of the EU acquis.  Even so, many European services remain closed to competition by restrictive regulation.

Some of the impetus for free trade in services has come from international organisations, for example the International Air Transportation Association (IATA), which has pushed the extension of cabotage rights (to serve countries other than the home of the carrier). 

British deregulation of certain sectors, eg, energy, environmental, postal and rail services, has opened them up to continental participation without corresponding opportunities for UK firms in the large European economies. 

Many services remain shielded from free trade, in particular those customarily provided by governments or otherwise heavily regulated. These include broadcasting, education, energy, environmental, healthcare and postal services. 

Transport.  Budget airlines are the headline achievement of the EU’s transport policy, with unqualified rights to fly to and from any airport for which they can find passengers. These should be seen as part of a gradual extension of “sixth (and higher) freedom” rights, which are in process throughout the world. Elsewhere, the achievements of the policy are more partial, with state-owned bus companies (RATP - France) and rail companies (DB - Germany, NS - Dutch) taking franchises in the UK, but no equivalent continental operations by British firms.  

Energy.  Similar conditions apply where the French state-owned utility, EDF, operates in the UK, but here too nothing goes the other way for the Brits. 

Public services.  So too in environmental services, where the French private company, Veolia, takes contracts from many UK local authorities, once again with nothing similar in Europe for British interests. 

Financial services.  Britain’s signature comparative advantage dominates financial services in the EU and in 2015, generated taxes estimated at 11% of the UK’s total. There is no question that a big slug of the City’s business comes from EU-to-EU, or world-to-EU intermediation. This means that continuity calls for no discriminatory regulation intended to serve the mercantilist purposes of other financial centres. 

Government’s position.  There is no ready distinction between “soft Brexit” and “hard Brexit” in these areas, as even a “soft Brexit” would be unable to encompass the status quo ante: interests in financial services would reasonably seek protection from discriminatory regulation. Despite May’s unhappiness with the UK’s overreliance on the City, she cannot overlook its fiscal contribution. It also dwarfs the internationally traded part of the other services discussed above. Even so, there may be scope for a bargain where non-discrimination in financial regulation plays similar arrangements for continental interests supplying British transport, energy and environmental services, if not other UK concessions discussed below. These may become red lines, “soft Brexit” or “hard Brexit”.

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Trade in goods

Free trade within the EU. This is the current position and a “soft Brexit” would want nothing more than to keep it up. It is not, however, all upside. It exposes the UK to the Common External Tariff, briefly discussed below. It also 

obliges participants to accept the adjudication of the European Court of Justice on disputes arising. 

exposes them to operational decisions by the EU, if outside losing access to its decision-making processes. 

More ambitious negotiators (a “hard Brexit” for these purposes) will wish to consider whether it is worth accepting these impositions, in return for keeping up arrangements which benefit European exporters to the UK more than UK exporters to the EU. We incline to the idea of turning this aspect of negotiations round: offering continued assent to certain aspects of the free market in goods in return for concessions elsewhere, in particular on financial services. 

Common External Tariff (CET). All tariffs are economically dysfunctional (with the possible exception of temporary anti-dumping measures), making sense only as negotiating counters in bilateral dealing with trading partners. The EU would, however, object to the UK defecting from the CET as threatening low- or no-tariff back-doors into their own markets. In principle, this could be overcome with administrative measures. Once again, a “soft Brexit” means maintaining current arrangements, while a “hard Brexit” means abandoning commitment to the CET, if amicably on the basis of tapered run-down, failing which summarily. 

Free Trade Arrangements (FTA) with third parties. Those FTAs already negotiated are worth little. The EU has an undistinguished record, mainly picking off easy counterparties like former French colonial territories. Nonetheless, they are just worth keeping up for lack of better. Legal advice varies on Britain’s position post-Brexit. Some lawyers have stated that such FTAs may be “novated”, ie, carried forward more or less automatically to the UK as a successor signatory to the EU. If not, the UK has a couple of more or less cost-free options: either let them go - as already mentioned most aren’t worth much; or offer bilateral agreements, possibly government-to-government Memoranda of Understanding (MOUs), to save the time and political capital of ratification. A “soft Brexit” would seek continuity; a “hard Brexit” would let them go, if not agreed as novated, making selected bilateral agreements. 

The principal FTA under negotiation is the Transatlantic Trade and Investment Partnership (TTIP) with the US. The new team will have to test Obama’s notorious remark that the UK would find itself “at the back of the queue”. It will be difficult to get presidential candidates to look at this before the election is out of the way, but “soft Brexit” or “hard Brexit”, the job has to be done. It could be worse: as it happens the TTIP looks to be running into the sands on both sides of the Atlantic; meanwhile the UK offers the benefits of a single counterparty (vs the EU’s 28, shortly 27) and a captive legislature for ratification (vs the US Senate). 

Daniel Hannan and others we admire have toyed with establishing the UK as a tariff-free zone along the lines of Singapore. As free-marketeers, we warm to this. It would also serve to achieve “with one bound, Jack was free” from onerous and prolonged trade negotiations. On the other hand, the UK’s profile is less obviously aligned than Singapore’s with universal free trade. In addition, avoiding a tough job is no reason for accepting a duff policy. Net, net, this is probably not on the cards. Before ruling it out, however,  a summary investigation must be worthwhile.

Government’s position. Hammond’s comment repudiating the “single market” is a significant signal. Now this shibboleth is off the table, the Government’s position becomes sufficiently flexible as to embrace such elements of “hard Brexit” as commend themselves in the circumstances. Nothing has emerged so far to suggest that anyone is looking at the Singapore option.

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Other matters

Financial contribution.  At present the UK is a net contributor to the EU, despite having negotiated rebates. Norway and other EEA members pay for agreed line-items in the EU budget for administrative overheads and (eg) the Erasmus fund for students. The referendum made much of the level of contribution, but there is nothing objectionable in principle in paying for value-added programmes and a reasonable amount of overhead. On the other hand, disputes over money always raise the temperature and whether it’s “soft Brexit” or “hard Brexit”, the UK’s negotiators will wish to keep something up their sleeve. 

Participation in decision-making. This means access to the EU’s byzantine committees, in the awful jargon its “comitology”. This is most important in financial services, where “soft Brexit” or “hard”, UK interests call for something akin to a veto over regulations affecting the City. We should also expect that the Bank of England will reject any element of supervision from Brussels or Frankfurt, unless it is in the room when decisions are made. The EU is bound to see these as big asks. Even so, these are close to being red lines for the UK. 

Dealings with international regulatory bodies. At present these go through the EU. Whether “soft Brexit” or “hard Brexit”, the UK will take direct responsibility for these matters, as do all EEA members. If the lawyers can agree, the most economical course for legacy regulation is to pass declaratory legislation bringing it under UK law, for review at leisure. 

State aid. This is heavily regulated under EU law with a “soft Brexit” presumably following the EEA’s adherence to EU practice. The Tata incident suggests that the UK will seek greater discretion in these matters (however little to the writer’s taste). 

Flanking policies”. This is the EU’s own term for the acquis as it bears upon competition, social, consumer and environmental policy; plus company law and the Common Agricultural and Fisheries Policies. At present, all apply to the UK, subject to opt-outs from Schengen, the Euro, and (in some senses) the Charter of Fundamental Rights and the Area of Freedom Security and Justice. The UK surrendered its opt-out from the Social Chapter. Both “soft Brexit” and “hard Brexit” would bring the UK’s involvement to an end, once again opening up the prospect of placing legacy commitments under our own law for subsequent review. There may also be scope to align a run-down of the UK’s involvement with concessions from the EU in other matters. 

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Negotiations and foreign relations.

The responsible minister, David Davis, has set out his thinking on trade negotiations with the EU in this article, which sets his targets as deregulation, geographical broadening and access to (but not membership of) the single market. He writes of taking time before serving notice under Article 50, so as to take soundings at home, within the EU and among third countries. The FT pooh-poohs Davis’ approach here, but this is of a piece with its editorial sulk since 23 June, in this instance relying on grouchy “Remainers” and flaky stats. We’d characterise Davis' approach as on the “hardish” side, but neither an Ultra nor (as we would have preferred, if making sense) a free-trader. From here, he looks ambitious but realistic compared to (say) the complications advocated here of an initial step of something akin to the EEA and then six further policy stages.

Article 50 sets the period for Brexit negotiations as twenty-four months. All concerned are likely to prefer timing which reduces the duration (if not the quantum) of uncertainty, so at this point extending the post-notice clock looks unlikely. Acceleration would be a fine trick, both by way of reducing uncertainty and grabbing the attention of the EU team with an early deadline, but it may not make sense from our end.

Comments from Germany have been consistently constructive and on Friday 15 June, the white Times printed a letter from “a group of Dutch citizens in leading positions in private companies and public life who believe that what Britain and the Netherlands have in common is stronger than what divides us”. A rapid reset is patently in order with the French who are in a skittish mood. Booing Boris at the Embassy on the evening of Thursday 14 July was a poor beginning, but the awful news from Nice that night recalls us all to our common values and conditions. 

As to third countries, a list is circulating of twelve countries expressing interest in trade talks with the UK. These are Australia, Canada, China, Ghana, Iceland, India, Mexico, New Zealand, South Korea, Switzerland, Taiwan, and the United States. Of the major ex-EU trading nations, only Japan is absent.

Finally on this score, there’s a certain amount of guff around about legalities which misses the point. Consenting parties are most likely to find a way to do what mutually serves them. Admittedly, international trade regulations are pervasive and since WW2, compliance has come to be a badge of international respectability. Even so, it would be a surprise if HMG’s attorneys failed in the purpose of their profession: getting clients get what they want lawfully. 

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Conclusion - the Grand Bargain.

This note points to the deal which the UK should be seeking now that our lead negotiator has recognised the “single market” for the shibboleth it is. This means that if the EU gets sniffy about its “four freedoms”, the UK can point out that they’ve always been a bit theoretical and we’ve never got what we were promised out of them. So the three-part deal is: 

1.Our negotiators get it across that the referendum result pushes free movement of labour off the table; emergency brakes won’t cut it. We should be willing to maintain the position of EU citizens lawfully in this country in return for reciprocity; and deal bilaterally with European nations for future arrivals. 

2.Our other red line is fair regulatory treatment for our financial services industry, in return for which we will grant the same to European service-providers, including state-owned firms selling to the British public and quoted companies selling to UK public bodies. If this is agreed, then…

3.We will grant European manufacturers tariff-free access to our market for goods in return for equivalence for our own manufacturers. The latter will abide by European regulations on the goods they sell to the Continent but not on the overall operation of their UK businesses. 

The rest is detail. Mind you, these are the details which bind and loose nations and make and break careers. They will consume tens of thousands of man-years. This is, however, no reason to lose heart: resources are readily to hand by way of secondments from Australia, Canada and the EU itself, as well as high-priced help from London’s legal and consultancy practices, as well as (speak it not too loud) investment banks, which have decades of expertise navigating regulatory complexities. We are getting that the civil servants involved are excited rather than daunted, with an eye to the next line on the CV. Canadian secondees bring honourable scars from run-ins with the States; Aussies similarly from China. But their efforts will count for nothing, unless the UK's negotiators find the wherewithal to engineer something very much like the "Grand Bargain" set out in this note.