We have analyzed the reasons behind the Brexit vote. Let’s turn to the consequences of the Britain’s withdrawal from the EU, which are probably far more important from the investors’ perspective. As we stated in the previous edition of the Market Overview, the exact impact of the potential Brexit depends on the new economic relationship between the UK and the EU. What are the UK’s options outside the European Union?
The first option, often mentioned by the supporters of Brexit, is joining the European Economic Area (EEA). The EEA was established in 1994 to provide countries that are not the EU members with the opportunity to participate in the Single Market. It comprises all EU’s members and Iceland, Liechtenstein, and Norway – this why it is also called ‘the Norwegian model’. At first glance, this scenario looks perfect. The UK would not be within the EU, but it would have almost full access to the common market (with opt-outs from EU agriculture and fisheries policies). Indeed, economically it would the least painful option, as trade would not be hurt much. However, even this option would entail some costs due to customs controls and other trade barriers such as rules-of-origin requirements. Moreover, joining the EEA does not seem to be politically viable. The UK would still contribute to the EU’s budget (to have access to the Single Market) – and the contribution would be roughly similar to the current one (in 2011, Norway’s contribution was only 17 percent lower than the UK’s contribution) – while it would not receive any spending in return (for example, now the UK is the third largest recipient of the EU research and innovation funding). Additionally, the UK would have to comply with the EU rules governing the single market without having any say in setting them. It would be unbearable for Britons who voted for exit from the EU to ‘regain’ the allegedly lost sovereignty. Last but not least, the UK – as the part of the EEA – would have to allow EU citizens free entry. It is the final nail in the coffin of the Norwegian model, as the Brexit vote was mainly motivated by the negative sentiment toward immigration.
The second most commonly mentioned option would be the Swiss model. Switzerland neither joined the EU, nor the EEA. Instead, it signed a series of bilateral agreements with the EU, which allow it to participate in the single market and tailor its relations with the union. On the surface, the Swiss model is attractive – Switzerland chooses just the EU’ programs it wishes to participate in. However, the reality is not so rosy. Even though Switzerland implements most of the EU’s economic regulations, it cannot influence the EU rules, but merely accept or reject them. What is more, the scope of refusal is limited by the Guillotine clause, which states that if Switzerland does not accept changes in the EU directives, it will trigger the termination of all other agreements. Moreover, the alpine country also pays contributions to the EU budget (at the level amounting to about 40 percent of the UK’s contribution), is allowed free movement of people, but not the free movement of services. The lack of the agreement covering services trade would be a crucial drawback for the UK’s economy, greatly dependent on financial services. Additionally, striking Swiss-like bilateral agreements with the EU would take years to negotiate.
This post was published at GoldSeek on 12 August 2016.