Economics effects of the UK leaving the European Union

Abstract. A look at the economic effects of Britain leaving the European Union.

Summary. The UK has been a member of the European Union since 1973. The European Union gives many economic benefits to member countries. These include free trade, inward investment from European companies, free movement of labour, harmonisation of regulations and qualifications and the stability of being in world’s largest trade block. However, critics argue that the European Union  imposes unnecessary costs on business and hampers the UK ability to grow. Leaving the EU could enable the UK to have the economic benefits of a Single Market, but without unnecessary costs and bureaucracy.

Disclaimer: The decision to leave the EU is perhaps more a political / emotional decision than one on economics. If you Google “costs of the EU” – it is hard to actually find the cost of EU membership to the UK because there are widely differing methodologies in how you calculate costs. E.g. those wanting to leave, will add every possible cost from EU regulation, but ignore the inward flow of EU funds and EU rebates.

The other difficulty in answering this question is that the effect of leaving the European Union depends on what kind of agreements can be attained after the UK leaves. Supporters of out, paint an optimistic picture with all the benefits of free trade without the costs of membership. Supporters of “Stay in” argue that the EU will inevitably make the UK pay for having the benefits of EU free trade, and business will still need to meet EU regulation if it wants to trade with Europe.

Economic effects of leaving the EU

1. Less free trade with EU The UK currently has free trade with all 28 European countries, enabling a range of imports and exports. In 2014, trade with the EU accounted for 44.6% of UK exports of goods and services, and 53.2% of UK imports of goods and service (ONS). If the UK leaves, it may not be able to negotiate replacement free trade deals with all 27 countries. This could lead to trade diversion and a negative impact on the UK export industry.

  • However, if the UK leaves, it may be able to lower EU external tariffs. The EU has free trade within member countries, but imposes significant external tariffs on goods, such as agriculture. This raises the price of some food imports. If the UK left the EU it may be able to negotiate better free trade deals without the EU’s external tariffs.
  • Another factor is that the EU’s share of world trade is declining in relative terms due to the growth of emerging economies like China and India.

2. Inward investment

The European Union is an important source and target for inward investment. Many European companies have invested in the UK and the UK earns revenue from investment in the EU. If the UK leaves the EU, this investment may be less attractive causing foreign firms to return to within the EU border. Companies like BMW has already warned workers of potential job losses in the case of a Brexit (1)

in 2013, 43.2% of UK overseas assets were held in the EU, whereas 46.4% of assets held in the UK by overseas residents and businesses were attributable to the EU. (ONS)

However, if the UK can negotiate successful post-leaving treaties, investment may not be under threat. Non-EU countries like Iceland, Norway and Lichtenstein make up the European Economic Area (EEA) and in theory, this could be a satisfactory alternative for the UK economy.

3. Free movement of labour

A big political issues is the net migration of mostly Eastern European workers into the UK. This has created stress on housing, infrastructure and population pressures. From an economic perspective, the impact of net immigration is mostly positive – migrants tend to be of working age, net contributors to the budget and help fill labour market shortages in areas, such as plumbing, nursing, cleaning and teaching. If the UK left the EU, labour markets will become less flexible.

If the UK left, it would have greater freedom to be able to restrict net immigration. However, it would also make it harder for UK nationals to work abroad. There are currently 2 million Britons working in EU (Guardian)

4. Short term costs of leaving

Pound-Sterling-index

Since the date of the referendum has been announced, the value of Sterling has fallen as markets have become worried about the economic implications of leaving the EU. Sterling has fallen 7% in just two months. This may partly due to a more accommodative monetary stance, but it is more likely to reflect the uncertainty over the UK’s possibility of leaving the EU – which could trigger another Scottish referendum and a prolonged period of uncertainty as we negotiate Brexit terms.

A particular economic concern for the UK leaving the EU is a decline in inward investment from the EU. With a current account deficit of 4.5% of GDP, the UK requires capital flows to finance the deficit. If the UK receives less inward investment, the Pound will have to fall. (According to economist, ING thinks the pound may slip to $1.32  (Economist)

If the UK did leave the EU, the uncertainty and political wrangling over a new deal could cause a fall in investor confidence and (in worse case scenario) trigger an economic downturn.

Others argue the markets are exaggerating the impact of leaving and that once the vote is known, stability will return. In the long run, Britain could adjust to the new reality.

5. Costs of EU Membership

In 2014, the UK paid £17bn to the European Union (approx. 0.06% of GDP) (1). However, the UK also received a CAP rebate and also is recipient of EU funds from social and regional programmes. If the UK leaves the EU, it would still have to pay to be able to benefit from single market. The EU would not allow the UK to have benefits of Single Market without paying into it. As a percentage of GDP, the cost of membership including money coming back to UK is 0.4%. The net contribution of UK to EU is £7.1bn according to EC. See more on cost of EU

6. Inefficient policies

Despite years of reform, the EU still spend a high percentage of its budget on agriculture (43% in 2013). Arguably these agricultural policies have also encouraged inefficiency and a waste of resources. Leaving the EU will enable the UK to pursue its own agricultural policy and not be subject to EU policy.

However, there still needs to be some kind of deal with other European countries other cross border issues, such as fishing, environment and pollution.

7. EU regulations

A big criticism of the EU is burdensome regulations. Some of these regulations are myths (e.g. the myth of banning the bendy banana). Leaving the EU would enable the UK to cut these EU regulation from its law. However, if we want to trade with the European Union, companies will still need to meet EU standards on environmental, health e.t.c. Some argue the biggest cost to EU business is not from EU regulations but the UK’s own planning regulations.

Also, it should be remembered that regulations can have beneficial social effects – e.g. better safety standards and reducing excess energy use.

 

Conclusion

I had to limit myself to a thousand words, otherwise you could end up writing a book. This is just a start in looking at some of the economic issues. From a personal perspective, I see a stronger economic case from staying in the European Union. If we leave the EU, we will be trying very hard to replicate many of the benefits, but it is hard to see how leaving would lead to any significant economic improvement for the UK.

That being said, there are many issues outside economics which will influence the debate. For example, I can see the clear economic benefits of net immigration. But, at the same time, I am concerned (from a non-economic perspective) about a rapid rise in the population when the UK is unable to satisfactorily build new houses and transport infrastructure.

The final comment is a political issue of sovereignty. Supporters of leave the EU argue UK sovereignty is undermined by membership of the EU. But, I don’t feel that. On important economic issues and foreign policy it is the UK making decisions.  If we had joined the Euro, that would be different. The Single Currency and common monetary policy has significantly reduced economic sovereignty in a very bad way.

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