An hour before New Year’s Day, at 11pm on 31 December 2020, the UK completed its formal departure from the European Union (EU). It was an unceremonious conclusion to the four-and-a-half-year saga since the referendum. Nevertheless, a new era has now begun – with new freedoms and new bureaucracies. On Christmas Eve, the EU-UK Trade and Cooperation Agreement (TCA) was agreed. Together with 2019’s Withdrawal Agreement, these two treaties now govern the UK’s future trading relationship with its largest, and nearest, neighbour – worth around £670bn in 2019.
Skinny deal, but still significant
This article will examine the key issues for the UK’s large corporate and SME sectors. First and foremost this deal was necessary for the UK economy, but it is only a skinny deal. The UK’s essential services sector, which represents almost 80% of GDP, is hardly mentioned. Consequently, businesses – on both sides of the English Channel – remain in limbo over the level of access to export high-value professional services. This is crucial for several industries in which the UK is world class, including financial services, law, professional advisory, corporate consultancy, and tax and accounting. The TCA also contains no provision to replace or maintain “passporting”, which allows financial firms to service clients throughout the EU without a physical location in each country. While a memorandum of understanding is expected by March, it remains to be seen whether the EU will offer equivalence conditional on short-notice withdrawal rights or if something more stable will emerge.
Handicapped trade, not ‘free’ trade
The agreement will lead to a substantial change in how the UK and Europe trade goods. The UK has secured tariff and quota-free access to the EU single market; but, in reality, it is more like handicapped trade than ‘free’ trade. UK exporters now face mandatory customs checks for conformity with EU standards, export pre-notification requirements and other technical regulatory barriers, such as health certificates for animal and plant products, and customs declarations for UK-EU movements, including between Great Britain and Northern Ireland.
Businesses which supply or source goods across the EU will face significant near-term supply chain issues, which will cause disruption at borders and ports and obstruct trading with EU countries, particularly for exports into EU countries. The primary obstacle will be the new “rule of origin” requirements, which require detailed documentation to prove the origin of products. Products comprising both UK and EU parts must fall within thresholds or face tariffs. Similarly, goods imported into the UK and then re-exported to EU markets will require additional processing and potentially tariffs.
Marks & Spencer reported it faces “potential tariffs” for its exports. The Northern Ireland Retail Consortium warned compliance with new requirements for food supply chain operators will incur significant additional time. Failure to complete procedures accurately would result in lorries being unable to cross the Irish Sea. In the car manufacturing sector a late concession by the EU avoided an otherwise immediate strict application of these new rules, which spared inevitable punitive tariffs.
Overall, these requirements may serve as barriers to trade volumes in some sectors, with some companies, for ease, choosing to either pay the tariffs or trade less. But, for now, where there is friction, there is cost. It is possible that, as familiarity with the new regime increases, these disruptions may recede or, in time, greater flexibility may be written into the current rules.
Large corporates and SMEs will be conscious that increased costs in the supply chain process, whether through compliance costs or tariffs, will need to be absorbed through reduced profits or passed on in higher prices, which would reduce competitiveness. The impact on trade volumes will be the sum of the degree to which exporters adapt to the new regime, subtracted by those disincentivised. All these marginal hassle factors will work both ways, and it will be impossible to track all the trade and activity that stops happening due to these frictions.
Level playing field compromise
The most contentious ideological issue was ensuring mutual agreement on a “level playing field” as the UK and EU’s laws and regulations diverge over time. Central to this was an arbitration process outside of the European Court of Justice (ECJ). The compromise was to create a new executive body, the Partnership Council, which will establish sector-specific committees, working groups, parliamentary assemblies and advisory groups. These new bodies may prove the route to resolving unforeseen consequences of the agreement on business competitiveness.
In data sharing, the two sides agreed to a six-month “bridging mechanism” aligned to GDPR obligations and a “free flow of data” provision that prohibits unjustifiable restrictions on where data can be stored and transferred across borders. This is essential breathing space for companies that transfer or receive personal data across EU borders. In the interim, information security and data protection frameworks should meet GDPR standards: if not, they may be at risk of fines.
Counter-intuitively, the deal deliberately sought to increase barriers while also aiming to mitigate mutual economic disruption. Brexit will likely cause some industries to shrink (for example, exporters dependent on cross border supply chains, such as manufacturing, automotive, retail; and, potentially, financial services). While others may expand (for example, the technology sector, including fintech, and tourism, if the pound remains at current subdued levels long-term). During this transition, unemployment might rise, particularly among the low skilled, along with increased corporate financial distress.
If you would like to discuss how Brexit affects your company or sector, please contact one of our team today. Let us see how we can help.