The economic benefits of Brexit (or how to oversell your case)

Patrick Minford is a heavyweight academic economist whose work on macro modelling is first rate. He is also the front man for the group Economists for Free Trade (EfFT) which provides the intellectual ballast in favour of Brexit and which has recently published the main results of a study due for release in the autumn. Minford and his collaborators argue that “Brexit could boost the UK economy by as much as £135 billion a year” which is equivalent to 6% of annual GDP, and that “’Hard Brexit’ is good for the UK economically while ‘Soft Brexit’ leaves us as badly off as before.” Obviously, when someone as able as Minford produces detailed analysis of this sort, it deserves to be taken seriously. But the view across the economics profession is that it is – to put it politely – flawed.

One of the key premises of the paper is that unilateral abolition of all UK tariffs should be a key plank of the post-Brexit world. But most economists do not buy the analysis. For one thing, it assumes that most of the benefits to the UK are derived from the import side. In the view of EfFT, there will be an immediate increase in UK living standards as a result of the abolition of UK import tariffs. This will put competitive pressure on domestic business to improve its relative position and as a result the economy will emerge stronger in the long-term. Minford et al justify this with reference to the example of Sir Robert Peel’s abolition of the Corn Laws in 1846 which “greatly reduc[ed] the price of food and help[ed] to stimulate the industrial revolution.”

There are just a few tiny problems with this Panglossian view of the world. 

• First, it will lead to a massive initial widening of the trade deficit which will likely result in a sterling depreciation which boosts inflation and squeezes household incomes – a bit like we are seeing today.
• Second, it will wipe out large chunks of UK manufacturing industry which are unable to compete with low cost Asian producers. Even if there is a competitiveness response, it will take years to show through and we would have to balance out the short-term welfare losses against any potential long-term gains. 
• Third, Minford argues that “to offset the long run effect of losing EU protection, manufacturing productivity needs to be raised, compared with no Brexit, by only about 1% a year for a decade, which looks entirely feasible.” Given that one of the main macroeconomic problems we face today is the weakness of productivity, which has flatlined since 2008, raising productivity growth to 4% per annum, as he implies, looks entirely infeasible. 
• Fourth, the 1846 example is misguided. In a world of much more intense global competition, it is not clear that the UK could easily cope with the near-tripling of the trade deficit that occurred in 1847 and which was left permanently higher as a result.

Nor do most economists buy the view that unilateral tariff elimination is a sensible strategy. If you don’t believe in unilateral nuclear disarmament why should you believe the same principle applies to trade? You might promise to cut tariffs during trade negotiations but you certainly do not throw away one of the main bargaining chips before even entering the negotiating chamber. He may be a good macroeconomist but he’s a lousy game theorist.

Alan Winters, at the University of Sussex, has been a major critic of Minford’s analysis all along and his latest blog piece does a good job of skewering some of the assumptions. The detailed breakdown of the EfFT numbers suggests that the gains from free trade alone will amount to 4% of GDP. Winters points out “EfFT claim that current EU trade barriers are equivalent to a tax of 20% on both agriculture and manufacturing. In manufactures only about 3.5% of the extra cost is tariffs, so what is the rest? If the 20% is correct, much of the remaining 16%-17% is standards.” Applying the arithmetic, abolishing trade barriers might only be expected to produce a boost equivalent to 0.7% of GDP (4%*3.5%/20%).

Indeed, this hits upon a major problem – standards and other non-tariff barriers are much bigger obstacles to trade. One simple example is differing car pollution emission limits: Even if tariffs could be eliminated, the fact that cars are subject to different standards around the world significantly raises production costs. Indeed it was the raising of US emissions standards in the 1970s which killed off the classic Jaguar E Type. Another example is financial services, in which a passport allowing regulatory equivalence enables banks to trade their products across EU borders without let or hindrance. It may not be everyone’s idea of a great industrial role model but the UK does at least run a consistent external surplus in financial services trade.

Leaving the EU Single Market will require the UK to massively raise its foreign trade with non-EU countries to make up for the loss of tariff-free access to the EU market. Analysis by NIESR suggests that if the UK left the single market but made unilateral trade deals with major developing economies and the Anglosphere, it would only claw back about one-third of the 20-30% reduction in lost total trade resulting from leaving the EU. Moreover, deals on services trade are far less comprehensive than those for goods, and as NIESR has also indicated, it will be hard to replicate the EU deals that we have now.

Winters also points out that “EfFT believe that we can get all the benefits of the European Single Market (SM) unilaterally. That is not true. The SM boosts our exports, which confers benefits over and above those achieved by liberalising imports.” It is precisely because the UK has some say over single market regulations it can influence them to benefit certain industries, such as financial services. Small economies simply cannot decide their own trading standards in a globalised world and the UK will become a rule taker rather than a rule maker. The bottom line is that by leaving the single market, the UK will be giving up a lot of influence over its ability to set terms and conditions. Far from taking back control, we will be throwing ourselves on the mercy of the global economy.

One of the ironies associated with this analysis, which has been criticised for being given far too much prominence, is that it is the mirror image of the doom-laden scenarios produced before the referendum which were dismissed as Project Fear. So why should this be treated so reverentially by the media? After all, it was produced by the “experts” we all thought we had heard enough from.