Saturday 13 April 2019

The cost of taking back control


Although the prospect of a no-deal Brexit has been postponed for now, companies incurred significant costs in preparing for an outcome that never materialised. Perhaps these preparations will eventually pay off in the event that a “hard” Brexit does occur, but companies will be hoping that they never have to find out. Their “prepare for the worst and hope for the best” strategy will simply have to be written off as an unanticipated business cost.

If we think of taxation as an extra expense levied on business activity, we can treat the costs of Brexit preparation as an uncertainty tax. The requirement to prepare for Brexit came about as the result of a decision taken by government in much the same way as they decide how to levy taxes – the only difference being that the state did not see any of the revenues (and before anyone reminds me that the referendum result was driven by the view of the electorate, the decision to enact it was taken by government). Analysis conducted by Bloomberg, which looked at the costs incurred by six large companies indicates that they spent a total of £348 million in Brexit-proofing their businesses (chart). For the two large banks in the sample, which accounted for over 80% of these outlays, their preparations cost 0.5% of revenue. It is not a huge amount in the grand scheme of things but it represents a transfer of resources away from productive activity to something with no apparent end-use. Furthermore, the amount spent by HSBC and RBS was equivalent to the annual salaries of 4,000 banking staff.

What is particularly troubling is that these are costs that could have been avoided, or at the very least minimised. The government’s inability to give clear guidance as to what Brexit entailed meant that companies had to figure out the necessary steps for themselves in order to ensure business continuity. Whilst all companies have to prepare for contingencies, the government’s ill-advised decision to leave the EU single market and customs union imposed a cost on business that was wholly avoidable. Ironically, the 2017 Conservative manifesto contained the following pledges: “we need government to make Britain the best place in the world to set up and run modern businesses, bringing the jobs of the future to our country; but we also need government to create the right regulatory frameworks ... We will set rules for businesses that inspire the confidence of workers and investors alike.

The government has also committed £1.5 bn of public money to plan for a no-deal Brexit and the 6,000 civil servants who have been planning for a no-deal Brexit have been stood down. In the bigger picture £1.5 bn is peanuts but back of the envelope calculations suggest that this is equivalent to the annual cost of employing 30,000 nurses (around 10% of the total currently employed) and about the same number of police officers (around 25% of current total figures). Or to put it another way, the UK could have guaranteed the funding of 6,000 police officers for five years at a time when there is concern that police numbers are too low.

It is thus evident that Brexit is not just some arcane parliamentary debate – even the prospect of it entails real resource costs, as funds have to be diverted from areas where they would surely provide a higher social benefit. Fiscal trade-offs always involve an element of guns or butter but it is hard to disagree with the claim by Labour MP Hilary Benn, chair of the parliamentary Brexit committee, that this was a “costly price” to pay for the prime minister’s insistence of keeping no-deal on the table.

And we are not out of the woods yet. The fact that the can has merely been kicked down the road may have avoided the cliff-edge but does nothing to improve companies’ certainty with regard to the future. Business fixed investment volumes have declined for the last four quarters and it is still only slightly higher than prior to the recession of 2008-09. Output growth thus appears to have been driven by an increase in labour input, rather than capital, and whilst this has driven the unemployment rate to its lowest since the mid-1970s, the lack of investment is one of the reasons behind the UK’s poor productivity performance. To the extent that productivity is one of the key drivers of living standards, this sustained weakness in investment acts as a warning signal that Brexit-related uncertainty continues to have wider economic ramifications.

The day after Nigel Farage launched his new political party aiming to stand in the European elections on an anti-EU platform (the irony), I do continue to wonder as an economist what it is he is aiming for. As Chancellor Philip Hammond put it in 2016 “people did not vote on June 23rd to become poorer or less secure.” Yet the economics indicates that is exactly what Farage’s policies will entail. But then it’s never been about the economics – it’s all about taking back control.  As was so spectacularly demonstrated in Brussels on Wednesday evening when the EU27 took control of the Brexit process.

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