The jury is still out

The topic of Brexit has figured prominently on this blog over the last five years but in recent months I have resisted the temptation to look at it, primarily because there was not enough information to make an informed assessment of how much impact it was having on the economy. But more than 100 days after the UK left the safety net provided by the EU transitional arrangements, and with key data for the first two months of the year now in, it may be time to look once again at where we stand.

Trade: The story is still unfolding

It was always to be expected that trade would take a significant hit in early-2021 following the late signing of the EU deal on 24 December 2020 which meant that companies had little time to adapt to the new trade rules. Accordingly, the collapse in trade with the EU in January came as no surprise, with exports falling by 42% and imports by 30%. The question was always how quickly it would rebound in February. This week’s trade data release provided us with an answer. UK exports to the EU in February jumped by 47% versus January whilst imports increased 8%. In other words, a large proportion – but not all – of the January export collapse has been reversed but imports remain well short. Nonetheless, exports are still around 7% below levels prevailing in the second half of 2020 whereas imports are running almost 15% lower.

But this does not provide a definitive answer to the trade impact. There was clear evidence of stockpiling in late 2020 which means that companies may be running down inventories before picking up imports again. This may be one reason why imports from the EU have not rebounded very quickly. It is notable, however, that there was a sharp jump in imports from non-EU countries in February (+26%) which may be a first indication of import substitution away from EU sources although we should be wary of over-interpreting one month’s worth of data. We should also bear in mind that although full border controls have applied on British goods going to the EU since 1 January, goods coming in the other direction have benefited from a grace period.  The UK originally planned to impose regulatory checks from 1 April but recently announced it would now only do so from October 2021 in recognition of the fact that customs systems and port infrastructure are still not ready. Accordingly, we may not be able to determine the full trade impact of Brexit on UK trade flows until the end of the year. 

Northern Ireland: Contradictions unresolved

However, the contradictions inherent in the Brexit deal regarding Northern Ireland are becoming more evident by the week. During the Brexit negotiations both the UK and EU made it clear that they wanted to adhere to the Good Friday Agreement and avoid the imposition of a hard border in Ireland. But the UK’s decision to leave the EU single market meant it was inevitable there would have to be a border somewhere. Theresa May rejected the option of a border between GB and the EU running through the Irish Sea as unacceptable since it would effectively slice Northern Ireland away from mainland Britain. Unfortunately, the deal that her government agreed with the EU was not acceptable to the British parliament since the UK would have remained in a common customs territory with the EU until such times as alternative arrangements could be made. Many Conservative MPs (including Boris Johnson) refused to back this plan arguing that it would indefinitely bind the UK and the EU together since the UK would be unable to unilaterally break away.

Boris Johnson’s government subsequently renegotiated the Northern Ireland Protocol (NIP) leading to an agreement whereby the whole of the UK left the EU Customs Union, but Northern Ireland adopted EU Single Market regulations on goods and thus remained an entry point into the EU market. Whilst this avoided the imposition of a border on the island of Ireland it did introduce one in the Irish Sea, despite the fact that Johnson said last summer that such an outcome would only occur "over my dead body."

There has been a considerable amount of political fallout in recent weeks, highlighted by a significant degree of violence on the streets of Belfast. This has been attributed in large part to dissatisfaction within the loyalist community towards the provisions of the NIP as it fears a permanent separation from the mainland. It was always the case that the May government’s deal was the least-worst option since it preserved the integrity of the UK and minimised the frictions in cross border trade. It was opposed for ideological reasons by large parts of the Conservative Party which wanted a clean break from the EU. Ironically, MPs from the DUP, who between 2017 and 2019 provided parliamentary support to the minority Tory government, also voted against it. Their fear was that if Northern Ireland remained bound by single market regulations (as May’s plan envisaged) this would eventually lead to the imposition of an Irish Sea border. They also voted against the Johnson government’s plan for precisely the same reasons but following the 2019 election they were no longer in a position to demand concessions from the Conservatives and they ended up with the outcome they had feared. The people of Northern Ireland have been let down by their politicians.

There have recently been efforts to rewrite the history of the Northern Irish border problem. An article in the Daily Telegraph earlier this week was headed “Northern Ireland is paying the price for Theresa May's negotiating blunders” whilst an article published in the Daily Mail blamed the “spiteful” EU. None of this stands up to scrutiny. The problems stem from the construction of the deal signed by the UK government which has spent five years attempting to resolve the unresolvable of where to locate the border without actually putting one in place. Not that this matters to the electorate on the mainland where the majority of those believing the Brexit vote was a mistake has narrowed in recent weeks (chart 2). However this is heavily influenced by the EU’s poor performance on the vaccine rollout and will undoubtedly change again in the months ahead. Nor is it a cause for concern to Westminster politicians who, as I noted in 2019, knowingly sold the DUP down the river.

An ongoing process

I have long pointed out that Johnson’s 2019 election slogan to “get Brexit done” was disingenuous and that the process of normalising relationships between the UK and EU would take considerable time. Accordingly, the UK and EU are currently engaged in discussions on how to resolve the problems in Northern Ireland. Negotiations are also still ongoing with regard to the future of financial services although on 26 March the Treasury did confirm that technical discussions on the text of the promised Memorandum of Understanding have successfully concluded.

But it is simply too early to tell what effect Brexit is having on the UK economy which continues to suffer under the fallout from the Covid-induced collapse. According to research by John Springford at the CER, trade in February was 5% below what might have been expected had the UK not left the single market. Knowing what I do about the method he used to make this calculation we should treat this with a pinch of salt, but it does sound plausible. Nonetheless, businesses are reporting that the main challenge for companies exporting and importing is the increased administrative burden. This confirms my view that the business impact will be a boiled frog problem – it will take time for firms to realise just how much damage has been done. They will naturally adjust and probably even get used to the inconvenience but compared with the counterfactual of pre-Brexit admin, the costs to the overall economy will mount up over time.

Much of the heat and passion has gone out of the Brexit debate. Now it is up to its proponents to demonstrate that it will improve the lives of those in whose name the whole exercise was conducted. We might have to wait a long time!