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A promising start with more to follow: The Prime Minister’s Ten Point Plan and next steps for business
A promising start with more to follow: The Prime Minister’s Ten Point Plan and next steps for business

The final countdown: Brexit explained in five minutes

Words by:
Partner and Head of Investor Services
December 18, 2020
How did we get here?

Negotiations have been ongoing since the Brexit referendum in 2016. The UK was initially scheduled to leave the EU on 29 March 2019, two years after it triggered Article 50, but a series of extensions led to the UK’s eventual exit from the EU on 31 January 2020. The UK then entered a transition period during which EU rules continue to apply in the UK and the UK remains part of the EU’s single market and customs union. The transition period will end on 31 December 2020.

The negotiations currently taking place are seeking to agree the UK-EU trading relationship after the transition period ends. These negotiations are between the European Commission (the executive body of the EU) and the UK Government. The UK negotiating team is led by David Frost and the EU team by Michel Barnier. Interventions have also come from Boris Johnson and the President of the European Commission, Ursula von der Leyen, usually at times where political impetus is required.

Where are we now?

The UK and the EU have both said that the vast majority of the components needed for a free trade deal have been agreed. Two main issues are outstanding: fishing rights and the so-called level playing-field provisions.

Fishing rights have become a totemic issue. The UK government views fisheries as a key part of “taking back control” of British territory and regulation. The UK is thus fighting hard on the issue, despite fishing being worth only around than 0.1% of UK GDP. Indeed, in terms of Gross Value Added, the entire UK fishing industry is comparable to the single Harrods store, yet fishing rights now appear to be the single largest obstacle preventing a trade deal.

In seeking level playing-field provisions, the EU wishes to ensure that the UK either maintains equivalence with EU regulations, or faces tariffs, to prevent it from gaining what the EU sees as an unfair competitive advantage. The issue has proven intractable because both sides can argue that their position is reasonable, given the precedent of previous free trade agreements. An agreement on this point is particularly important for investors and businesses in the UK because, without one, tariffs and other regulatory barriers could impede the untaxed flow of goods between the UK and the EU, and vice-versa. In recent days, both sides have hinted that some progress has been made, but the precise nature of this progress is very far from clear.

Compounding these issues is a sense from both sides that they must not be seen to be giving too much ground, as this would set an unhelpful precedent for any future trade negotiations with other countries.

What happens next?

Face-to-face negotiations are continuing. With two weeks to go before the end of the transition period on 31 December, any agreement will require an accelerated approval. This kind of shortened timetable is not impossible, but it is highly unusual. It is likely to mean any deal agreed lacks the depth or complexity that will be necessary to cover the future UK-EU relationship in full for the long term.

In the UK, the ratification process is comparatively simple. A debate in Parliament is likely to take place (though this is not a formal requirement) and the government has set out plans to recall MPs from their Christmas holidays if necessary, to ensure a vote can be take place before time runs out. Normally, a treaty can be ratified only after 21 sitting days have passed since it was first presented to parliament, but the government has the power to push ratification through in a single day.

Given the sizeable Conservative majority of 80 in the Commons, we can assume with a high level of confidence that any deal put before Parliament at this stage would be passed.

The EU system of ratification will take longer. Once a deal has been agreed, the European Commission (which has negotiated it) will recommend that the European Council approve the deal and set out its opinion on whether the final deal is a ‘mixed agreement’ or not. The European Council is the EU’s supreme political authority made up of the heads of state or government of the EU member states, along with the President of the European Council and the President of the European Commission. A mixed agreement is a trade agreement that also deals with regulatory issues or one that covers the oversight powers of each side. The UK-EU deal will not be a mixed agreement, meaning that as long as the Council approves the deal, it can pass without any separate approval procedures in individual member states.

After the Council approves the deal, it will be sent to the European Parliament. Like the UK Parliament, it cannot change or amend the deal, but it can veto it. However, any deal approved by the Commission and the Council is almost certain to be approved by the European Parliament.

After this approval, the Council must then confirm the agreement. As soon as this has been published in the Official Journal of the European Union (OJEU), the ratification process for a non-mixed agreement is complete.

How ready is the UK for the transition period to end?

The government has faced criticism for its post-Brexit preparations. The Business, Energy and Industrial Strategy (BEIS) Committee held evidence sessions on business preparedness for Brexit in early December 2020. Following the sessions, committee Chair Darren Jones MP warned that expected border disruption would lead to issues for imports and exports, with the food and manufacturing sectors particularly likely to be affected.

The treatment of the border between the Republic of Ireland and Northern Ireland is politically and economically complex, but a future arrangement has been agreed. Checks will not take place at the Irish border. Instead a new “regulatory” border between Northern Ireland and Great Britain (England, Scotland and Wales) will be introduced. Northern Ireland will continue to follow many of the EU’s rules, meaning that lorries can continue to drive across the NI/RoI border without having to be inspected, but some checks on goods moving between Great Britain and Northern Ireland will be required.

Some sectors face disruption regardless of whether a deal is reached or not. Most issues affecting the services sector, such as market access, are unlikely to be included in a trade deal. Most large firms have already sought to offset this risk by moving headquarters or establishing operations within EU. UK financial services currently benefit from the ability to ‘passport’ into the EU’s single market, which allows them to sell funds, debt, advice or insurance to clients across the EU unimpeded, as if they were domestic, rather than foreign, businesses. This ability ends when the transition period ends. Disruption caused by the end of passporting will be limited if the EU formally states that the UK has regulatory equivalence with the EU. This would allow British firms to serve EU clients if Brussels deemed British regulations to be closely aligned with its own. This system is more limited than passporting and can be revoked by the EU with 30 days’ notice. The process for approving an equivalence agreement is separate from the trade negotiations and is unilaterally decided by the EU.

The movement of data across borders is also key to the trade in services. Whether EU-UK transfers will be allowed is subject to the EU declaring that UK data regulations are equivalent to EU regulations. This decision is separate to the agreement of a trade deal and has not yet been made.

An agreement has also not yet been reached on whether to continue mutual recognition of professional qualifications (MRPQ). An agreement could make it easier for UK service providers to continue operating in the EU (and vice versa) and remove the expense of securing new qualifications or recruiting appropriately qualified staff. If a deal is not agreed the UK and EU member states could decide to unilaterally recognise each other’s professional qualifications or provide streamlined routes to re-qualification.

Can the transition period be extended?

There is no legal basis for extending the transition period, as the deadline for doing so passed on 1 July 2020. It is technically possible that, if both sides agreed, an extension of no more than a few weeks could be arranged through international law, though this is highly impractical. It is, therefore, a very unlikely outcome.

What could a deal look like?

Both sides have sounded more confident that a deal can be struck in recent days. Ursula von der Leyen, President of the European Commission, told MEPs on Wednesday 16th December that “there is a path to an agreement now”, albeit a narrow one, with Boris Johnson echoing this sentiment in meetings with MPs. A deal primarily affects the goods and manufacturing sectors. The key part of any deal will be the tariffs and quotas system. Both sides are aiming to continue the current tariff- and quota-free trading relationship, and this is the most likely outcome if a deal is agreed. The UK and the EU are looking to negotiate an agreement that would include measures to simplify customs procedures as far as possible.

A deal would still involve some level of customs checks at borders. However, these could be much simpler than in a no-deal scenario. Full regulatory controls on medicines, chemicals and industrial goods are likely to apply, as in a no-deal scenario. A mutual recognition agreement could be included in the trade deal to partially offset this regulatory burden, but compliance costs are likely to increase regardless.

What would the impact of a no-deal Brexit be?

The UK would begin trading with the EU on World Trade Organisation (WTO) terms, meaning that ‘most favoured nation’ tariffs for all good and services will be in place, replacing the current tariff-free arrangement. This is also referred to by the government as an “Australia-style deal”.

For most goods, the tariffs charged by the EU are not significant, but some sectors are at risk of considerable disruption. Agricultural goods and food face regulatory hurdles and additional tariffs as does the automotive sector, where car imports face an EU tariff of 10%. All goods would face greatly enhanced border checks, increased compliance costs and increased time for goods to reach their destination. The absence of mutual recognition agreements would mean that businesses would potentially have to certify their goods on both sides of the UK–EU border. This would lead to significant costs in particular for the chemical and pharmaceutical industries. Amid the Covid-19 pandemic and rising unemployment, the political implications of disrupting food and medicine supplies into the UK could be severe for the government. A Cabinet Office “reasonable worst-case scenario” document published over the summer set out a strategy for coping with the event of a no-deal Brexit during the Covid-19 pandemic, which includes the possibility of significant disruption throughout the UK. This is a scenario which the government will be extremely keen to avoid. Disruptions or shortages of food, medicine or other essential supplies during the pandemic would severely harm the government’s reputation domestically and abroad, as well as compounding the economic damage which the pandemic has already done.

A no-deal situation is by no means permanent. A deal could be struck with the EU at a later date and the UK hopes that the signing of new trade deals with other major economies in the future will offset the immediate Brexit impact and provide new opportunities for British businesses. The UK has signed 29 agreements covering 58 countries or territories that will roll over the trading relationship the UK had while it was an EU member. Additionally, a new trade deal has been signed with Japan. These deals are intended to mitigate the impact on non-EU trade and the UK government will look to sign new trade deals with major economies as soon as possible.

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