Brexit – What Would Happen If Britain Left the Eu?

Economics Case Study: Brexit

1. In your own words, summarise the article. What is the main message of this article? [8 marks]

The article published on The Guardian by Allen et al. (2015) entitled Brexit – what would happen if Britain left the EU? gives a brief overview of the impact of a British exit from the European Union (EU).

A portion of the article discusses social and political impacts, such as the United Kingdom (UK) influence on EU culture and the political power and influence that the UK has as a member of the EU, in comparison to being its own individual entity. Most commentators estimate that the influence that the UK exerts will fall as a result of Britain leaving the EU (Allen et al. 2015). The larger portion of the article discusses the impact of change in trading on the UK Gross Domestic Product (GDP). Most of the opinions quoted in the article estimate the influence of Brexit on the UK GDP to be anywhere between plus or minus 3%, with a few estimates outside these boundaries (Allen et al. 2015).

Overall, the main message of the article is that the consequences resulting from Brexit – both positive and negative – heavily depend upon assumptions regarding the change in the policies of trade, travel and immigration. Based upon the article, it seems that most commentators would agree that potential economic impacts of Brexit are very difficult to predict without knowing what the outcome of trade and immigration negotiations would be. Also, the uncertainty created by the Brexit vote result and subsequent uncertainty of trade details has resulted in – and will continue to – scare investment away from the UK, and to a lesser extent from the EU.

2. According to Authors, “Our current assessment is that leaving the EU would be likely to impose substantial costs on the UK economy and would be a very risky gamble.” (page 2 of 10)- in light of the article and based on your own research, please explain why the authors suggest so. Can you provide a justification for the creation of European Union (hereafter EU) at the first place? [8 marks]

The quote that ‘Our current assessment is that leaving the EU would be likely to impose substantial costs on the UK economy and would be a very risky gamble’ that Allen et al. (2015) reference in their article, is an article written by the Centre for Economic Performance (2014). The reason for this quote is that the Centre for Economic Performance (2014) conservatively estimates that in the most optimistic scenario, the UK is likely to suffer a reduction in trade profit of 2.2% of GDP after factoring in realistic dynamic losses. Worst case analysed involves a trading loss of up to 9.5% of GDP (Centre for Economic Performance 2014).

The potential gain from the Brexit ‘gamble’ could be an increase in GDP if favourable trade conditions are obtained. Open Europe (cited in Allen et al. 2015) assume this gain could be up to 1.6% of GDP by 2030:

In a best-case scenario, under which the UK manages to enter into liberal trade arrangements with the EU and the rest of the world, while pursuing large-scale deregulation at home, Britain could be better off by 1.6% of GDP in 2030. (Open Europe 2015, cited in Allen et al. 2015)

Other commentators estimate that the cost of British membership to the European Union is much higher – Congdon (cited in Allen et al. 2015) estimates that ‘[t]he UK is roughly 11.5% of GDP – about £185 [billion] a year – worse off because it is a member of the EU…’.

The main impacts of changes in trade conditions will result in changing outcomes for consumers and national GDP. Whether this is a positive or negative change largely depends upon the restrictiveness of the trade regulations imposed. Figure 1 below shows the impact of tax on production, cost, producer surplus and consumer surplus, and the deadweight loss. As taxes increase, overall gains reduce because of the deadweight loss. Conversely, as taxes reduce, producer and consumer surplus increase, production quantity increases, and the deadweight loss reduces, which results in a net gain in value by the system.

[pic 1]

Figure 1: Reduction in total supply and increase in deadweight loss as a result of tax

The creation of the European Union was largely aimed at making war between European nations ‘not only unthinkable but materially impossible’ (Schuman 1950). This was to be achieved by making countries interdependent upon each other through economic cooperation and trade (European Union 2016b). What originated with steel and coal trade in six countries has evolved to include 28 countries and almost all commodities, as well as labour and finance (European Union 2016b). Although the early unions that later evolved into the EU were primarily created to ensure peace, a significant secondary benefit was realised by making trade less restricted (European Union 2016b).

The economic theory as to why this may work is due to the Comparative Advantage Theory. If countries specialise in areas of comparative advantage and subsequently trade with each other, both will have greater overall welfare. Consequent to this, if two countries went to war with each other and the trade between them stopped, then they both would be economically worse off. This encourages cooperation and provides disincentives for hostile action.

3. The article argues, “The general rule is that if a country like Britain were to cherrypick and discriminate against individual EU member states, the EU would at least threaten to retaliate” (page 7 of 10). Do you think that Britain, as a non-member of EU, will co-operate with the EU? Explain. [ 8 marks]

Cherrypicking, or negotiating different trade and immigration deals with individual countries rather than with the EU as a whole, is likely to be viewed unfavourably by the EU Commission. One notable opponent to potential UK cherrypicking is German Chancellor Angela Merkel (cited in Chessell 2016), who said, ‘There shouldn't be the slightest misunderstanding about the conditions laid out in the European treaties for a case like this … We will ensure the cherry-picking principle won't apply in the negotiations’.

One of the functions of the EU is to act as a trade bloc for the benefit of its member countries. The EU has a policy on world trade where they write that ‘[t]he EU has achieved a strong position by acting together with one voice on the global stage, rather than with 28 separate trade strategies’ (European Union 2016a). As such, it will be very difficult for Britain to cherrypick different policies for different countries within the European Union – although the EU will look unfavourably on the UK for attempting to do so, the EU is also likely to threaten retaliation on any of its member countries who attempt to strike individual deals with the UK in opposition to the wishes of the European Commission.