How Britain can win and lose if it leaves the European Union on WTO terms

Hard Brexit proponents in the UK extol the virtues of leaving the EU without a deal on what is known as ‘WTO terms’. It is argued that much of global trade already takes place on such terms and there is nothing to fear about the UK falling back on this structure. The UK will also then be completely free to negotiate a wide range of new Preferential Trade Agreements (PTAs). As ever in the arena of trade policy, the devil is in the detail.  How does the WTO framework for trade in goods relate in practice to a ‘no deal Brexit’?  We need to lift some of the fog.

 

Preferential trade

We should acknowledge that the WTO is indeed the bedrock of the international trading system, a role which is too often overlooked or taken for granted.  The WTO’s 2011 World Trade Report estimated that, although about one-half of world trade took place among PTA members, this overstated the amount of trade that actually took place on a preferential basis.

Actual utilisation of preferential arrangements depended on a range of factors relating both to the benefits of using preferences, notably the size of the preference margin, and the costs; rules of origin and other administrative requirements to be fulfilled.

Given the considerable number of zero-duty most favoured nation (MFN) tariff rates in many countries, and widespread product exclusions, only 30 per cent of world trade overall is eligible for preferential tariffs, and less than four per cent is eligible to receive preferences with margins above ten percentage points.

Against this broad estimate has to be balanced the fact that the situation varies considerably depending on the situation of individual countries.  In the case of the UK, 44 per cent of its exports go the EU.

As far as the UK is concerned, it is already a member of the WTO.  Whether it remains in or leaves the EU – whether or not it has a Free Trade Agreement (FTA) or is in a Customs Union with the EU – the UK has rights and obligations in the WTO with respect to all other members of the organisation.

The UK currently benefits from the WTO’s rules on tariff bindings, non-discrimination and dispute settlement, and will do so in future whatever the circumstances.  It would be incorrect to portray ‘WTO terms’ as an alternative to preferential trade.  They are complementary rather than alternatives.

 

Dispute settlement

Taking dispute settlement, the EU (including the UK) has played a very active role as a complainant in WTO disputes, with 100 cases lodged against other members since the WTO was established in 1995.

Not all have been of direct interest to the UK, but the great majority were.  Issues such as anti-dumping and countervailing duties, aircraft subsidies, patent protection, export and other quantitative restrictions, sales of wines and spirits, customs duties and transfer of technology have been raised, often successfully.  Arguably, the EU acting together has carried much more weight in these disputes than the UK would have been able to muster on its own.

 

Divorce settlement

Some Brexiters have equated ‘no deal’ with what has been described as ‘WTO plus plus plus’.  To avoid misunderstanding, there are no grades of WTO membership.  The whole point is that all members are on the same level.  Non-payment of the £39 billion ‘divorce settlement’ is cited as one of the elements of ‘WTO +++’.  This may or may not be so, but it is important to realise that the divorce settlement is nothing whatsoever to do with the WTO.  The UK’s membership of the WTO will be no different in terms of rights and obligations whether it pays the EU nothing or the full amount.  In this respect there is no such thing as WTO plus.

 

The WTO and Border

The potential border on the island of Ireland has been one of the most politically contentious aspects of Brexit.

The applicable WTO rules relating to borders for trade in goods are those of the General Agreement on Tariffs and Trade (GATT), which now form part of the WTO agreements.

These rules are 70 years old.  In general, GATT says what tariffs may be imposed and what enforcement mechanisms may be used, but it does not require specific measures in terms of border mechanisms.  However, if the UK or the EU does not enforce any particular WTO obligations at the ROI/NI border, there could be some MFN issues under GATT as well as, for example, the Agreement on the Application of Sanitary and Phytosanitary Measures (SPS).

The GATT seems to recognise implicitly that there will be border controls, and its emphasis is more on the reduction of unreasonably burdensome or unnecessary obstacles to trade.  The GATT does not deal with undoing an FTA or Customs Union.

Having said this, there is a specific provision of the GATT (Article XXIV) which states that the agreement should not be construed to prevent advantages accorded to adjacent countries in order to facilitate frontier traffic.

This seems to suggest that there is a degree of flexibility when it comes to controls.  A reading that defined all ROI/NI cross-border trade as “frontier” would perhaps be convenient.  However, literature on the history of negotiations on this provision suggests that it was intended to refer to a limit of 15 km from the border.

 

 

The WTO and tariffs

It has also been suggested that the UK can continue to trade with the EU on zero tariffs while negotiating a ‘Canada +++’ deal. This is permitted by Article 24 of the WTO treaty. It is not quite so simple.  If the UK wished, unilaterally, not to impose any tariffs on imports from the EU, it would have to apply the same regime to imports from all trading partners, because of the principle of non-discrimination.

There is, it is true, a provision under GATT Article XXIV which allows the formation of an ‘interim’ FTA or Customs Union.  Under such a scenario the parties to an interim FTA or Customs Union must make available all information relating to the proposed agreement.

If, after studying the plan and implementation schedule, the other WTO members feel that these are unreasonable, they may make recommendations to that effect.  The parties to the interim agreement may not put the agreement into force until the recommendations are accepted.  In any case, it goes without saying that it would take both the UK and the EU to agree to follow this procedure and, in the event of the UK refusing to pay the divorce bill in full or in part, the EU may be less amenable.

It has also been argued that, even if the UK had to trade with the EU under WTO terms, in other words the EU’s MFN tariff regime, UK exporters to the EU would face an average tariff of only four per cent.  This is a simple average which refers only to industrial products.  The EU, in common with almost all other trading entities, provides tariff-free or minimal tariffs for items it needs to import, while tariffs are higher for products deemed to be sensitive.  This has the obvious effect of bringing the simple average down.

In non-agricultural products, 27 per cent of the EU’s tariff lines have applied MFN, i.e: WTO, tariffs in the range of five to ten per cent and seven per cent are in the 10 to 15 per cent tariff range.

The average applied MFN tariff rate for fish and fish products is 12 per cent, and for clothing it is 11.5 per cent. For agricultural products, 18 per cent of tariff lines are in the five to ten  per cent range; 13 per cent in the 10 to 15 per cent bracket; while 12 per cent of tariff lines are at 15 to 25 per cent duty.

The EU’s average applied MFN tariff rates are 11.1 per cent for agricultural goods as a whole, including 15.7 per cent for animal products and 35.4 per cent for dairy.  Moreover, 13 per cent of the EU’s agricultural tariff lines are covered by tariff rate quotas.

 

Beef and lamb

Beef and lamb are among the EU’s agricultural imports covered by tariff rate quotas, effectively quantitative restrictions,  lodged in its WTO schedules of commitments. In the event of a ‘no deal’ Brexit, the EU would be obliged under WTO rules, because of the principle of non-discrimination, to subject imports from the UK to a similar regime.

It is not clear on what basis this might be done.  WTO rules indicate that agreement should be reached with all substantive supplying countries on the sharing of the quota. A tough task.

Failing that, quotas should be based on a previous representative period. However, in the case of the UK there is no ‘representative’ period because trade has been distorted by its membership of the EU.  The outlook for UK beef and lamb exporters to the EU could therefore be highly uncertain.

 

The WTO and Mutual Recognition

The relevant WTO agreements on trade in goods refer to concepts such as conformity assessment, which can in some circumstances include mutual acceptance thereof, equivalence, and compliance with international standards where these exist.

The Technical Barriers to Trade (TBT) Agreement encourages WTO members to enter into negotiations with other members for the mutual acceptance of conformity assessment results. It also recognises that prior consultations may be necessary to arrive at a mutually satisfactory understanding regarding the competence of conformity assessment bodies.

Somewhat similarly, the SPS Agreement provides that countries shall, on request, consult with the aim of recognising the equivalence of measures.  The onus is on the exporting country to objectively demonstrate that its measures achieve the importing country’s SPS standards.

Well intentioned as they are, these provisions contain a number of grey areas which have given rise to disagreements and disputes. The granting of mutual acceptance or equivalence is a decision to be taken in the final analysis by importing countries which may have their own views on when the threshold of ‘objective demonstration’ has been met.

 

Existing and Future PTAs

The UK is clearly struggling to replicate the broad range of the EU’s existing PTAs which would be necessary to preserve its current preferential trade arrangements.

Only four of 40 such agreements have been completed while another three are said to be “on track”.

Notably, the important agreements with Canada, South Korea, Turkey and Japan, which together accounted for £25 billion of UK exports in 2017, are either off track or impossible to complete by 29 March 2019.

Falling back to WTO terms would mean a loss of competitiveness for UK exports compared with those of the EU, and others with which these countries have preferential trading arrangements.

On future trade deals, it’s worth noting that negotiations between the EU and Mercosur, including Brazil,  are at an advanced stage. In addition, the EU has ongoing negotiations with several ASEAN countries as well as Australia and New Zealand.  The UK will be playing catch-up.

Joining the Comprehensive and Progressive Trans Pacific Partnership (CPTPP) has been touted as a way in which the UK could leap ahead of the EU by attaching itself to a wide ranging state-of-the-art trade agreement in the Asia-Pacific region.

However, reports following the recent inaugural CPTPP Commission meeting in Tokyo indicate that this may not be quite such plain sailing.  While the UK’s interest is certainly welcome, some have cautioned against expectations of quick progress.

Australian Trade Minister Simon Birmingham said: “From the feedback of the other TPP nations there is still the view: ‘let’s see the initial 11 members all get through their ratification process, all become party to it, let’s perhaps deal with some of the other nations of interest in the Pacific region’.”  He suggested that striking bilateral FTAs with individual CPTPP members might be a more effective initial option for the UK, while CPTPP accession might be “slow going”.

Coming back to trading on WTO terms, one of the arguments advanced by proponents for leaving the EU was that the UK’s membership of the EU somehow prevented it from reaching trade deals with other fast-growing economies.

However, the fact that the EU trades with others, such as China, on WTO terms does not seem to have prevented some EU Member States, notably Germany,  from forging strong trade partnerships well ahead of the UK.

 

 

The UK’s future role in the WTO

Hot WTO topics of interest to the UK include digital trade, trade in services, fisheries subsidies and WTO reform.  As a strong supporter of multilateral rules-based systems, of trade liberalisation and of inclusive trade and development, the UK has the potential to make a real impact in the WTO, to its own and to the WTO’s advantage.  This may not come easily, indeed it would require a concerted effort, but there are opportunities.

The more the UK is seen as being independent from the EU, the more opportunities it might have in this respect.  The GATT stipulates that “substantially the same duties and other regulations of commerce” are to be applied by the members of a Customs Union to the trade of other territories.  Nevertheless, even if it were to be in a Customs Union with the EU, the UK could still have room for manoeuvre.

The example of Turkey is often cited as an illustration of the downsides of being in a Customs Union with the EU.  Turkey currently has little or no say in the formulation of EU policy on trade in goods but is obliged to follow behind.

However, the Turkey-EU arrangements date from an era when Turkey was on track to join the EU and are now widely, on both sides, seen as deficient.  There is no reason why the UK should have to follow the exact same formula.  Short of directly participating in internal EU decision-making, the UK could still have significant input into trade policy formulation.  And a Customs Union would not include trade in services.

Even in current circumstances, Turkey is an independent and constructive member of the WTO and speaks for itself.  Indeed, from time to time and as the mood takes it, it plays a leading role in WTO deliberations and activities.

 

The WTO Rules: OK?

The basic rules of the global trading system, encapsulated in the WTO, apply to the UK whether it is in or out of the EU, whether or not it has a close trading relationship with the EU, and whatever PTAs it concludes with others.

To this extent, a ‘no deal’ Brexit, or a Brexit keeping the EU close, has no effect on the UK’s general rights and obligations in the trade sphere.

Market access is a different story. In a ‘no deal’ scenario, the UK will be trading with the EU, currently its biggest trading partner by far, on the same terms as the US, China or India.  The loss of preferential access to the EU will surely hit hard.

Furthermore, the UK will be faced with the task of replicating the wide range of the EU’s existing PTAs and striking new deals if possible.  The UK may, or may not, be able to achieve better deals on its own than as part of the EU. Its liberal trade philosophy is an advantage but its reduced trade weight (when compared with the EU as a whole) is a disadvantage.

All PTAs come with strings attached in terms of customs procedures, rules of origin and certification requirements.  These can be more trade friendly or less trade friendly depending on the depth and scope of the PTA. However, they are unlikely to be as trade friendly in terms of the relationship with the EU since the UK will be leaving not only a Customs Union but also the Single Market.

Finally, the deeper a PTA is, the more intrusive it is in terms of domestic regulatory autonomy.  In negotiating future PTAs, the UK may find that it is recuperating some regulatory autonomy from the EU, the prized possession of Brexiters, only to surrender it to other trading partners.