On 23 June 2016, the United Kingdom (UK) decided by referendum to leave the European Union (EU). Once the UK officially requests the initiation of the negotiations (via the so-called Article 50 of the Treaty on the European Union that lays down the provisions governing the withdrawal process), the EU and the UK will start negotiating the terms of withdrawal.
The EU has an exclusive competence for the customs union and for the common commercial policy. Once the UK has officially pulled out of the EU, it will have to establish its own tariffs and trade relations with the EU and third countries such as India.
UK’s withdrawal from the EU (also called Brexit) is expected to face complex and lengthy negotiations given that it is the very first time an EU Member State has decided to leave. Even though the outcome of the withdrawal procedure is unknown, several options are available to ensure sustainable trade relationship between the EU and the UK.
What will be the EU-UK trade relationship after the Brexit?
Over the years, the EU has negotiated preferential trade arrangements with neighboring countries such as Norway, Switzerland or Turkey. The EU and the UK would likely agree upon one of the following options in order to mitigate the impact of the Brexit on both the UK and EU economies:
- As a first option, the UK could join the European Economic Area which provides for the free movement of persons, goods, services and capital within the EEA with notable exceptions on agriculture and fisheries. The EEA comprises Iceland, Norway and Liechtenstein as well as the 28 Member States of the EU. With this option, the UK would remain part of the European Single Market and goods would continue to move freely. The option would also allow the UK to set its own external tariffs vis-à-vis the rest of the world given that the EEA is not a customs union. However, being part of the EEA implies the implementation of a major portion of EU legislation without being involved in the decision-making process. EEA members also have to contribute significantly to the EU budget.
- The second option available to the UK would be to rejoin the European Free Trade Association (EFTA). The EFTA provides for tariff-free trade in all non-agricultural goods between its Members (Iceland, Liechtenstein, Norway and Switzerland). The EFTA is not a customs union and its members set their own external tariffs. The EFTA has agreed upon 27 free trade agreements (FTA) (covering 38 countries such as Canada, South Korea or Turkey) and FTA negotiations are ongoing with India. It is important to keep in mind that there is no direct trade agreement between the EFTA and the EU. Rather, Iceland, Norway and Liechtenstein have opted for the EEA while the trade relations between Switzerland and the EU are governed by several bilateral agreements covering trade in goods, trade in services and free movement of persons.
- The third option would be for the UK to enter into a comprehensive free-trade agreement with the EU. The scope of the FTA would depend upon the good will of the UK and the EU and may range from a mere FTA covering only trade in goods to a comprehensive agreement encompassing other areas such as trade in services, investment, research, etc. The EU already has a comprehensive FTA with South Korea and has concluded one with Canada and Singapore.
- The last option would be for the EU and the UK to negotiate a customs union (like the customs union between the EU and Turkey) where goods would move freely without facing tariffs. The EU and the UK will have to set a common external tariff to be applied on all goods entering the customs union, regardless of the port of entry. As an option, specific goods such as agricultural products could be excluded from the customs union (as it is the case in the EU-Turkey customs union).
In case the EU and the UK do not agree on one of the above options before the UK pulls out of the EU (2 years after the beginning of the negotiations), the relationship between the EU and the UK are likely to be governed by the rules laid down in the WTO Agreements. Goods imported from the UK into the EU would therefore be subject to the so-called Most-Favored-Nation tariffs levied by the EU.
Will the Brexit impact EU free trade agreements?
Over the years, the EU has negotiated various FTAs with third countries allowing for preferential market access. The UK withdrawal of the EU is likely to have a negative impact on them. Indeed, most of the FTAs have specific provisions on the territorial application and those agreements only apply to territories where EU law is applicable. Following the Brexit, FTA partners may wish to renegotiate the trade concessions given the loss of market access in the UK.
In addition, the UK withdrawal is not only expected to have consequences on the on-going Transatlantic Trade and Investment Partnership (TTIP) negotiations between the EU and the United States but also on the FTA negotiations with other countries such as India. The Brexit will impact the size of the EU market and the trade flows thus modifying the concessions already agreed upon.
Will the UK remain a WTO Member?
The UK joined the WTO in 1995 under the terms of membership negotiated by the EU. By leaving the EU, one could imagine that the UK would have to renegotiate its own terms of membership with the current 161 WTO Members.
Depending on the choice made by the EU and the UK in the withdrawal negotiations, some of the elements of the UK’s WTO membership may need to be renegotiated. For instance, in case the UK decides to set up an external tariff different than the EU tariff, it may have to renegotiate its schedule of concessions and MFN tariff lines. However, given the absence of legal provisions dealing with this unique situation, it is difficult to predict what would happen at the WTO level.
Conclusion
The consequences of the Brexit are still unknown and will highly depend upon the outcome of the withdrawal negotiations between the EU and the UK. The negotiations are not expected to start before the UK officially activates the so-called Article 50 that triggers the 2-year negotiation period. The degree of uncertainty generated by the referendum is expected to impact EU relations with the UK over the next years and companies engaged in trading with the EU or the UK will need to closely monitor the negotiations to find out how the Brexit will impact their business.
[The author is a Principal Associate, International Trade Practice, Lakshmikumaran & Sridharan, Delhi]