Economy · June 24, 2022

Brexit: some early evidence and ironies

The UK referendum on Brexit passed in 2016 (here are my reflections back then). The UK government wavered over the significance of the referendum for a while, before signing the EU-UK Trade and Cooperation Agreement (TCA) which came into effect on January 1, 2021. Therefore, the evidence on the effects of Brexit is rather early, based on five years of nothing being determined and just over a year with a new treaty and a global pandemic. However, it’s not too early to start gathering evidence and looking for patterns.

The Center for Economic Research produced one of its helpful discussions on the evolution of evidence in The Economics of Brexit: What Have We Learned?, with nine authors offering brief readable overviews of their research and a summary overview of the volume editor Jonathan Portes. At this point, it is obvious that the predictions of darkness and doom of immediate disaster did not materialize, but what has happened offers a number of political ironies. Here I will rely on Portes’ chapter overview. He writes:

The TCA, while providing zero tariffs and quotas on traded goods, contains very few
Provisions of any economic significance relating to the mutual recognition of the legislation
standard, regulatory equivalence for services (including financial services) or work
mobility. With respect to EU membership (and its single and customs market
Union), therefore implies a sharp increase in trade barriers and in the commercial costs of goods
and services, as well as new restrictions on migratory flows.

As far as commodity trading is concerned, a pattern in the research appears to be that while large British firms had the international connections to largely continue their previous trading patterns, many smaller firms proved less able to do so.

[T]They find no evidence of a statistically or economically significant drop in UK trade with the EU relative to the rest of the world prior to the implementation of the TCA. Conversely, the actual introduction of the TCA caused a major shock to UK-EU trade, with a sudden and persistent 25% drop in UK imports from the EU, relative to the rest of the world. There is only a minor and temporary decline in the UK’s relative exports to the EU, but nevertheless a large and sustained decline in the number of trade relations between UK exporters and EU importers. This suggests that the introduction of the TCA caused many small UK businesses to stop exporting to the EU, but that larger companies were generally able to absorb any additional costs.

There is substantial irony here. One of the driving political forces behind Brexit has been the feeling in many parts of the UK that globalization and the EU were only benefiting London and big business. But apparently, London and big business have been able to cope well with Brexit.

However, how [Theimo] Fetzer points out, aggregate impacts aren’t the whole story in any way. His analysis suggests not only that the costs of Brexit are very unevenly distributed, but that, perhaps paradoxically, the areas that voted most heavily for Brexit are the hardest hit, while London was largely unscathed. at least so far.

One of the common promises of the pro-Brexit movement was that if the UK managed to escape the European Common Agricultural Policy, food prices would fall. Even this prediction does not seem to have come true.

Focusing on the food industry, Bakker et al. show that more reliable products on imports from the EU in 2015 experienced higher price increases than less reliable ones in the EU both immediately after the 2019 elections, when it was confirmed that the UK would leave the single market and the customs union, and the implementation of the TCA in January 2021.
Using a difference-in-differences approach, they estimate a 6% increase in food prices
due to Brexit in the two years until the end of 2021. … [T]The apparent upward pressure on food prices stemming from Brexit is certainly a far cry from the claims of some Brexit advocates that abandoning the EU’s common agricultural policy would lead to steep falls in food prices …

Another major political driver of the Brexit vote was concerns about immigration within the EU. In this case, British immigration policies seem to have rotated in such a way that while immigration from the EU has actually become more difficult, immigration from non-EU countries of origin has become easier. Overall, Brexit has apparently led to greater openness to immigration to Britain. Here Portes describes his own research.

I describe the new system, which in fact represents a very significant tightening of EU migration controls with respect to free movement. In principle, migrants who come to work in low-skilled and low-paid jobs are no longer able to gain entry. However, compared to the current system – and in contrast to previous forecasts – the new proposals represent a significant liberalization for non-EU migrants, with lower wage and skill thresholds and no overall ceiling on numbers. This implies that around half of all full-time jobs in the UK labor market could, in principle, qualify a visa applicant. This represents a very substantial increase – possibly a doubling of the previous system – and also makes the new system considerably more liberal with respect to non-European migrants than that of most EU Member States, which generally apply much more restrictive (de facto and / or de jure) skills or wage thresholds and often require a resident labor market test. Arrangements for international students after completing their studies are also relatively liberal.

Therefore, the new system does not represent an unequivocal tightening of immigration controls; Rather, it balances the system from one that was essentially laissez-faire for Europeans while quite restrictive for non-Europeans, to a uniform system that, on paper at least, has relatively simple and transparent criteria. And this analysis seems corroborated by data on the functioning of the system in its first year, where there has been a significant increase in issuance of work visas compared to pre-pandemic levels, particularly in the health sector, and an even greater increase in the number of visas for international students. …

Ultimately, a key factor in the effects of Brexit will be in the big hole created by the TCA: EU countries have many of the same regulations, making it much easier to trade in the services sector. Over time, UK and EU regulations are likely to drift apart and this barrier to trade is likely to increase over time. Portes writes:

Looking ahead, the key question is the extent to which the UK regulatory regime deviates from that of the EU and the likely consequences. While some divergence is likely, for example in the insurance sector, there is little appetite for a “race to the bottom” in London; instead, a gradual and piecemeal divergence is more likely. In the medium term, the implication is that London will retain its importance as Europe’s leading financial center for the foreseeable future, but this dominance will gradually be eroded over time.