Brexit: An Economic Catastrophe

David Cameron’s promised referendum on the United Kingdom’s membership in the European Union represents both a turning point and return to the past in the British electorate’s attitude towards ‘the continent’. Nonetheless, the economic consequences of ‘Brexit’ would be substantial, potentially costing the British economy 2.2% of its gross domestic product. Euroscepticism arguably finds its roots in Britain’s historical experience with continental Europe; from the Spanish Armada to the World Wars, there has always been a distinct sense of separateness from the states on the continent. However, modern opposition to the current form of the European Union was originally articulated by former Prime Minister Margaret Thatcher in her 1988 ‘Bruges Speech’: “We have not successfully rolled back the frontiers of the state in Europe only to see them re-imposed with a European super-state exercising new dominance from Brussels”. This claim thereby identified a uniquely British distrust of an over-powerful state as the chief concern over any economic considerations.

Image courtesy of Andrew Gustar, © 2015, some rights reserved.
Image courtesy of Andrew Gustar, © 2015, some rights reserved.

The overall impact of British withdrawal from the European Union will largely depend on the new relationship formed between the two parties; the models offered by other nation-states with similar relationships with the Union. At one extreme, Norway’s relationship with the European Union involves membership in the European Economic Area, but would not give the conservative party the political leverage necessary to justify the referendum.  Conversely, a relationship where the United Kingdom trades with the Eurozone on a most-favoured nation basis would give the necessary political leverage and flexibility but would also seriously affect trade and investment in the country. The United Kingdom would likely pursue an agreement similar to that of Switzerland – a series of bilateral accords governing free trade access to a series of goods or a more comprehensive free trade agreement. No matter what framework the British government would pursue in the event of a successful referendum, the ambiguity of the current government’s plans will ensure that any Brexit scenario would be a drawn-out process.

The economic impact of Brexit would surely be most severely felt by Britain itself; regulatory divergence between the United Kingdom and the European Union would increase over time and reduce the attractiveness of Britain as an investment opportunity. The overall magnitude of the effect felt by British businesses, or those businesses involved in the British economy, would be highly dependent on the specific framework of British withdrawal. However, London’s position as Europe’s leading financial centre is unlikely to come under threat as this position is highly supported by the infrastructure of financial and professional services that are hard to replicate. While further investment in London may be discouraged, there is unlikely to be a large exodus of financial institutions from London due to the costs associated with relocation. While the United Kingdom would retain a strong competitive edge in the financial services industry, it would likely start to lose business to Eurozone-based banks that can more effectively provide financial services to companies based in the European Union. Ultimately, one or two continental cities may arise as valid competitors, although this financial reorientation would be a drawn-out process that would (hopefully) give the British economy time to adapt to the new economic reality.

What the United Kingdom loses in investment attractiveness it does gain in leverage over its own industrial, regulatory, and – perhaps most importantly to voters – immigration policy. Undoubtedly, immigration policy will be tightened, keeping in-line with popular sentiment seen across both Britain and the European Union at-large. While this would restrict access to cheap labour and talented workers from abroad, there does seem to be demand for restrictions on the free movement of labour across European borders – especially as many of Britain’s social ills are blamed on immigrants into the country, particularly among members of a largely resurgent right-wing movement, exemplified by the overall success of the United Kingdom Independence Party, despite their inability to gain any seats in Parliament. Furthermore, the United Kingdom will lose influence over European Union regulatory policy (in pharmaceuticals, agriculture, and other processed goods, for example) without gaining much freedom to change its own regulations as it would have to comply with European policies to maintain access to its markets. The opportunity costs of Brexit are thus too high to make it an attractive option from an economic standpoint.

Perhaps the greatest cost to the United Kingdom would be from the lost income due to trade. Currently, the European Union represents the largest export market for British manufacturers; if taken as a single entity, it exceeds nine billion pounds for the most recent month that data is available. Withdrawal from the European Union would surely have an adverse effect on this figure, with most revenue derived from trade to be directed towards Commonwealth Nations, the second-largest group of trading nations with the United Kingdom. Most of the lost value in trade would likely be the result of increased barriers to trade due to customs levied towards currently exempt British goods. In the most likely scenarios – either a comprehensive free trade deal or a number of bilateral trade agreements – the cost of trade is almost sure to increase. The costs will be borne by both consumers and businesses. Furthermore, the implications for Britain would be far worse than for the European Union. Where one-tenth of European exports are directed towards Britain, over one-half of British exports are headed for the continent. While both the European Union and the United Kingdom would be adversely affected by ‘Brexit’, it is clear that Britain would lose far more than its counterparts on the continent in lost economic productivity from trade.

Reasoning behind the British withdrawal from the European Union clearly encompasses more than just economic considerations. Although it is true that the British government does spend a significant sum on Union-related costs, the financial benefits afforded to the country outweigh any remittances sent to Brussels. Income lost from the cessation of European trade alone make Brexit a costly proposition. Instead, it seems that withdrawal from the European Union is a reflection of the inherent Euroscepticism that has always been present amongst a large portion of the British conservative establishment. For those promoting ‘Brexit’, the hostile relationship to the European Union is not solely an economic calculation, it is also a manifestation of the long-standing suspicion of a too-powerful state and the loss of national sovereignty to a power on the continent. If opponents to Brexit would like to win the referendum, they should not only speak to the British electorate on an economic level, but should address directly address British attitudes towards Brussels as well.

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