What happens if Britain leaves the EU with no new trade deals at all?

We’re told that the chances of both an EU trade deal and a US deal by January are now fading. What would that mean for the UK economy? Ben Chu reports

New regulatory checks at the UK-EU border would disrupt haulage firms and businesses that rely on deliveries from the EU (AFP/Getty)

Government sources briefed a double dose of concerning news this week.

Sources claimed that negotiations with the European Union on a free trade deal to kick in when the Brexit transition period ends in December are proceeding badly and that ministers are working under the assumption that there “won’t be a deal”, according to the Daily Telegraph.

Meanwhile, sources also said the likelihood of a new UK free trade deal with the United States by the end of 2020 were also fading fast.

“Is it going to happen this year? Basically, no,” said one official, quoted in the Financial Times.

That raises the question of what this would mean in practice for the UK economy.

How bad would it be if we had neither an EU nor a US trade deal in place by January?

What would happen without an EU deal?

There are two main economic consequences here.

They have been well-rehearsed ever since the Brexit referendum in 2016 but they remain true.

First, we would no longer be in the EU’s customs union. Without a free trade deal in place that would mean exports of goods from the UK to the EU would face the EU’s common customs tariff.

On average that tariff is low, but on some items, such as cars (10 per cent) and agricultural produce (up to 84 per cent for meat and 74 per cent for dairy), it’s very high.

Such tariffs would hit UK firms and industries that export a great deal to Europe. They would face some very serious disruption as their products would suddenly become much more expensive for continental firms to import.

Second, the UK would no longer be in the European single market, a pan-European regulatory umbrella that facilitates continental trade through the harmonisation of standards and licencing.

This would likely be extremely disruptive for UK services firms, which could find themselves unable to operate on the continent as they did before.

New goods tariffs and regulatory checks at the UK-EU border as a result of leaving the customs union and single market with nothing to replace them would also be likely to disrupt UK and EU haulage firms and businesses that rely on physical deliveries from across the continent.

Would the coronavirus recession make this impact worse?

Some, including the former Brexit secretary David Davis, have suggested that lower cross-channel trade flows because of the current recession could make any new border disruption because of a no-deal Brexit less disruptive than otherwise.

“The unfortunate Covid-19 events will mean that cross-border traffic will be depressed and customs will be more than able to handle the traffic,” he argues.

However, most industry groups fear new border checks could compound the immense strain on many companies, lead to even more cancellations of investment plans and risk a lapse back into recession for the UK economy.

The Bank of England in 2019, before the coronavirus pandemic hit, suggested the UK economy could contract by 5.5 per cent in the short term in the event of a no-deal Brexit, though the extent of the damage would depend on the degree of border mitigating preparations put in place by firms and the government.

Some has been put in place, including plans to hire more customs agents – and the government announced an extra £700m of investment in border infrastructure earlier this month. But it’s by no means enough, according to industry groups.

Regardless of the short-term damage, most credible economic modelling, including that of the government’s own economists, shows a long-term hit to the UK economy of leaving the EU without a trade deal in order of 5 to 10 per cent of GDP.

These results are driven by the assumption that without a free trade deal with the EU we will trade less with our nearest commercial neighbours and this, in turn, will hold back our national productivity and GDP growth.

The UK and EU think tank, working with economists from the London School of Economics, estimates that a no-deal Brexit would, in the long term, lead to a reduction in UK GDP per capita (compared to the baseline of remaining an EU member), of between 3.5 per cent to 8.7 per cent.

However, they also estimate that a free trade deal would also impose a major cost relative to staying in the EU of between 1.9 per cent and 5.5 per cent of GDP per capita.

A smaller economy in the future will mean smaller wages and household incomes than otherwise.

What will be the economic damage if we have no US trade deal?

The same standard economic models which show a significant long-term hit from a no-deal Brexit also show only a modest benefit from a potential US trade deal.

The Department for International Trade’s own modelling work suggests a boost to long-term GDP of between 0.1 and 0.2 per cent from a free trade deal with Washington.

The reason for the discrepancy is that the UK currently does relatively little trade with the US compared to our trade with the countries of the EU and it’s assumed this would not change significantly even if we did a trade deal.

Economists assume countries inevitably do more trade with countries that are geographically closer to each other – a very strong and persistent empirical pattern from historical global trade flows.

What’s the bottom line on trade deals?

The damage from a failure to conclude a US trade deal would be mainly political, rather than economic, with ministers having promised a quick deal with Washington on several occasions as a dividend of Brexit.

Government sources have also claimed in recent months that the costs of a failure to do a deal with the European Union are “lower than they have ever been” because of the coronavirus recession. But, similarly, if this is true it would only apply to the political, rather than economic costs.

The Office for Budget Responsibility, the Treasury’s official forecaster, made this clear in its Fiscal Sustainability Report last week when it warned that a no-deal Brexit in January would “would pose downside risks to short and medium term growth prospects on top of the economic challenges created by the pandemic”.