The real ‘Brexit dividend’? Minus £800m a week – and counting

Analysis: It’s five years since Britain voted to leave the EU – so what number should really have been on the side of the Vote Leave bus? Ben Chu examines the real impact of Brexit on the UK’s economy

Vote Leave highlighted the cost of the UK’s EU budget contributions – but studies indicate the damage from the Brexit vote had already cost the UK economy between £400m and £800m a week by the end of 2019 (Getty/The Independent)

It was a vote famously won, at least in part, on money. “We send the EU £350m a week,” read the message on the side of Vote Leave’s battlebus. “Let’s fund our NHS instead.” The figure referred to an estimate of the UK’s gross contribution to the European Union – in reality there was much more at play in the economics of EU membership, including money Brussels sent back to Britain and trade benefits.

So, five years on from the vote, what has Brexit really meant for the economy?

The UK finally left the EU’s single market and the customs union under the terms of Boris Johnson’s bare bones free trade deal with Brussels on 31 December 2020 – a deal that economists predict will significantly hold back the UK economy over the coming years relative to staying in the bloc.

But economists judge that the costs of Brexit first began to be felt virtually from the moment the shock Leave referendum victory emerged on the night of 23 June 2016 when David Cameron was still prime minister.

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That night saw the largest daily slump in the value of sterling on record, as financial market traders frantically sold the UK currency in anticipation of a drastic economic divorce between Britain and the rest of the Continent.

Between 23 and 27 June 2016, sterling declined by 11 per cent against the US dollar and 8 per cent against the euro.

That crash instantly pushed up the price of imported goods.

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Analysts at the London School of Economics have estimated that, as a direct result of this record-breaking currency depreciation, UK consumer prices increased by 2.9 percentage points in the two years following the referendum and that this translated into an £870 per year increase in the cost of living for the average UK household.

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The other almost instantaneous impact of the Brexit vote was a slump in business investment, as many firms cancelled their expansion plans amid confusion over the UK’s future trading relations with the Continent.

The deadlock in Parliament after the 2017 general election over what form Brexit should take, if any, ensured that business investment remained extremely weak.

If investment by firms had continued rising at its pre-referendum rate it would have been some 10 per cent higher by the end of 2019.

The Brexit vote also seems to have deterred overseas companies from investing in the UK, or from expanding their operations here.

Analysts at the University of Sussex’s UK Trade Policy Observatory in 2018 estimated that the Brexit vote reduced the number of foreign investment projects in the UK by between 16 and 20 per cent.

Business investment contributes to the economy in two ways. First, it boosts aggregate spending, which helps drive income and jobs today. Second, it boosts the long-term productive capacity of the economy, which produces higher incomes and more jobs tomorrow.

Historically, investment by multinational companies – the sort that has been especially weak since 2016 – has proven highly beneficial in the latter respect.

This all means that, by crushing investment, Brexit will have not only have hampered economic growth relative to where it would otherwise have been since 2016, but will also continue to be a drag for many years into the future.

Many economists have sought to quantify these negative impacts. Before the pandemic struck last year, a host of studies examined the impact of Brexit on the overall economy with so called “doppelganger” modelling exercises.

These involved examining how the UK gross domestic product had grown in the wake of the Brexit vote relative to other peer economies (France, Germany, Canada, the US and so on) with whose performance UK growth had historically been reasonably tightly correlated.

Because the UK was the only major country that had voted to rip itself out of a deep economic and regulatory relationship with a vast neighbouring trade bloc, any divergence in performance between the expected UK performance and the actual performance could reasonably be attributed to the Brexit vote.

A number of these studies, using different baskets of comparator economies, showed a gap in the UK’s economic performance opening up after the referendum as a result of lower business investment and the impact of the sterling slump on household spending.

£400-800m

Estimated weekly damage done by Brexit vote to UK economy by end of 2019

And these studies indicated Brexit damage by the end of 2019 of between 1 and 2 per cent of GDP, or between £20bn and £40bn. That, to put it in the terms favoured by the Vote Leave side during the referendum campaign, equates to a loss of between £400m and £800m a week.

Economists at the University of Warwick performed a similar doppelganger modelling exercise, but examining the impact of Brexit on the UK’s regions and districts.

They found a considerable amount of variation, with those UK areas that had relatively large Leave votes in 2016 and significant numbers of low-skilled workers suffering more than others.

The pandemic over the past 12 months has played havoc with those doppelganger exercises using comparator countries because the impact of Covid has been so enormous and varied around the world.

Yet Thiemo Fetzer, one of the Warwick researchers, argues the massive shock of 2020 will not have changed the picture of underlying economic damage to the UK from Brexit.

“Covid is obviously going to confound a lot of these things but I think the trend will be very similar,” he says.

And what of the impact of actually leaving the single market and the customs union since 31 December?

We do not yet have the data to estimate the impact on the overall economy, but there have certainly been problems at the borders for UK firms.

British goods exports to the EU slumped by a record amount in January. They rebounded in February but still remain considerably below where they were in the average of previous years.

The Centre for European Reform think tank has run a doppelganger modelling exercise, examining and comparing other countries’ trade patterns since the start of this year, that suggests Brexit has reduced UK goods exports by 11 per cent, or £7.7bn relative to where they otherwise would have been.

How do these near-term estimates of the cost of Brexit fit with the long-term projections of how leaving the EU will ultimately damage the UK economy?

A host of these studies have estimated moving from EU membership to a simple free trade deal – as the UK has done – will permanently damage UK GDP by between 4 and 6 per cent in the long run relative to where it otherwise would have been.

This is a result of higher trade barriers with Europe damaging UK industry and holding back our national productivity growth.

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So how much of this economic damage has already been felt and how much is still to come?

It’s impossible to be certain, but the Office for Budget Responsibility, the Treasury’s official forecaster, at the time of the March 2021 Budget estimated that around two-fifths of the total damage had been inflicted so far due to the investment slump.

So if the long-term Brexit cost is assumed to be 4 per cent of GDP (as the OBR projects), that implies 2.4 per cent of GDP damage is yet to be felt, or around £48bn.

To put this in the context of the UK’s 66 million-strong population, the cost of Brexit so far on average is around £480 per person, with a further £720 of pain to go.

And this, by the way, is including estimates of the benefits of any new tariff-lowering post-Brexit free-trade deals the UK might conclude with the likes of America or Canada. Even the recently signed Australia trade deal is predicted by the government to boost GDP by only 0.02 per cent over 15 years.

Why do these trade deals not make much difference? Because we do so much of our trade with the EU (around half) that any increased trade with these other countries cannot, arithmetically, compensate for the significant expected foregone trade with Europe.

“Almost all economists expect a further hit to income growth as trade with the EU becomes more costly,” says Thomas Sampson of the London School of Economics.

“Trade models suggest it could take a decade for the economy to fully adjust to Brexit.”

The size of the Brexit economic impact cannot, of course, be predicted with any pinpoint accuracy. But all the mainstream analysis is unambiguous in suggesting that it will be negative and large. And that will feed through to our living standards in the form of weaker job creation and slower income growth than otherwise.

But will it be recognised? Politicians, as we’ve seen in recent months, will likely seek to blame other factors, from Covid to a lack of flexibility from the EU in applying their import regulations.

And some Brexit voters might insist they haven’t experienced any economic pain personally if they have managed to keep their jobs or perhaps are retired.

“The problem is you don’t know how the UK would have unfolded if it hadn’t been for that vote,” says Mr Fetzer.

“Brexit is death by a thousand needles, it’s not an earthquake. You don’t hear about each of the pricks of the needle.”