• Brexit

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Brexit

The UK’s vote on 23 June 2016 to leave the EU has sent shockwaves around the global economy. 

Immediately after the vote, the financial markets were hit hard and sterling fell sharply to a 30 year low. Since then share prices have recovered and markets have calmed down and volatility is lower. Focus is now shifting to the impact on growth in the economy. The UK economy is growing better than anticipated immediately following the referendum but the devaluation of Sterling is causing an increase in inflation which will impact consumer spending and business profits. 

Undoubtedly, there will be uncertain times ahead and market fluctuations will still occur but with uncertainty there is also opportunity.

Here, we spell out some of the changes that are on the way and will explain some of the uncertainty. We will also highlight some of the opportunities that your business should be aware of and the issues you need to manage.

Where are we now?

Business as usual but with uncertainty comes the need for greater monitoring of downside risks and keeping an eye out for opportunities.

The clock doesn’t start on ‘leave’ negotiations until the UK government invokes Article 50 of the Lisbon Treaty. Article 50 must be invoked in accordance with a country’s own constitutional requirements. The Prime Minister has stated that the UK will give notice by 31 March 2017. However a recent High Court decision has established that the Government cannot give notice under Article 50 without reference to Parliament. The Government has stated that it intends to appeal the High Court decision and the matter will be considered by the Supreme Court with a judgement likely in January 2017. The Government says it intends to stick to its March timetable but the Parliamentary process could cause delay as well as result in the introduction of amendments and conditions on Brexit negotiations. In the meantime the EU is not prepared to enter into any pre-Article 50 discussions or negotiations. 

Once invoked, there is a minimum of two years for the UK to negotiate an exit from the EU and therefore the status quo remains throughout this period. Until then the UK remains within the EU and all that it entails. There is also likely to be a transitional period between the end of negotiations and the signing of a Free Trade Agreement between the UK and the EU. 

EU membership is based on four pillars:

  • The free movement of goods
  • The free movement of services and freedom of establishment
  • The free movement of persons (and citizenship) including the free movement of workers
  • The free movement of capital.

These four freedoms are intended to improve the competitiveness of all 28 EU member states involved in the single market. And it is this which is set to continue for at least the next two years.

But it won’t quite be business as usual. The political debate will continue as Theresa May sets out her negotiating position on Europe. There may still be pressure for a general election and the referendum result has also raised questions about another Scottish and a possible Northern Ireland independence referendum. There are also 5 elections across Europe in the next twelve months, including France, The Netherlands and Germany, all of which could result in significant changes to the ruling governments in those countries. Uncertainty seems to be the only certainty for the next few years.

Leaving the EU

A messy divorce?

Leaving the EU will be a long drawn out process. Politics will dictate the timetable.

A fundamental issue underlying the process from a UK perspective will be whether the UK can negotiate a new relationship with the EU while negotiating an exit. EU trade commissioner, Cecilia Malmstrom, has been clear that under current EU law there are two distinct sets of negotiations – exiting and trade. In her opinion, trade negotiations cannot begin until the two year exit process is completed since the EU is not able to agree individual trade deals with any of its members. In practice it is in all party’s interests for these discussions to run concurrently.

Key issues that need to be dealt with in negotiations include:

  • The legal separation process including matters such as the UK’s future contributions to the EU budget to cover matters such as pensions of EU civil servants who are UK citizens, ongoing EU development projects
  • A trade agreement with the EU and on what terms
  • ​Cooperation on security, intelligence and defence matters
  • Interim arrangements after the two year negotiating period has expired.

During the two year negotiating period the remaining 27 EU nations will meet to discuss the UK’s withdrawal. Following negotiations a draft deal will be put to the EU Council. Any deal needs approval from at least 20 nations covering at least 65% of the EU population. The deal will then need to be approved by the EU Parliament. It will be very challenging to get sufficient agreement across the various EU member states.  

At the end of the two year period, negotiations can be extended if all 27 member states agree. If there is no extension and no agreement, then Article 50 states that the EU Treaties simply cease to apply to the UK.

The Brexit process is enormously complex and will consume significant Civil Service resource. A new Government Department, the Department for Exiting the European Union has been established with responsibility for overseeing the negotiations to leave the EU and establishing the future relationship between the UK and the EU. David Davis is the Secretary of State for Exiting the European Union. The Department’s immediate priorities are:

  • Ensuring the government is able to take initial decisions on the UK’s withdrawal on the basis of the best possible advice
  • Strengthening capability across government in preparation for the work ahead
  • Reaching out to stakeholders in order to understand and capture their views
  • Establishing the Department and setting it up to succeed.

The European Commission has set up a Brexit taskforce, known as the “Article 50 Task Force”, to conduct negotiations with the UK. It is headed by Michel Barnier, a former French foreign minister and EU Commissioner, with Sabine Weyand, a senior German trade negotiator, as his deputy.

Going at it alone?

What the future holds.

A number of prominent UK politicians have stated that they want the UK to continue to have full access to the single market, but yet take greater control over its borders and to make no further contributions to the EU budget.

This does, however, feel too close to a ‘have cake and eat it scenario’, that history has shown is very unlikely in EU negotiations. No other country has ever got this type of deal from the EU. Making any compromises on any of these three principles will be extremely difficult and painful for the UK Prime Minister as doing so will infuriate large sections of the population and /or business community, however, compromise is inevitable.

If the UK economy does really suffer extensive damage with rising unemployment and reduced business investment and the public finances suffer as a result, then public opinion may be willing to make more compromises on free movement and the EU budget in order to protect our economic wellbeing.

The existing models for non-members are:

European Economic Area (EEA)
Remain in a free trade area like EFTA members Norway, Iceland, and Liechtenstein but requires:

  • Free movement of people
  • Financial contribution to EU

Swiss model
Series of bilateral interdependent sectoral tariff agreements with the EU but requires:

  • Free movement of people
  • Financial contribution to EU

Turkish model
Only a partial Customs Union for goods but:

  • Excludes services, agriculture and public procurement
  • CJEU supremacy

Canada model
Comprehensive Economic and Trade Agreement – although not 100% coverage but requires:

  • Financial services and some other goods and services excluded

World Trade Organization model
Tariffs agreed under WTO rules but involves:

  • No free trade access

There is an enormous amount of discussion and debate about what Brexit really means and what type of model the government will seek to negotiate – so called “hard Brexit” and “soft Brexit” options. These terms are ill defined but hard Brexit is broadly interpreted as meaning a relatively swift exit, with no or very limited free movement of people post exit and a trade agreement which is unlikely to involve full access to the single market. Soft Brexit broadly means retaining full (or near full) access to the single market with an acceptance of the conditions that that is likely to bring, such free movement of people and a significant ongoing contribution to the EU budget. Sources inside the EU suggest that they will not allow any splitting of the four pillars in order to gain access to the single market.

The government has talked about seeking a bespoke trade agreement while retaining strong border and immigration controls.  It is not yet clear precisely what this will look like but it seems increasingly unlikely that the government will push to retain full access to the single market.

Of course politics both in the UK and across the EU will be the key determinant. Following the recent US election and with elections due in 2017 in both France and Germany, all one can say is that uncertainty, political upsets and unexpected outcomes are the new order.

You and your business

The BDO business checklist – leaving no stone unturned

With so much uncertainty ahead it is vital that your business stays as flexible and vigilant as possible to meet any challenges but also to take advantage of any opportunities that will be created through these changing times.

Different organisations face different challenges and the threats and opportunities of a Brexit will be unique to each one. Now is not the time to make final decisions but you can start to prepare for what might lie ahead by working through our business checklist of key questions and actions.