Clean Brexit: We may need a transitional arrangement; but the EEA is not the answer

Clean Brexit: Paul Reynolds explores alternatives to the EEA Agreement for potential transitional arrangements to act as a bridge to a bespoke Free Trade Agreement

In recent weeks, the Brexit debate has been filled with terms such as “transitional” and “interim” arrangements so as to avoid a “cliff-edge”. But what is this potential “cliff-edge”? The concern arises from an abrupt departure from the EU’s Customs Union and Single Market without alternative trading arrangements.

Will it take longer than 2 years to agree new trading arrangements? Comparisons with CETA (7 years to agree) and the Swiss-EU bi-laterals (8 years to agree) are often made, but unlike Canada & Switzerland, the UK already has tariff-free trade and regulations aligned with the EU – negotiations will be focussed on maintaining existing trade not removing barriers.

Nonetheless, the EU ratification process is time-consuming and fraught with risk, as shown recently by Wallonia’s delay of CETA ratification. Furthermore, the EU’s current stance is that negotiations on a UK-EU trade agreement cannot start until after the UK has left the EU – which mandates a transitional period to avoid a cliff-edge.

Is Single Market critical to UK-EU trade?

 In order to avoid this “cliff-edge” many have suggested switching to EFTA EEA as an interim arrangement, which would keep the UK inside the Single Market. Not that we should believe the hype about the value of the Single Market to the UK economy.

It has been suggested that outside the Single Market without a trade agreement, UK goods exported to the EU will need to undergo conformity assessment testing in EU ports, leading to an apocalyptic “operation stack” scenario with freight lorries backed up 100’s of miles.

However, excellent work on the Door to Freedom blog (by @AndrewChapman50) demonstrates that conformity assessment can be overcome while trading under WTO rules only – even in the absence of a Mutual Recognition agreement (MRA) on conformity assessment.

Furthermore, Article 6.3 of the WTO TBT agreement encourages WTO members to enter into MRAs on conformity assessment when requested to do so by another member – there are no grounds for the EU to refuse such a request.

Financial Services and Business Services are the only sector where the UK has a significant trade surplus with the EU. – hence the concern regarding potential loss of the Financial Services Passport. However, the value of this passport has been countered and tempered by reports from Open Europe and the Legatum Institute (Myths & Realities checklist and Financial Service Briefing) amongst others.

  • Nearly 5,500 UK firms use financial passport in the EU while 8,000 EU firms use it to provide services in the UK. Notably, the EU has 552 CRD IV passports (covering bank deposit taking & lending) to the UK’s 102.
  • Many Financial Institutions already have subsidiaries in the EU. Most UCITS funds are already hosted in Luxembourg or Dublin, while managed from London.
  • Third country firms can gain passport-like access via regulatory equivalence in some sectors: Wholesale Clients investment services under MiFID II/MIFIR (due in 2018) and re-insurance under Solvency II.

There is a case for continuing current Single Market arrangements ahead of establishing new arrangements – certainly for Financial services (in interests of both the UK and the EU) and some other aspects of the Single Market, most notably:

Does EFTA EEA help with customs union issues?

While EFTA EEA would keep the UK inside the Single Market, it would not address issues arising from leaving the customs union. At present, the UK’s external trade relations are a matter for the EU. Outside the EU’s Customs Union an independent UK will need to negotiate its own WTO schedules (covering tariffs, services commitments, quotas and subsidies), and “grand-father” 50+ Free Trade Agreements (FTAs) registered with the EU’s Customs Union at the WTO.

While the EFTA EEA option provides tariff-free trade with the EU in manufactured goods, the EEA agreement does not cover agricultural goods (where highest tariffs apply). Manufactured goods will also be subject to “Rules of Origin” tests to prove they qualify for tariff-free trade.

The UK will once more become an independent Customs Territory, requiring legislation for a UK customs code to replace the EU customs code (~1300 pages). A new Customs border with the EU will be introduced, with associated export/import processes and paperwork. As the EFTA web page on Customs matters states “The EEA is not a customs union, thus most of the activities in the customs field are not relevant to the EEA Agreement.”

While tariffs and ”Rules of Origin” for EU trade will be a new factor for UK Customs, it should be noted that UK customs already undertake checks against criminal activity as part of the EU’s Authorised Economic Operator (AEO) program – designed to provide international supply chain security and efficient customs operations.

The EFTA web page on Customs matters also discusses international supply chain security and states “Norway and Switzerland were able to find simplified solutions through bilateral negotiations”. The EU has agreed Mutual Recognition Agreements on AEO programmes with non-EEA Switzerland and Norway, as well as China, Japan and USA – i.e. not via the EEA agreement.

  • Norway’s bi-lateral agreement has been incorporated into the EEA agreement in Protocol 10 (chapter IIa and Annexes I and II). Some commentators have suggested this could be used by the UK if it adopted EFTA EEA status. However, Article 2.3 of Protocol 10 limits the scope to Norway and the EU (so does not apply to other EFTA EEA states).
  • In any case, UK operators are already recognised and part of the EU’s AEO scheme – unlike Norway’s position when it entered into an MRA on AEO. On leaving the EU’s Customs Union, the UK will want a bespoke agreement to simply carry over current status, not re-apply for validation and recognition.

Is EFTA EEA suitable for Transition?

Changes to the EEA agreement (e.g. to address shortfalls such as Customs matters, agriculture & fisheries etc.) require unanimous consent of all EFTA states and the EU. Will EFTA and EU go through all the hoopla of accommodating the UK if the intention is for the UK to leave again in 2-3 years time ? It seems to me EFTA EEA only works if a long transition period is expected.

I doubt that a lengthy transition will secure UK public approval, although some parties will be quite happy to see the UK parked indefinitely in EFTA EEA. “Continuity Remain” aim to reverse the Referendum decision and keep the UK in the EU and see continued Single Market membership as the platform for this aim, as exemplified by Hugo Dixon.

The EU Commission at some stage want to end the EEA Agreement (by giving 1 years notice) and offer EU Associate Membership as an alternative, as per the Bertelsmann Fundamental Law proposal. EFTA EEA carries a very high risk of turning into “EU by the back door”.

If EFTA EEA does not serve as a short-term transition, then what will? The (proposed) EU chief negotiator, Michel Barnier,   recently suggested an interim arrangement would be useful provided it was known and agreed what the UK-EU future relationship would be. There seems to be common ground here in wanting a time-limited interim arrangement with a clear destination in view.

Fortunately, WTO rules (Article XXIV(5) of the General Agreement on Trade and Tariffs (GATT)) provide for exactly such an arrangement – as discussed in a recent Open Europe article.

What Would Transition look like?

In order to describe the transitional agreement, it seems we need a clear idea of the end point. Well, the UK public strongly favour a Canadian-style Free Trade Agreement (FTA). Spain’s foreign minister has also suggested that CETA (the Canadian -EU Trade Agreement) would be the likely template for a UK-EU deal, given the UK’s desire to control immigration. The UK Prime Minister’s desire to prioritise immigration control, make our own laws and be free from ECJ rulings also suggest an eventual Free Trade Agreement. The recent Times article on “Grey Brexit” also describes a similar destination.

In the first instance, there will be a number of issues to address ahead of leaving the EU’s Customs Union, as described earlier in this article. UK status regarding 50+ EU FTAs is complicated by the EU’s stance that the UK cannot start negotiations with 3rd countries before exiting the EU. Business and customs authorities will need time to adapt to Rules of Origin and additional customs paperwork.

Assuming the UK adopts the EU’s external tariff schedule and until the UK agrees it’s own Free Trade Agreements, it might be possible for the UK to continue trading as if still part of the EU’s Customs Union for a period after exiting the EU. But the key arrangements will be the foreshadowing of a future Free Trade Agreement based on continuing the relevant elements of the existing trading relationship, e.g: Tariff-free trade in all goods; Mutual Recognition for declaration of conformity documents and conformity assessment bodies, AEO status and continued customs co-operation, Professional Qualifications; Continued participation in arrangements such as Financial Services Passport, Aviation Single Market, European Medical agency (observer status) and so forth pending bi-lateral agreements in the final UK-EU FTA. There may well be specific sectoral agreements, e.g. for the car industry and Financial Services.

A UK-EU committee would be required to oversee and arbitrate the transitional arrangements, foreshadowing or creating the institutions to handle regulatory co-operation (to keep MRAs up to date) and market surveillance (to ensure standards are met) and dispute resolution.

Of course, it is entirely possible that no agreement will be reached inside the Article 50 deadline, or that the EU will present the UK with a stark choice: very poor deal or remain in the EU. For these reasons, the UK will need to contemplate and prepare for a “Hard” Brexit, with trade reverting purely to WTO rules. Ironically, the willingness of the UK to accept “Hard” Brexit, to say no to a poor EU offer, will be the best guarantee of a sensible transitional arrangement ahead of a mutually beneficial Free Trade agreement.

Paul Reynolds is a blogger and Brexit campaigner. Follow him on Twitter: @paulrey99

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The views expressed in this article are that of the author and do not necessarily reflect the views of Conservatives for Liberty