Brexit: What’s Ahead? Let the Games Begin

14 November 2016 Dashboard Insights Blog
Author(s): Howard W. Fogt

This is the fourth in an ongoing series of Dashboard Insights blog posts on the implications of the June 23, 2016 voter referendum in the United Kingdom (“UK”) to exit the European Union (“EU”) (“Brexit”). Prior articles reviewed: 1) developments leading up to the Brexit vote, likely competition law as well as procedural implications; 2) risks/uncertainties for standardization and innovation; and 3) possible alternative outcomes posed by Brexit – a hard landing, a soft landing or never-never land.

This article updates the current status and implications of Brexit. As will be explained below, it underscores the need for all affected by this rupture to consider carefully how to protect their vital interests as Brexit becomes a reality. Literally, the games have begun.

Important, indeed, unexpected, developments are continuing to occur. Uncertainty, heated rhetoric, political rancor and lack of transparency mount. Here are a few examples. First, the recent UK court decision requiring UK parliament involvement in the UK government’s Brexit decision-making process gives UK government negotiators less room to maneuver. Sabre-rattling in Scotland threatening that it will bolt the UK to “join/remain in” the EU complicates further the negotiation playing field. The threatened scuttling of the almost decade-long negotiation of an EU/Canada free trade agreement by a regional Belgian parliament in Wallonia demonstrated the potential fragility of any Brexit compromise and the difficulties that lie ahead. Hardening positions among key EU member state governments diminish hopes for an easy transition that would avoid radical fundamental changes in the UK’s relationship with the EU.

However, parallel with these important developments, there is, as noted above, another equally important unfolding story that requires the immediate attention of all affected constituencies across the board. Simply stated, individual companies, industry groups and associations are, in the wake of Brexit, beginning to push actively for special deals – guarantees of at least status quo protection by the UK governments as the Brexit negotiations commence in earnest early in 2017. Given the very recent UK court decision opening the Brexit door to UK parliament involvement, lobbying for protections/benefits and against being left in the dust will increase exponentially. This is a challenge/risk/opportunity facing not only companies and industries already active in the EU but for companies and industries anywhere else that may be affected by the outcome of the Brexit process.

It has been reported before here, and elsewhere, that Brexit means change and uncertainty for business. It threatens normal business planning. Such developments have long been anathema to business. Faced with such challenges and risks, many businesses and groups are taking steps to seize the moment of opportunity to protect themselves. Take a recent widely-reported concrete example to which we have previously alluded. Carlos Ghosn, head of Renault-Nissan (the largest motor vehicle manufacturer in the UK), threatened that Renault-Nissan would make no further investments in the UK and move new production facilities out of the UK unless assured by the UK government that Brexit will not disadvantage his company in any significant way. Renault demanded protection from EU tariffs and any other EU trade barriers which might be imposed on Nissan motor vehicles exported from the UK to the EU. In other words, Ghosn demanded that the UK hold Renault-Nissan harmless from anything that post-Brexit would make its vehicles less competitive in the EU. Presently, exports to the EU account for a substantial majority of the Nissan UK plant’s production. New UK capacity, greater UK production, a larger UK work force and potential increased exports from the UK (likely to the EU) were put at risk by Ghosn.  He threatened to move the new production to the EU if the Company’s demands were not met.  Given the potential significant losses of jobs in the UK if Renault-Nissan moved its planned new production facilities to the EU, the UK government took little time in acting with great fanfare to assure Renault-Nissan that it will protect the motor vehicle manufacturer from any downside consequences from Brexit. As one might expect, the specifics of how, when and in what form such protection might take remain unclear.  Perhaps, the message was “trust us, we’re from the government.

This scenario poses tough political, economic and legal questions.  If the EU were to impose tariffs on motor vehicles imported from the UK, can the UK simply and directly compensate Renault-Nissan for the “expense?” Can the UK achieve the same objective indirectly through tax benefits or other concessions to make Renault-Nissan whole? If the UK government makes such a promise to Renault-Nissan, doesn’t it follow, politically or otherwise, that it must give the same deal to every other motor vehicle manufacturer operating in the UK with regard to their exports to the EU? What about motor vehicle manufacturers in the EU exporting to the UK? What would they seek from the UK or from the EU? What about part suppliers in the UK, EU and elsewhere that are potentially affected by the loss of free trade access that Brexit may threaten? What about other companies in the supply-chain? So, where does this end?

Putting aside for the moment difficult legal (and political) questions that the UK government’s promise to Renault-Nissan raises, won’t other UK motor vehicle manufacturers seek similar protection? If the UK government protects Renault-Nissan, can it fail to give Honda, which is considering major new production in the UK of its “Civic Hatchback,” similar guarantees? What about related companies in the supply-chain? Hitachi has opened a major train-making plant in the northern UK (whose rail stock carries motor vehicles among many other things). It is reportedly seeking UK government post-Brexit assurances. Pharmaceutical companies (e.g., Glaxo-Smith-Kline and Astra-Zeneca) face challenges as well and are demanding to be held harmless. As Jonathan Portes, an economist at the National Institute of Economic and Social Research in the UK has predicted about the Brexit process, “CEOs will start lining up … to collect their payouts.”

The issue is not simply tariff barriers for manufactured goods. The challenge spans across virtually all sectors. Services are an obvious example. The UK financial services industry, which alone accounts for more than 10% of UK total GDP, faces essentially the same risk of market foreclosure or increased market-access costs. The problem extends as well to the issue of the free movement of people – immigration, a hot-button item in the run-up to Brexit. UK research industry risks loss of easy access to trained and talented scientists whose ability to enter the UK may be compromised in a post-Brexit world. UK universities are already up in arms about potential brain-drain and loss of research funds in the UK.

Many other examples could be cited. The UK government now faces a daunting domino-like prospect of having to placate increasing numbers of industry sectors which are demanding protection for many down-side risks posed by UK exit from the EU. Given this rush for protection, can any company fail to engage or risk being left behind?

Suffice to say, the time is now to get in line. Even if there may serious legal and political hurdles that must be surmounted, can any business, industry or sector afford to sit idly by in silence?

However, as much incentive as there may be for companies, industries or sectors to press the UK government for their “handouts,” the reality may well be very difficult to achieve, whether politically, legally or otherwise. First, consider a “simple” example of the deal that Renault-Nissan struck with the UK government. While the details have not been made public (and many believe they do not exist), let’s assume that:

  1. The UK government committed to reimburse Renault-Nissan for any tariff that the EU imposes on the Renault-Nissan motor vehicles manufactured in the UK and exported to the EU.
  2. The UK government commits (responding to pressure from other motor vehicle manufacturers based in the UK (e.g., Jaguar, Range Rover, etc.)) that it will give them the same deal.

Even in this simple scenario, there are some basic difficulties that would need to be overcome.

First, is it likely from a political perspective that manufacturers in the UK of products other than motor vehicles would permit such a selective benefit to be provided for one sector and not broadly for many others? This problem has become even bigger and more complex now that the UK Parliament is, at a minimum indirectly, going to have a major role in shaping the UK government’s position at the Brexit negotiating table. There is going to be tremendous pressure to broaden the coverage provided to other UK businesses.

But, as well, put the shoe on the other foot – the foot of an EU motor vehicle manufacturer. Is it credible that EU motor vehicle manufacturers would permit their EU government representative to reach such a result that erases a competitive advantage that the tariffs being imposed would represent? Certainly, reports on the present view of the EU counterparts of the UK motor vehicle industry toward a UK handout to the likes of Renault-Nissan belie such an outcome. Indeed, such an outcome defies common sense.

Putting the politics and competitive pressures aside, one concrete reason that will not fly is that such a deal would most likely contravene longstanding trade rules which make such tariff absorption or “state aid” (in the case of a government actor) illegal. Even if Brexit were to result in the UK’s trade status reverting to its WTO member status vis-à-vis the EU, it could not easily escape the anti-subsidy provisions of the WTO Agreement on subsidies and countervailing duties. Simply stated, these rules generally prohibit a country to provide financial aid to its companies in a manner that distorts competition. While there are some exceptions, the massive handouts being demanded by UK industries will certainly raise fundamental questions of illegal state aid. Indeed, the European Commission has already opened an investigation of the proposed UK government arrangement with Renault-Nissan to hold it harmless from any competitive effects resulting from tariffs or other trade barriers being imposed as a result of Brexit.

Where do things go from here? 

Obviously, it is not possible to predict with precision how these serious problems will be resolved. One view expressed about the court decision to require UK government consultation with the UK parliament is that the government might be forced to call for new elections and, in that process, achieve a clearer mandate, one way or the other. Some suggest that such elections could reverse the Brexit referendum putting things back before the June 23, 2016 vote. One shouldn’t bet the farm on such an outcome. On the other hand, the current focus on their trade status in a post-Brexit world by various sectors – motor vehicles, pharmaceuticals, financial services, etc.  – might aid in negotiating reciprocal free or essentially free sectoral trade arrangements between the UK and the EU post-Brexit. Such an outcome would go a long way toward reducing trade and legal tensions. However, it will not likely happen without a solution to the issue of free movement of people which is one of the bedrock principles to which the EU remains fully committed.

As the Brexit terms are negotiated, it is essential for one to identify specifically how this process will affect them and to take effective action to seek their protection.

As noted above, future articles will provide updated reports on developments in the exit negotiations and the ramifications in important areas such as international trade, export controls, intellectual property, data privacy and government contracts.

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