The UK and the EU reached this week a long awaited agreement on a technical level on the Withdrawal Agreement (a legally binding document which includes provisions on the divorce settlement and on the transitional period) and on the Outline of the Future Relationship (a political declaration which outlines what the future relationship will look like).
After the UK Prime Minister managed to get the backing of her cabinet, the EU and the UK published these documents (see here and here). Based on these documents it appears that there will be at least two and potentially three distinct periods in the trade relationship between the EU and the UK. We have outlined below, how trade with the EU will broadly operate under these distinct periods (based on the information available so far); what are the next steps in the negotiations; and what businesses should be doing now.
The Agreement provides for a transitional period which will last from 30 March 2019 until 31 December 2020. During that period the UK will remain within EU Customs Union and single market and the overwhelming majority of EU law will continue to apply in the UK, but the UK will lose the ability to take part in EU law-making and will lose the benefits of Free Trade Agreements (FTAs) that the EU has with third countries. In order for the UK to ensure that it will continue to benefit from these FTAs during the transitional period, the UK will need the agreement of the EU and all third countries. In practice, therefore, during the transitional period trade in goods and services between the EU and the UK will remain unaffected.
Crucially the transitional period can be extended by mutual agreement between the EU and the UK. Note that as per the Agreement the length of the transitional period can only be extended once, and the UK and the EU will have to make a decision by 1 July 2020 on whether such an extension will materialise. In practice, if the UK asks for an extension, it is unlikely that the EU will object so the ball will be in the UK’s court on that front.
Period during which the ‘N. Ireland backstop’ may kick in
If by the end of the transitional period, the EU and the UK do not manage to come to an agreement in terms of their future relationship which will ensure that there is no border between Ireland and N. Ireland, then the so called ‘Northern Ireland backstop’ will kick in. If that happens then the whole of the UK will be in a Customs Union with the EU and there will be regulatory alignment between the EU and the UK. What this means, is that during that period trade in goods between the UK and the EU should remain largely unaffected from a tariffs perspective but there may be significant changes from an administrative perspective (such as the reintroduction of some customs controls). However, trade in services with the EU will have to operate under WTO rules. Under WTO services rules, the specific impact for businesses will vary depending on which sector they operate. Some sectors will see limited to no change whereas in other sectors there will be additional requirements and standards and even a prohibition of the provision of certain services between the EU and the UK.
If the ‘N. Ireland backstop’ kicks in, the UK cannot decide unilaterally to get out of it, rather the UK and the EU will have to reach a joint decision. If the EU and the UK cannot reach an agreement on whether the ‘N. Ireland backstop’ should cease to apply, then the dispute can be resolved through arbitration.
It is important to emphasize that if the future trading arrangement is concluded within the transitional period, the contentious ‘N. Ireland backstop’ arrangement will never come into force. In fact, given that there can be an extension on the transitional period for any number of years, it is unlikely that the ‘N. Ireland backstop’ will ever become a reality.
During the transitional period, the UK and EU27 will endeavour to finalise the agreement that will underpin their trading relationship after the end of the transitional period. Based on the political declaration on Outline of the Future Relationship which was published yesterday, it seems that the goal of the EU and the UK is to conclude a wide ranging but “classic” free trade agreement that will aim to cover goods, services and investment. The political declaration is thin on detail, but it appears that trade in goods will be based on an FTA which will ensure that there will at least be no tariffs or quotas, along with some degree of regulatory alignment with the EU. The wording of the political declaration is broad enough so as to allow for the inclusion of a Customs Union for goods as part of that FTA, which if adopted will limit the UK’s ability to engage in FTAs which cover goods with third countries. It is also encouraging that the scope of the future trading arrangement appears to cover services, including financial services and investment (although-again-the outline is thin on detail) and offers assurances that the agreement on the future relationship will offer liberalisation in trade in services which will go well beyond the UK and the EU’s WTO commitments.
EU ministers will meet early next week in order to approve the deal at EU level. If this materialises, the EU will call a Brexit Summit in order to finalise the deal-most likely on the 25th of November. The Agreement will then need to be ratified both at the UK (by the UK Parliament) and EU level (by the European Parliament and Council).
The most significant hurdle in that process appears to be the approval of the UK Parliament. Based on developments so far it does appear as if a number of Conservative MPs and the DUP will vote against the agreement, forcing the Government to rely on Labour support, which may not be forthcoming. Should the agreement be rejected or amended, this is likely to lead ultimately to a “no deal” Brexit, because the options are limited, these being:
- First return the deal to the EU-27 as amended, either asking for those amendments to be considered, or requesting an extension of the Article 50 period. The EU-27 will be reluctant to renegotiate with the U.K. Government based on Parliament’s amendments because it will have no assurance that the U.K. Parliament will approve a revised deal.
- Second, hold a General Election. With a fixed term Parliament, Conservative MPs will have to consent to dissolve Parliament and may be unlikely to do so if the threat from Labour is too strong.
- Third, hold a referendum which might ask the U.K. electorate to agree to the deal rejected by Parliament, or to change their view on Brexit. It could ask for a combination of these two options, or even ask more open-ended questions. The Government currently rejects any version of a second referendum.
What should businesses be doing
Given that there is still a possibility that negotiations would collapse and that the UK will crash out of the EU on 29 March 2019, businesses should keep preparing for a ‘no deal’ scenario. Given that there is a possibility (although remote) that the ‘N. Ireland backstop’ will kick in for a period of time after the end of the transitional period, businesses should also assess how they might be impacted during that period. Finally, businesses should continue to engage in lobbying activities, trying to influence the final shape of the agreement on the future relationship between the EU and the UK.