Thoughts on the Brexit debate

I’ve been asked a lot recently about my view on whether the UK should leave the European Union, which is the subject of a national referendum on June 23rd. I believe that in economic terms, there is very little that could be gained and a great deal to put at risk by leaving. On the non-economic aspect of our EU membership, I also believe it would be best to stay, and push for reform of what is now a badly malfunctioning organisation.

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I divide the question of Brexit (should Britain exit the EU?) into economic and non-economic factors. I hope to have some professional insights into the first but admit to no special expertise on the second, which is perhaps more subjective in any case.

The economic case

It’s rare to find a large majority of economists in agreement on anything to do with macroeconomics (though it’s quite common in microeconomics) but this is such a case. I think it’s fair to say that most academic, business and City economists believe that leaving the EU would put our economic prosperity at risk. (See this Royal Economics Society panel discussion as evidence).

The main issue is trade. If the UK leaves the EU it is unlikely that it would be able to negotiate a trade relationship with the rest of the EU and with other trading partners (currently covered by EU agreements) as good as the present one. There are other international trade agreements (such as the World Trade Organisation rules agreed by most countries) but these fall short of the current arrangement, which includes both full zero-tariff access and qualitative rules (such as product standards) which are particularly important for services, where the UK has a comparative advantage. The US has made clear that it would not be in any hurry to agree a new trade agreement with the UK to replace the one it has with the EU. Other countries are likely to have more important things to do. It takes years to negotiate these deals and the UK, having depended on the EU for forty years to negotiate on trade, lacks expertise.

So the best case is that we end up where we started. Far more likely is that we have a period, possibly 5-10 years, of inferior trade with the EU and with other countries. The worst case is that we permanently damage our trading position, perhaps made worse by a hostile EU (we would lack friends in the event of a vote to leave, plus the EU would have an incentive to punish us pour encourager les autres). Inward investment would likely suffer in both cases, possibly badly in the second case.

Those who want to leave often say that the UK should trade more with fast growing economies like China, not the sluggish EU. This is correct, and irrelevant. The European country that has done best out of trading with China is Germany. The UK doesn’t do much at present, partly because China buys relatively few services but that will change as the country becomes more prosperous. Longer term it may that the UK can do a lot more business with a wealthier China. It’s hard to see how being in or out of the EU has any influence on this, though China has made fairly clear that they would prefer us to stay (like virtually every other country whose opinion we might care about).

The other argument made is that by escaping EU rules and regulations (“red tape”) we could become more competitive and dynamic. But the UK is already one of the least regulated of EU countries, having opted out of some rules and choosing to offer exemptions (such as the working time directive which limits the working week, routinely signed away by employees in their contracts). The World Bank’s annual “ease of doing business” index places the UK number 6 globally, just after Hong Kong and just ahead of the USA. Germany, despite being somewhat more regulated than the UK (it’s ranked 15 by the World Bank) does very well. Even supposedly rule-stricken France (ranked 27) has a very similar level of GDP per head to the UK.

In fact the history of national income per head among the EU’s largest economies, shown below, shows that for most of the period since 1970 the UK, France, Germany and Italy were pretty much moving together. Spain started lower and caught up somewhat before falling badly in the Euro-crisis recession. Germany has parted company with everybody else in the last five years as it benefited more from globalisation. Italy has lost ground during the same period. The UK and France have been pretty much the same. The UK temporarily moved ahead because of the growth of finance in the boom ahead of the financial crisis. That lead has now evaporated (and was probably never really there). The two are now statistically almost distinguishable. So the UK could be Germany (perhaps) or it could be Italy. There is no reason why leaving the EU should help the UK boost its GDP per capita.

Source: OECD
Source: OECD

It only makes sense for the UK to cut regulations if it wants to be a low labour cost economy. That way lies ruin. We cannot compete with genuinely low cost countries. Even China now suffers off-shoring of manufacturing to much cheaper countries such as Vietnam and India. We can only compete on human capital, which we have in abundance but could use a lot more investment in.

We also need much better infrastructure, especially in transport. These are not very controversial claims, but if you want corroboration, look at the London School of Economics Growth Commission’s report. The theme was skills, infrastructure and innovation. These are critical to our future prosperity and the EU is largely incidental to how well we do them, as they are under British government control. Highly reputable international economists such as Barry Eichengreen (one of the most distinguished international financial scholars) and Simon Johnston (a former IMF chief economist and expert on economic development) also argue it would be a grave economic error for the UK to leave the EU.

The non-economic case

The non-economic case for Brexit is about the UK achieving greater sovereignty outside the EU. For many people the key is our ability to curb immigration, which is undoubtedly unpopular with a lot of people. Each is entitled to their opinion on this. I will say only the following. I agree with some limits on immigration but overall the UK benefits both economically and culturally from immigration, as it has for centuries. Any realistic trade deal with the EU post-Brexit would very probably require the same free movement of labour that we have at present so we can’t have the full benefits of trade and cut EU immigration.

On the wider matter of sovereignty, I believe it makes sense for a country the size of the UK to share decision making with others to common benefit, as we do through NATO and many other multilateral treaties. I don’t think that the EU constrains our decision making on most things that we care about, though the power of the European Court has become excessive and seems inconsistent with the general principle of subsidiarity (that decisions in the EU should be taken at the most local level possible).

But others may disagree and that’s fine. Given my strong view on the economic case, I think one has to have a very strong view on the non-economic benefits to justify the high economic risks of leaving.

I live in an unusually international small city (Cambridge) on the fringe of an unusually international large city (London). I think it’s fair to say both are among the best in the world at what they do. London, in particular, is a triumph of freedom, including a high degree of freedom of movement to and from abroad. That freedom has served the UK very well, both culturally and economically, for the last few centuries. Leaving the EU would, in my view, put at risk that freedom. It would also put the EU itself at risk, at a time when it’s already in a serious mess because of the Euro disaster and the refugee shambles. The UK has always had a strong interest in continental European peace and prosperity. So my last argument is that the UK should not risk pushing the rest of Europe further down a path of disintegration and potential conflict. On the contrary, the UK should truly be at the heart of Europe, fighting for the preservation of what is good about the EU and the reform of what is no longer working.

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