Brexit Briefing No.21

Brussels burst back into life this week as the city’s European institutions starting filling up after the Christmas break.

There were no Brexit negotiations this week but on both sides of the channel there were plenty of preparations for the talks that lie ahead.

In the UK there was a government reshuffle with the Brexit department gaining another minister. The Brexit Secretary of State, David Davis, and the Chancellor, Philip Hammond, travelled to Germany in an attempt to try to get financial services included in any future trade deal and a letter from October emerged in which David Davis warned the Prime Minister that the European Commission was preparing for a no deal scenario with significant restrictions on the ability of British companies to trade in Europe.

The letter leaked to the Financial Times highlights a difference between the two sides in preparation for a no deal scenario. Whilst the UK government has mostly reassured EU businesses and industries that they will still be able to trade in Britain, the EU has focused on encouraging / forcing the private sector to prepare for all scenarios by creating EU27 entities or operating licences. The EU has warned companies that any UK operating licence / certificate will automatically lapse on the 29th March 2019.

Cars

The reality of this inflexible approach is that it would have a significant negative impact on European industry. Taking the example of cars, many German cars are currently type approved by the UK type approval authority, the VCA, so in March 2019 you could have a situation where a British car is still fine to be sold in the UK but a German car cannot be sold in Germany. For critical products such as medicines and chemicals the Commission approach risks causing a crisis in the EU27 in spring next year. Even if the transition period agreement pushes this arbitrary deadline back to the 31st December 2020 that still does not necessarily give businesses enough time to prepare for (largely unnecessary) hoops to jump through. Whether national governments will take the same approach as the Commission when the deadlines get closer and their own national industries are under threat remains to be seen.

The Chancellor and the Brexit Secretary travelled to Germany this week and wrote a leader in one of the main German business papers appealing to industry and business leaders to help forge a pragmatic bespoke Brexit deal that includes financial services. This was described by one anonymous German official as like bringing a zombie back from the dead. The EU has previously stated that a bespoke deal for the UK was not possible, but it also said the same prior to previous agreements it has struck, such as with Switzerland and Ukraine. Most international agreements the EU has signed have been bespoke deals and the same will most likely ultimately prove to be the case with the UK as well. The EU has repeatedly called for greater clarity from the UK on what it wants from a free trade agreement (FTA), but the same could also be said of the EU; there has been no real explanation as to why the EU and UK cannot branch out beyond existing bilateral relations, and given the unprecedented situation of a major European economy leaving the EU the need for creative solutions is clear. Inclusion of services in free trade agreements has always been more politically challenging, with the focus being on removing so-called non-tariff barriers, always more difficult to define and eliminate than tariffs. However in recent years, as services have formed an ever larger part of the global economy, FTAs have seen increasing services provisions, including deals the EU struck with Canada and is negotiating with Japan. Financial services are obviously of particular interest to the UK, but London’s value to the EU should not be underestimated. It remains unrivalled a place to raise capital in Europe and at Eurozone finance ministers’ meetings concerns about the impact of any turning off the tap of access to London’s capital have been raised repeatedly. If it ever did happen, the replacement of London as a European and global financial centre by say, Frankfurt, would take decades to achieve. The prospect has also been raised of the UK making budgetary contributions to ensure continued financial services access. Michel Barnier has chosen his language carefully on financial services, whilst reiterating that UK firms could not have a ‘general passport’ to do business in the single market, he did indicate that the EU could treat some British financial regulation as equivalent to EU law, the core of the British government argument on much of the future EU-UK relationship. When starting at the same point, and with many similar goals in regulating, whilst there will inevitably be divergences, it makes economic sense for the UK and the EU to work together on recognising areas of equivalence in their economies.

Canary Wharf

Financial services also featured this week when Nigel Farage and Michel Barnier met on one of his visits to Brussels, and the two clearly did not see eye to eye. Mr Farage, who spent many months after the referendum in June 2016 arguing that Britain should just leave the EU as soon as possible on WTO terms, is now apparently persuaded of the need for a comprehensive free trade agreement. He came out of the discussion calling for Mr Barnier to compromise on services and financial services in particular, warning that if he did not a no deal scenario was possible. Whilst Mr Farage is just one of many European politicians Mr Barnier has met this week, and has no formal role in the negotiations beyond voting on the final deal in the European Parliament, the headlines from the meeting do show the continued interest in dramatic reporting of the Brexit discussions.

In that respect 2018 is likely to be little different to 2017, with much hard language, many mini crises, and a lot of talk of red lines and no compromise being possible, whether it be on market access or financial commitments. But despite all of that, in the end the most likely outcome is for an agreement to be found at the last possible moment.