Economic Impact

Economic impact

The economic impact of the UK leaving the EU with no deal – without a withdrawal agreement, transition period, framework for a future trade deal or ‘mini-deals’ in certain areas – is difficult to pinpoint with certainty, not least because there is no relevant precedent for a major developed economy leaving a large trading bloc, especially one as integrated as the EU’s Single Market and Customs Union. However, economic analysis and estimates can broadly highlight some of the likely consequences for the economy both in the near and long term.

5.1 No deal WTO scenario over long term

‘No deal’ would mean trade between the UK and EU economies being conducted under the terms of the World Trade Organisation (WTO). See section 6 for further information on trade.

Generally speaking, previous economic modelling exercises from the Government and others show that the higher the cost of trading with the EU (via tariffs and non-tariff barriers), the larger the negative impact on the UK economy. In other words, a scenario where the UK trades with the EU on WTO rules is likely to result in UK GDP being lower in the long term than a scenario where there are fewer barriers to UK-EU trade, such as in a comprehensive free trade agreement.

These ‘losses’ could be mitigated by improved UK growth prospects from trade deals with other non-EU countries and from other policy areas (such as growth-enhancing changes to UK regulation). However, the vast majority of economic studies in this area show that these potential benefits of leaving the EU with no deal do not make up for the higher trade barriers with the EU (given its importance to the UK).74

Government’s long-term economic analysis

One such study is the Government’s analysis of the long-term impact of Brexit on the economy, published 28 November 2018.75 It compares how big the economy is estimated to be – as measured by GDP – in five different future trading scenarios relative to a ‘baseline’ scenario of the UK staying in the EU. This is not a forecast as such as it does not look at all the factors that affect GDP, just those related to Brexit.

The five scenarios are:

  • Government’s proposed deal (‘Chequers’) – based on the Government’s July 2018 White Paper and its preferred option. In this scenario the UK is essentially in a customs union with the EU. Barriers to trade with the EU are fairly limited.
  • ‘Chequers minus’ – similar to the ‘Chequers proposal’ but incorporating greater trade barriers with the EU. Many commentators argue this is more in line with the parameters of the

74 Institute for Government, Understanding the economic impact of Brexit, October 2018 and OBR Discussion paper No.3, Brexit and the OBR’s forecasts, October 2018

75 HM Government, EU Exit: Long-term economic analysis, 28 November 2018

Political Declaration and therefore a more realistic outcome of a future UK-EU trade deal. • EEA (European Economic Area) – where the UK is a member of the EEA inside the Single Market (including free movement of people) but not in a customs union with the EU.

  • Free Trade Agreement (FTA) – a scenario where the UK and EU sign a free trade agreement. It is assumed there are no tariffs on goods and non-tariff barriers are equal to those in an average trade deal with the EU.
  • No deal – the future UK-EU trade relationship is based on World Trade Organisation (WTO) rules, rather than a bilateral trade deal.

The Government does not use the terms ‘Chequers’ or ‘Chequers Minus’, instead referring to a ‘White Paper’ scenario. The Government assessed all five scenarios listed above with two different migration assumptions, neither of which is Government policy:

  • No change to rules – this assumes the current projected flow of EEA workers with no policy changes.
  • Zero net migration from EEA – assumes that there is no net migration of workers from EEA countries.

Each of these scenarios is compared with a ‘baseline’ scenario of the UK remaining in the EU. The main outcome of the analysis is that the higher the barriers to UK-EU trade, the lower GDP is. This is in line with other studies examining the potential impact of Brexit on the economy.

The results show that of the five Brexit scenarios modelled, the Chequers outcome leads to the smallest long-term negative impact on GDP, compared with staying in the EU.

Under the more restrictive migration scenario, ‘Chequers Minus’ results in GDP being 3.9% lower – this figure has been used by some economists and commentators as the scenario closest to what is contained in the UK-EU Political Declaration.

[table omitted]

The biggest single influence on GDP comes from non-tariff barriers to trade. This includes regulatory and administrative requirements that make it more difficult for businesses to export and import goods and services.

The analysis also suggested that under all the scenarios the government budget deficit would be larger compared with staying in the EU in the long term. The deficit is expected to rise the most in scenarios that introduce the greatest UK-EU trade friction, ranging from an additional 3.1% of GDP in 2035/36 under a no-deal scenario with zero net migration of EEA workers to only a very slight (less than 0.1%) increase under a Chequers deal with no change to migration rules.

The Government’s analysis is broadly in line with other studies that estimate the long-term economic impact of Brexit.76 For more information on the Government’s analysis and comparisons with other studies please see the Library briefing paper, Brexit deal: Economic analyses.77

In summary, a ‘no deal’ scenario with no transition or future trade framework would, in the view of a large majority of economists, result in the UK economy growing more slowly than with other scenarios over the longer term.

5.2 Short-term impact of ‘no deal’

This section highlights some of the possible short-term economic consequences of ‘no deal’ and looks at the factors that may play a role in determining their impact.

Most research that has been conducted on the economic effects of Brexit have concentrated on the long-term implications rather than the short-term. This is because, somewhat counterintuitively, it can be easier to estimate the long-term impact.

Long-term analysis usually involves comparing different assumptions about an economy that is in its ‘steady state’; the ups and downs of the business cycle are not covered. Short-term forecasts are the kind that you see on a more regular basis, for example from the Bank of England and the Office for Budget Responsibility (OBR) at Budget time. The purpose behind them is to

76 Institute for Government, Understanding the economic impact of Brexit, October 2018 and OBR Discussion paper No.3, Brexit and the OBR’s forecasts, October 2018

77 Library briefing paper 8451, Brexit deal: Economic analyses, 4 December 2018

% difference in GDP level in 15 years compared with staying in the EU No dealFTAEEAChequersChequers minusNo change to migration rules-7.7-4.9-1.4-0.6-2.1Zero net migration of EEA workers-9.3-6.7n/a-2.5-3.9Chequers refers to the July 2018 White PaperSource: HM Government, EU Exit: Long-term economic analysis, Nov 2018UK long-term GDP impacts under different trade scenarios

try and predict what will happen to the economy based on recent economic performance and expected future economic and policy developments.

Forecasting short-term developments is easier when there are smooth economic conditions. Predicting how a sudden change – such as in a no-deal scenario – would affect the economy is very tricky. The high degree of uncertainty surrounding a no-deal Brexit adds to the difficulty. For example, we do not know the precise circumstances that would lead to no deal and how financial markets, businesses and consumers, among others, would react. However, there are some general points that can be discussed and analysed.

If the UK leaves the EU without any transitional arrangements or a framework for a trade agreement, the way trade between the UK and EU is conducted would change overnight. The UK would become a third country with regards to the EU. This is expected to result in the imposition of tariffs on UK exports to the EU and on EU imports to the UK.78 On average these tariffs are low, averaging around 3%, but for some goods, such as many agricultural products, they are higher.79

A potentially more disruptive consequence would be non-tariff barriers. These include additional administrative paperwork, customs procedures and checks (for example, relating to rules of origin), technical requirements and regulatory standards. For example, EU food safety law requires all meat products imported from countries outside the Single Market to be traceable to businesses that have been individually approved by the European Commission’s Food and Veterinary Office.80 In a no deal scenario, those approvals would not exist and therefore – barring any unilateral, and most likely temporary, derogation from that legislation for British products – UK lamb, beef and poultry exports could be refused entry into the EU from March 2019 onwards. The UK would also no longer be party to the trade agreements the EU has negotiated (see section 6.3 for information on trade with non-EU countries), unless bilateral agreements are reached between the UK and these countries.

The impact of a no-deal scenario stretches beyond those who import and export goods and services. From the transportation to the financial services sectors, ‘no deal’ would have implications for businesses.

Many economists expect the pound to fall in value in the event of ‘no deal’. If this did happen, the price of imports would rise, pushing up inflation (as it did following the EU referendum). In turn, the purchasing power of businesses and consumers would be squeezed. UK exports would become cheaper internationally, potentially moderating some of the effects of disruption to trading with the EU (depending on the extent to which they rely on imported goods and services, as these would have become more

78 On the assumption that the UK would not change its Most Favoured Nation (MFN) tariffs under WTO rules.

79 WTO, European Union tariff profile [accessed 17 August 2018]

80 See article 12 of the Official Controls Regulation (Regulation 854/2004). The legislation allows this requirement to be waived for a specific country, but this requires a proposal by the European Commission and the approval of a qualified majority of Member States. That derogation can also be limited in time.

expensive). In this scenario there is a risk that confidence could fall with investments being deferred or scrapped and consumers cutting back on their spending.

Bank of England’s short-term economic analysis

In response to a request from the Commons Treasury Select Committee, the Bank of England published analysis of different short-term scenarios relating to Brexit.82 This analysis, EU withdrawal scenarios and monetary and financial stability, was published on 28 November 2018.83 The report assesses how leaving the EU could affect the Bank’s ability to deliver on its objectives for monetary policy and for UK financial stability.

The Bank’s analysis looks at two broad Brexit scenarios involving: (i) a deal and (ii) no-deal and how these might affect the economy over the next five years (up to the end of 2023). Each of these scenarios themselves have two different variations within them.

Under the two “deal” scenarios:

  • In the “close relationship” scenario GDP would be 1¾% higher by end-2023 compared to current Bank forecasts.
  • In the “less close relationship” scenario GDP would be ¾% lower by end-2023 compared to current Bank forecasts.

Under the two ‘no-deal’ scenarios:

  • In the “disruptive no-deal Brexit” scenario GDP would be 4¾% lower by end-2023 compared to current Bank forecasts.
  • In the “disorderly no-deal Brexit” scenario GDP would be 7¾% lower by end-2023 compared to current Bank forecasts.

GDP and some other economic indicators are estimated for each quarter up to the end of 2023 for all four scenarios. The estimated paths for GDP are summarised in the chart below, produced by the Bank.84

81 UK in a Changing Europe, Cost of No Deal, July 2017

82 Treasury Committee, Letter from Mark Carney, Governor, Bank of England to the Chair on Brexit Analysis, 16 October 2018

83 Bank of England, EU withdrawal scenarios and monetary and financial stability, 28 November 2018

84 Ibid

The Bank’s analysis states that the worst case scenario of a disorderly no-deal would mean GDP falling by 8% at its lowest point, a greater decline than during the financial crisis. In addition, unemployment would peak at 7.5%, inflation would peak at 6.5% and sterling would fall by 25%.

Some economic commentators have questioned some of the assumptions the Bank used in this disorderly no-deal scenario.85 Criticism has focused on the assumption that interest rates would rise mechanically to 5.5% to combat the expected rise in inflation, despite a deep recession.86 The Bank in its defence notes that, given its role as in setting monetary policy and ensuring financial stability, it has a duty to look at a worst case scenario.87

Other studies

The National Institute for Economic and Social Research (NIESR) think tank published research in late November 2018 which provided estimates for 2023 that could be broadly compared.88 Estimates for a ‘deal’ scenario are broadly comparable between NIESR and the Bank of England. But under their respective orderly ‘no-deal’ scenarios, the Bank’s estimates show a larger negative impact on GDP than the NIESR’s.89

The OBR has warned about the possible disruption a no-deal scenario would cause, although it noted the high level of uncertainty:

… a disorderly exit is not impossible and it could have a severe short-term impact on demand and supply in the economy and on the public finances. UK asset prices could fall sharply which, together with heightened uncertainty, would cause households and businesses to rein in their spending. A fall in the pound would also raise domestic prices, squeezing households’ real incomes and spending. And there could be temporary constraints on supply if, for instance, a lack of customs preparedness led to significant delays at the border. It is

85 For example, Andrew Lilico, CAPX, “The Bank of England’s Brexit forecasts aren’t just wrong. They’re absurd”, 29 November 2018

86 For example: The Times, “Bank of England is being drawn into politics, says Andrew Sentance”, 6 December 2018

87 Treasury Committee, Oral evidence: The UK’s economic relationship with the European Union, HC 473, 4 December 2018

88 NIESR, The Economic Effects of the Government’s Proposed Brexit Deal, 26 November 2018. This study was funded by the campaign group People’s Vote.

89 Arno Hantzsche (NIESR), Twitter, 3.55pm 29 November 2018

 

next to impossible to calibrate this sort of scenario with confidence because of the lack of precedent.

UK in Changing Europe, in a September 2018 report on a no-deal Brexit, noted that due to potential disruption, “a severe recession, while not inevitable, is clearly a possibility”.91 However, the report stressed the uncertainty in such a scenario and noted how modern advanced economies can weather disruptions:

Again, however, note that the measured impact on GDP may be less than is suggested by the above discussion. One remarkable aspect of modern economies, at least in developed countries with strong institutions, is how resilient they are to short-term disruptions, whether the result of war, natural disaster or interruptions to trade flows.92

5.3 Factors that could influence the magnitude of the economic impact

Certain issues may influence the degree to which the economy is affected by a no-deal departure from the EU. A few are summarised in this section.

Preparedness

The more prepared the Government, businesses and the wider public are for no deal, the greater opportunity there will be for steps to be taken to limit the economic disruption caused. As noted in section 2.1 of this paper, the Government, like the EU, has published guidance to businesses and consumers on how to prepare for a no-deal Brexit. It has also stepped up its plans for a no-deal Brexit, including additional funding for government departments.93

However, due to the inherent bilateral nature of trade, the extent to which the UK can unilaterally prepare for disruption is limited. It has, for example, no control over how customs officials in France, the Netherlands and Belgium would treat UK imports in a no-deal scenario, and any delays in clearing freight moving from the UK to the EU27 could also disrupt traffic in the other direction. The Government’s no-deal planning also relies to some extent on the EU acting unilaterally to avoid disruption, but this cannot be guaranteed.

Timing

How long before Brexit day will it be known that ‘no deal’ will happen? At least in principle, the longer there is to prepare for it, the more that can be done to plan for and adjust to such an outcome.

In December 2017, the House of Lords EU Committee stated that the later a no-deal outcome is known, the more damaging it is likely to be:

It is clear that the later ‘no deal’ emerges as the outcome of the negotiations, the more damaging its effects will be. To hold out the

90 OBR Discussion paper No.3, Brexit and the OBR’s forecasts, October 2018, p98, para 5.15

91 UK in a Changing Europe, Cost of No Deal Revisited, 3 September 2018

92 Ibid.

93 HM Treasury, More than £2 billion Brexit preparation funding awarded to departments for a successful EU exit, 20 December 2018

 

prospect of a ‘no deal’ outcome until the eleventh hour, and even to suggest that the clock could be ‘stopped’ to allow negotiations to continue beyond that point, even when there is no obvious legal mechanism to do so, would be irresponsible. For one thing, it guarantees that uncertainty for business and citizens will continue, and even increase, as ‘Brexit day’ approaches.

How long ‘no deal’ lasts

Even in the event of a no-deal outcome, some form of deal may be agreed subsequently, even if it takes the form of a basic functional ‘bare bones’ deal. Even in the absence of a Withdrawal Agreement there may be some ‘mini deals’ ahead of the UK’s exit from the EU – for example in relation to air traffic rights – to avoid some of the most immediate disruption to transport and trade links.

There may be economic pressures for talks following no deal. Possible economic effects in the UK have been described above, but EU Member States could also be impacted to a lesser degree, particularly in Ireland.95

5.4 The financial settlement

The November 2018 Withdrawal Agreement sets out how the UK and EU will settle their outstanding financial obligations to each other. The matter was discussed during the first phase of exit negotiations under the heading of the ‘financial settlement’. The political agreement reached on the settlement was set out in the Joint Report between the UK and the European Commission.

The financial settlement was labelled in the media as the UK’s ‘exit bill’ or ‘divorce bill’. It is estimated that the settlement will cost the UK £39 billion by the time its final payment has been made, potentially in the mid-2060s. The Library briefing Brexit: the exit bill provides further details about what has been agreed and how the negotiations proceeded.

What has been agreed?

The agreement reached on the financial settlement stipulated that the UK would participate in the EU Budget as if it were still a Member State during the transition period (from March 2019 until 31 December 2020) and contribute afterwards towards existing financial commitments that remain outstanding at that point, including the pension liabilities of EU staff. The settlement also provides that:

  • the UK will over time wind up its financial involvement with the European Investment Bank (EIB) but remain liable for a share of any contingent liabilities that crystallise in relation to EIB lending that took place before 30 March 2019;96

94 House of Lords EU Committee, Brexit: deal or no deal, 7 December 2017, para 59

95 IMF, Euro Area Policies: Selected Issues, 19 July 2018, section on Long-term impact of Brexit on the EU

96 National Audit Office, Exiting the EU: The financial settlement, 20 April 2018, para 2.28

 

  • the UK will continue to participate in the European Development Fund, which is legally separate from the EU budget, until the current round ends at the end of 2020.

What is the legal status of the financial settlement?

The terms of the settlement will only become legally binding once the WA is ratified by the EU (by votes in the EP and Council) and the UK. If there is no withdrawal agreement, the political agreement reached on the financial settlement will not be legally binding.

Financial obligations if there is no deal?

There is uncertainty about what happens to the outstanding UK-EU financial obligations if there is no deal. It is likely that politics and the appetite for an ongoing EU-UK relationship will largely dictate the extent to which the two parties honour the agreement reached over the financial settlement.

The UK Government has recognised that it would have outstanding financial commitments to the EU if it were to leave without a deal and not honouring these could see the UK being regarded as an unreliable partner.98,99

In evidence to the House of Lords EU Committee on 29 August, Dominic Raab – the then Secretary State for Exiting the EU – said there was still a “question around quite what the shape of those financial obligations were” if the UK left with no deal, and that the UK “always pays its dues”. He did not say the UK would pay nothing, which some thought he implied when he said no deal would bring a “swifter end” to UK payments to the EU Budget. The financial settlement brings together a range of financial items, not just those that arise from the UK’s participation in the EU Budget. For instance, it sets out how the UK’s financial relationship with the European Investment Bank (EIB) will be wound up and how the UK will continue to contribute to the European Development Fund. Below we consider what ‘no deal’ may mean for some of the significant individual items included in the financial settlement, in the absence of any further political agreement.

UK participation in the EU Budget: legal aspects

Items in the financial settlement that arise from spending and liabilities agreed while the UK was an EU Member State include spending under the current long-term EU budget (the 2014 – 2020 ‘Multiannual Financial Framework’ or MFF), outstanding liabilities (largely those related to pensions) and contingent (as yet uncertain) liabilities, for example relating to the EU’s macro-financial loans to Ukraine, Georgia and Moldova.

The Lords EU Financial Affairs Sub-Committee considered the UK’s legal liability for these items if there is no withdrawal agreement in early 2017.100 Legal expert witnesses to the Committee had different opinions on the legal status of these items. However, the Committee concluded that under EU

97 See also the European Scrutiny Committee’s Report of 25 April 2017.

98 HC Deb. 3 December 2018 c570

99 Treasury Committee, Oral evidence: Budget 2018, HC 1606, Q290-292

100 House of Lords EU Committee, Brexit and the EU Budget, 4 March 2017

law, without a withdrawal agreement Article 50 TEU allows the UK to leave without being liable for outstanding financial obligations.

101 The Committee also concluded that individual EU Member States may seek to bring a case against the UK for outstanding payments under public international law, but also that “international law is slow to litigate and hard to enforce. In addition, it is questionable whether an international court or tribunal could have jurisdiction”.102

The Lords Committee said that the political and economic consequences of the UK leaving without making any payment “are likely to be profound”.103

The Institute for Government has also suggested that if the UK refused to make any payments to the EU, then redress may be sought through the International Court of Justice or the Permanent Court of Arbitration.104

In December 2018, the Attorney General set out the legal arguments surrounding the UK’s financial commitments if there is no ratified WA. He also offered his view on these arguments and addressed the wider political considerations:

The position on money is this. The view of the Government, and my view, is that we would have obligations to pay a certain amount of money were we to leave the European Union without a deal. The House of Lords European Union Committee concluded that there would be no obligation under EU law. That is a stronger argument—not necessarily an incontestable one—as to our obligations under EU law, but the Committee also concluded that we might have obligations under public international law, and with that I agree. There is an argument that we would not have an obligation under public international law, but it is an argument unlikely to be accepted by any international tribunal.

My view is therefore that we would owe a presently unquantifiable sum were we to leave the European Union without a deal. It is impossible at this stage to say how much. It is true that the European Union is not a member state and is not a state, and therefore it is unable to take the case to the International Court of Justice. It might therefore be difficult to enforce the public international law obligation that existed. However, I ask the House to reflect on the fact that if this country, acknowledging that such obligations probably exist or do exist, did not pay them, it would be likely to cause the deepest resentment, just as it would to any of us who were unpaid a debt. If we leave a club, we pay the bar bill. If we do not pay the bill, we are not likely to get a lot of consideration from the other side.105

Under the financial settlement, the UK would continue to be eligible to receive EU funding from the 2019 and 2020 EU Budgets as if it were still a Member State. Section 5.6 on EU funding discusses the impact of ‘no deal’ on this funding.

101 ibid., paras 135-137 and para 159

102 ibid

103 ibid

104 Institute for Government, The EU divorce bill, March 2018

105 HC Deb. 3 December 2018 c570

European Investment Bank

Under the European Investment Bank (EIB) Statute, the shareholders are the EU Member States,106 so it is likely that the UK will cease to be a member of the EIB, whether there is a ratified WA not. The financial settlement explains how the UK’s financial involvement in the EIB will be wound up. It sets out:

  • the schedule for the gradual return of €3.5 billion of paid in capital to the UK;
  • that the UK will provide a guarantee to the EIB equal to its callable capital (up to €39 billion) – an amount the UK currently agrees to provide if required. The UK will also provide a guarantee equal to the amount of paid in capital returned to it. The guarantees will decrease as EIB loans associated with it mature.

The UK has paid in €3.5 billion to the EIB, which the Bank leverages for its operations. It has also agreed that it will pay in up to a total of €39.2 billion if necessary (all Member States have made similar guarantees of varying sizes, in line with the size of their economies). If the UK ceased to be a shareholder, it would probably want to receive its €3.5 billion back immediately and stop bearing its share of the liabilities of the Bank’s outstanding loans, which would have a severe impact on the Bank’s operations. For its part, the EIB would probably want to keep this money, at least in the short term. Given that there is no clear process in the Bank’s Statute to deal with this situation, further negotiation and possibly legal action would be the likely result.

In July 2017, the UK’s position paper on the privileges and immunities enjoyed by EU institutions highlighted that the EIB uses its position as an EU agency to operate in the UK (and has lent considerable amounts to UK-based operations, such as the Northern Powerhouse Investment Fund). Without a deal, its ability to do so would cease, which calls into question whether these operations could continue to receive funding. It seems likely that a subsequent negotiation would have to take place between the UK and EIB to settle the matter.

UK participation in the European Development Fund

The European Development Fund (EDF) is the EU’s main instrument for providing overseas development assistance to countries in Africa, the Caribbean and the Pacific. For historical reasons, it is separate from the general EU Budget in a legal and accounting sense. The EDF is broken down over time into ‘EDF funds’. The UK’s spending through the EDF contributes towards its commitment to spend 0.7% of gross national income (GNI) on overseas aid.107

The financial settlement says that the UK will remain part of, and will contribute to, the EDF until the close of the 11th EDF fund in December

106 EIB, Statute and other Treaty provisions, 1 July 2013

107 For information on the UK’s aid target, see Commons Briefing Paper 3714, The 0.7% aid target: June 2016 update, 20 June 2016.

 

  1. The UK also has a share of the EDF’s Investment Facility. This funding will be returned to the UK as the investments end.

Each EDF fund is set out in a separate treaty – called an ‘internal agreement’ – outside the EU Treaties.108 Strictly speaking, the EDF internal agreements are not subject to the Article 50 process, so if there is no deal and the EU Treaties cease to apply in the UK after 29 March 2019 (postponed to 31 January 2020), the EDF internal agreements will not cease. This suggests that in the event of ‘no deal’ the UK’s legal obligation to make contributions to the EDF would persist in a legal sense, unless the UK can end its involvement in the internal agreements some other way.

Whatever happens, it is unlikely that the UK’s total spending on overseas aid will decrease. In 2016, £1.5 billion of the £13.4 billion spent by the UK on overseas aid went through the EDF.109 Continuing to meet the statutory target for UK overseas aid of 0.7% of GNI would necessitate channelling any spending no longer going through the EDF to other overseas aid programmes. It is reasonable to anticipate that about 10% of the UK’s 2019-20 aid budget will potentially be available for reallocation in the event if a no-deal Brexit. The UK is also considering seeking participation in the EU’s development programme from 2021 onwards – the Neighbourhood, Development and International Cooperation Instrument – although the legal parameters for any such involvement are yet to be decided by the EU.110

Politics and future EU-UK relations

Politics and the appetite for an ongoing EU-UK relationship are likely to dictate the extent to which financial commitments are settled if there is no deal.

For example, the UK Government has said that after Brexit it would like to participate as a third country in some EU programmes and agencies, such as the next research and innovation programme (Horizon 2020 is the current programme) and the European Defence Fund.111 If there is no deal it seems unlikely that the EU would allow the UK to participate in any of its programmes unless a financial settlement outside the Withdrawal Agreement can be agreed.

There are other areas where the UK would favour an ongoing relationship with the EU, and in the event of ‘no deal’, coming to an agreement on the financial settlement could help to facilitate such co-operation.

108 European Scrutiny Committee, Documents considered by the Committee on 25 April 2017, 28 European Development Funds

109 House of Lords Library Briefing, Brexit: Overseas Development Assistance, 6 February 2018

110 The European Scrutiny Committee reported on the UK’s post-Brexit involvement in EU development programmes on 12 September 2018.

111 The Government White Paper on the future relationship between the UK and the EU proposes continued UK participation in several EU programmes and agencies.

The Lords Committee concluded that “the political and economic consequences of the UK leaving the EU without responding to claims under the EU budget are likely to be profound”.112

EU and UK views on the financial obligations

The EU and UK set out their views on the financial obligations before and during negotiations on the financial settlement. Their opinions may offer some insight into how each might respond if the negotiated Withdrawal Agreement is not ratified.

Broadly speaking, the European Commission has repeatedly affirmed its view that the financial settlement is about ‘settling the accounts’113 – presumably without a ratified Withdrawal Agreement they would consider them unsettled. The Commission published a position paper on the principles of the financial settlement in June 2017, which went into some detail about individual obligations.

Since the referendum, the UK Government has stated its intention to negotiate a settlement “in accordance with the law and in the spirit of the United Kingdom’s continuing partnership with the EU”.114 The UK has also recognised that financial obligations between the two parties exist. The Prime Minster has said that “the UK will honour commitments we have made during the period of our membership”.115 As noted previously, the Attorney General has said that he believes the UK would have financial obligations to the EU if it were to leave without a deal, and if it did not pay them “it would be likely to cause the deepest resentment, just as it would to any of us who were unpaid a debt”.116

During the first phase of withdrawal negotiations it was clear that the UK and EU had different views on the legal position of the financial obligations being discussed. David Davis said the UK was convinced there was no legal obligation for most of it and that the UK viewed it as a political, rather than a legal, obligation.117

Close integration with the Single Market

If the UK-EU future relationship results in the UK remaining closely integrated with all or part of the Single Market, then it is likely that the EU will request a financial contribution to the economic development of the poorer EU Member States. Norway, Iceland and Liechtenstein, which are in the EEA but not the EU, contribute funding to the EEA grants as a condition of their participation in the Single Market. Norway also provides Norway

112 House of Lords EU Committee, Brexit and the EU Budget, HL Paper 125, 4 March 2017, paras 135-137

113 Speech by Michel Barnier at the press conference on the adoption of the Commission’s recommendation on draft negotiating directives, 3 May 2017

114 Prime Minister’s letter to Donald Tusk triggering Article 50, 29 March 2017, page 4

115 PM’s Florence speech: a new era of cooperation and partnership between the UK and the EU, 22 September 2017

116 HC Deb. 3 December 2018:c570

117 Lords Select Committee on the European Union, Uncorrected oral evidence Scrutiny of Brexit negotiations, 31 October 2017

 

grants. Switzerland, which is not part of the EEA, but has bilateral trade agreements with the EU, makesenlargement contributions.

The size of any contribution would depend on the extent to which the UK remains integrated with the Single Market. The Government has stated on many occasions that the UK will leave the Single Market. If the UK were required to make payments, it is unlikely these would go to the EU Budget – the EEA, Norwegian and Swiss programmes are managed by their governments.118

5.5 Funding from the EU

The situation regarding EU funding in the event of ‘no deal’ is uncertain, largely because the EU Treaties governing the administration of this funding were not written to take account of the possibility of an EU Member State leaving the Union. The consequences of the UK leaving without a deal are therefore unclear, and will likely only be resolved by further negotiation or possibly legal action.

The House of Lords EU Committee examined this issue in their report on Brexit and the EU Budget. They concluded that there may be different legal situations as regards ongoing funding from the different EU schemes, but that in general:

The legal rights of UK-based persons to continue to receive EU funding post-Brexit are uncertain, and the Government, in undertaking to meet outstanding obligations (such as CAP payments) from domestic funds, implies that it does not expect the EU to meet them.119

It appears, then, that the most likely outcome is that funding from the EU would stop at the point when the UK leaves, particularly if the UK made no further financial contributions to the EU. The UK Government has made some commitments around replacing this funding domestically, summarised in their no-deal guidance notice for EU-funded programmes.

Structural Funds

The main Structural Funds providing money to the UK are the European Regional Development Fund (ERDF) and the European Social Fund (ESF). Along with some smaller funds, these are set to provide a total of €17.2 billion to the UK over the period from 2014 to 2020; much of this has already been paid out, but there will still be some that will not have been paid if the UK leaves the EU in March 2019.

The ERDF and ESF operate by providing money to Managing Authorities (MAs) within EU Member States, which then distribute it according to operational programmes agreed with the European Commission. In England, Government departments act as the MAs,120 while the Scottish

118 Op cit, page 71

119 House of Lords European Union Committee, Brexit and the EU budget, 4 March 2017, HL Paper 125 2016017, paragraph 149

120 The departments in question are MHCLG (for the ERDF), DWP (for the ESF), and Defra and its subsidiaries for the EAFRD and EMFF.

and Welsh Governments and the Northern Ireland Executive perform this role in their respective countries.

If there were no deal, it is very likely that the EU would stop paying out money to the MAs. The UK Government has guaranteed all funding to organisations that secure funding from the EU up to the end of 2020, so even in the event of ‘no deal’ they would continue to receive this money.121

Direct funding from the European Commission

Some EU funding comes directly to the UK from the European Commission, generally for specific projects – research funding under the Horizon 2020 programme is one such example. In the event of ‘no deal’, this funding would be terminated – the EU made this clear in an announcement on its Research & Innovation Participant Portal website (emphasis added):

For British applicants: Please note that until the UK leaves the EU, EU law continues to apply to and within the UK, when it comes to rights and obligations; this includes the eligibility of UK legal entities to fully participate and receive funding in Horizon 2020 actions. Please be aware however that the eligibility criteria must be complied with for the entire duration of the grant. If the United Kingdom withdraws from the EU during the grant period without concluding an agreement with the EU ensuring in particular that British applicants continue to be eligible, you will cease to be eligible to receive EU funding (while continuing, where possible, to participate) or be required to leave the project on the basis of Article 50 of the grant agreement.122,123

The UK Government has promised to underwrite the payment of all Horizon 2020 awards to UK entities, even if such projects continue after the UK has left the EU; this will still be the case if there is no deal,124 and this guarantee also applies to all other directly-funded programmes up to the end of 2020.125 This does not, however, help researchers based in other EU countries who have partnered with organisations in the UK, and who might have to break that partnership.

Agricultural funding

The UK receives a large amount of support for its agricultural sector under the EU’s Common Agricultural Policy (CAP). This is mainly delivered through the European Agricultural Fund for Rural Development (part of the Structural Funds mentioned above) and the European Agricultural Guarantee Fund (EAGF), which is set to provide a total of €22.5 billion to the UK between 2014 and 2020. Defra reports that £3.4 billion in CAP payments was paid out to farmers in the UK in 2017 alone.126

121 HM Treasury, Funding from EU programmes guaranteed until the end of 2020, 24 July 2018

122 European Commission, Research & Innovation Participant Portal, 6 October 2017

123 The Article 50 referred to here is not the same one that the UK invoked to leave the EU; it is the article in the Grant Agreement signed by beneficiaries that allows either party to the agreement to terminate it.

124 BEIS, UK Participation in Horizon 2020, March 2018

125 HM Treasury, Funding from EU programmes guaranteed until the end of 2020, 24 July 2018

126 Defra, UK CAP Payments, retrieved 28 June 2018

Under any Brexit scenario this funding will stop as CAP membership is not available to non-EU member states. The Government has published an Agriculture Bill with measures for farm support after Brexit this funding will stop. In their 2017 manifesto, the Conservative Party pledged to maintain CAP funding at the same level in cash terms until the end of the parliament (expected to be in 2022);127 later Government announcements have confirmed this pledge. Farmers would therefore continue to receive funding up to this point; it is less clear how much funding would be available afterwards.

For more detail, see section 10 on food and farming.

127 Conservative Party manifesto, page 26, 18 May 2017

 

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