Brexit: considerable progress, but the hardest part is yet to come
Considerable progress was made in the Brexit negotiations over the last few weeks. Of course, this required much compromise, some from the European Union, but mainly from the UK, despite significant disagreement within the Tory party. On March 23, the EU published new guidelines for the future relationship, which show a desire to come to a more extensive free-trade agreement than was agreed with Canada (the CETA).
The probability of a cliff-edge scenario (i.e. no deal) on 29 March 2019 has diminished considerably following the recent agreement on a transition period. This risk has not, however, been eliminated. There are still difficult issues to be resolved, including the Irish border question, which is a source of major political risk. Furthermore, negotiations over the future relationship are only just beginning, and there are going to be divergences that will have to be smoothed out.
In our opinion, the latest developments suggest a marginal further increase in the probability of a soft Brexit. This will require the UK Government to further soften its red lines (notably on the question of belonging to an EU customs union). It is not out of reach.
What have the United Kingdom and the European Union agreed on?
On 19 March, the European Commission published a ‘coloured’ version of the withdrawal agreement reached by the negotiators at the end of the latest round of negotiations. This draft agreement uses a colour code to clearly distinguish those points on which both parties have now reached formal agreement, those on which there is political agreement but which need to be clarified over the coming weeks and, finally, questions over which there is, as yet, no agreement and discussions need to continue. The reality is that the United Kingdom has largely ceded to the EU’s demands on practically all points.
The main advances have been the translation into legal terms of the political commitments made when the preliminary divorce agreement was reached on 8 December 2017 (for more information, see Brexit: could Theresa May have paved the way for the UK to stay in the single market?). These concern the divorce bill and the rights of UK and EU nationals. The negotiators have also agreed on a transition period. Since this forms part of the final withdrawal agreement, it will have no real legal existence until the withdrawal agreement itself is ratified, in accordance with the principle that “Nothing is agreed until everything is agreed”.
The main characteristics of this transition period are as follows:
- In line with European Council guidelines, the transition period will be shorter than the United Kingdom was originally hoping for: 21 months rather than 24 months. It would thus run from 30 March 2019 to 31 December 2020, to coincide with the end of the EU’s Multiannual Financial Framework. The text makes no reference to any potential extension of this period.
- During this period, the United Kingdom will continue to enjoy all the benefits of the single market, the customs union (including, therefore, the benefit of the EU’s free trade agreements with third countries) and European policies, as though it were a full member of the EU. In this sense, it is therefore an agreement to maintain the status quo on matters of economics and trade. However, since it will become a third country with effect from 30 March 2019, the United Kingdom will no longer participate in the EU’s decision-making processes and will lose its right to vote in European institutions. It will nevertheless have to implement new rules entering into force within the EU during the transition period. In return, the EU has committed to be cooperative and act in good faith.
- The United Kingdom will have to meet the obligations associated with EU membership, just like any other Member State. Free movement of persons will therefore continue to apply throughout the transition period, as will the authority of the Court of Justice of the European Union (CJEU). The UK Government has also agreed that European nationals arriving during the transition period will be subject to the same residence regime as those who arrived before, rather than – as it had hoped – to the new migration regime.
- In return for all these obligations, the United Kingdom gains the privilege of being able to negotiate and sign trade agreements with third countries, though it will not be able to implement them until 31 December 2020. Negotiations with the EU over the future relationship will continue during this transition period, notably with the aim of finalising future trading arrangements.
Significant outstanding divergences
Michel Barnier has highlighted two points of divergence of the utmost importance: governance and the Irish question. Aside from the question of the rights of UK nationals, agreement must be reached on dispute resolution and the role of the CJEU after Brexit: will its judgments be binding after the transition and will British courts take into account CJEU case law once the transition period is over? Questions also remain over current police and judicial cooperation, with few points of convergence identified to date.
The Irish border question remains the main point of disagreement and source of concern. A solution appears impossible unless the British make a major strategic U-turn. As of now, the negotiators have agreed on a backstop solution consisting of keeping Northern Ireland inside a common regulatory area with the EU – i.e. de facto membership of the single market and the customs union – if a better solution is not found. Both parties agree that work must be done on other options before this final option is resorted to, either through the agreement on the future relationship or through ‘specific solutions’ to be put forward by the United Kingdom.
Why is the Irish border question so central, and why is agreement so hard to reach?
Resolving this question means reconciling conflicting political objectives and interests. It also has significant implications for the future relationship between the EU and the United Kingdom, the relationship between Northern Ireland and the Republic of Ireland and the integrity of the UK single market itself. In accordance with the Belfast Agreement, the UK Government has committed not to put in place a physical border between the Republic of Ireland and Northern Ireland and not to erect any regulatory barriers on the island, so as to continue to promote cooperation between the north and the south. At the same time, it wants to pull out of the customs union and the single market and control the movement of people, which implies putting in place a border between the United Kingdom and the EU.
To reconcile these two conflicting goals, in a speech on 2 March 2018 at the Mansion House. Theresa May proposed solutions which, while novel, are unrealistic. While no one wants a physical border between north and south, there are two options available to the UK Government: create a sea border in the Irish Sea, or soften the red lines and opt for a soft Brexit by staying in the customs union and even the single market, thus avoiding the need for such a border. Given the questions it is liable to raise over the UK’s integrity, the first option is an extreme one. The UK Government, whose parliamentary majority also depends on the Democratic Unionist Party, will seek to avoid it at all costs.
In our opinion, the only way for Theresa May to resolve this dilemma is for the UK to stay in the customs union and the single market; however, this would require a huge political effort to force Conservative eurosceptics to make compromises without triggering an internal political crisis that could bring down the government and trigger a snap election. In a way, this option is already baked into the preliminary agreement signed in December, in the form of a backstop political commitment (see Article 49 of the Joint Report of 8 December 2017).
Is further softening of the red lines possible?
Since the negotiations got under way, the UK Government has ceded to most of the EU’s demands (e.g. the sequencing of the negotiation process, the divorce bill, the rights of EU nationals, and the length and nature of the transition period) while withdrawing the threat of regulatory dumping and its preference for no deal over a bad deal. Theresa May has recognised the inevitability of continuing to rely on European legislation even after withdrawing from the CJEU’s jurisdiction, and the need to contribute financially to the EU budget in respect of certain key sectors and agencies in which she wants the UK to continue to participate. In our opinion, after paving the way for a soft Brexit in the 8 December agreement through the commitments she made on Ireland, Theresa May further softened her tone on 2 March when she spelled out her vision for the future relationship which, in sum, amounts to asking to maintain the status quo as far as possible in terms of access to the single market for goods and services. A system for the mutual recognition of regulatory standards has been proposed to minimise the economic cost, but was rejected by the EU.
The United Kingdom’s tendency to pull back from its red lines since the beginning of the negotiations has triggered neither a leadership contest within the eurosceptic wing of the Conservative Party nor a motion of no confidence, probably because the British people’s voting intentions are not particularly favourable to the Tories. In the event of a snap election, the most likely scenario according to polls is a pro-European coalition led by Labour. The Labour Party has recently softened its stance in favour of keeping the United Kingdom inside the customs union, and could block the bill on trade and the customs union when it is put before Parliament this summer. In the meantime, local elections on 3 May will serve as a full-scale test of public opinion and could add to the pressure on the Conservatives to ease back on their hard Brexit objectives if they lose pro-Remain constituencies.
The risk of ‘no deal’ has diminished but not disappeared
Failure to reach agreement this month would most likely have disappointed UK-based businesses, and would have triggered emergency plans and a deterioration in the business climate, which has thus far remained relatively buoyant. The publication of a legal text covering numerous aspects is good news. While complex issues remain to be resolved, the constructive tone adopted by both parties to the negotiations, keen to avoid the doomsday scenario of ‘no deal’, is also welcome. The United Kingdom is willing to make compromises to limit the economic impact of Brexit, but so is the EU, as demonstrated by the agreement not to impose tariff barriers on goods and the desire to work on a deal in financial services, which is more ambitious than the CETA deal with Canada.
However, the risk of ‘no deal’ has not disappeared. As Michel Barnier has reiterated, there is no legal certainty over a transition period at this stage of the negotiations: the transition forms part of the withdrawal agreement, which is not yet finalised and will have to be ratified by the European Council, the European Parliament and the UK Parliament from October 2018. Negotiations have reached a critical stage during which tricky decisions will have to be made (over Ireland and the future relationship) and difficult compromises are essential against a backdrop of considerable internal political division. As such, the political risks – including the risk of deadlocked negotiations, a leadership contest or a snap election – remain considerable and could even increase in the coming days. Brexit-related uncertainty thus remains significant, and is likely to continue to dampen the economic outlook.