Brexit negotiations: what happens if there is no deal and a “hard Brexit”?

Posted on 13 Feb 2017 by Brick Court

Professor Derrick Wyatt QC

Inquiry of the House of Commons Foreign Affairs Committee into the implications of a no-deal in the Brexit negotiations

The end of the two year period under Article 50 TEU for the UK and the EU to negotiate a withdrawal agreement prior to Brexit has been graphically described as the “cliff-edge”, because at that point the EU Treaties will cease to apply to the UK, even if no agreement has been reached. The Foreign Affairs Committee of the House Commons is conducting an inquiry into what happens if the Brexit negotiations produce a “no-deal”, and if the UK and EU fall over the cliff-edge into an “unplanned” and “hard” Brexit.  With Hugo Leith, of Brick Court Chambers, I have been preparing written evidence for the Committee, on behalf of the Bar Council. This written evidence will appear as one of the “Brexit Papers” published by the Bar Council Brexit Working Group.[1]

We gave oral evidence to the Foreign Affairs Committee on 7^th February.[2]

In this blog post I discuss four issues raised by the Committee at the hearing:

• Is “no deal better than a bad deal” and what is the worst case scenario for a future trade agreement?
• How disruptive would an unplanned hard Brexit be?
• Could the UK and the EU recover from an unplanned Brexit, and still conclude a withdrawal agreement and transitional arrangements?
• If the UK refuses to pay the exit bill demanded by the EU, could the EU sue the UK?

Is “no deal better than a bad deal,” and what is a worst case scenario for a future trade agreement?

The Government’s White Paper on the United Kingdom’s exit from and new partnership with the European Union (the “White Paper”) argues that the UK and the EU can reach a “positive deal” on a future partnership, but adds that “no deal is better than a bad deal”.[3] This led the Foreign Affairs Committee to ask its witnesses whether they agreed that no deal was better than a bad deal, and what a worst case scenario for a trade agreement would look like.

“No deal is better than a bad deal”

If the UK and the EU go over the cliff-edge, it will be because no agreement has been concluded within the two year time-limit. That is maybe all the Government means by “no deal is better than a bad deal” – it will not promise to accept whatever the EU is offering as the end of the two-year period approaches, solely to avoid the cliff-edge.

There will in fact be three “deals” under discussion, and an impasse over any one of them could block agreement on all three. “Deal one” will include the future residence rights of EU migrants in the UK, and UK migrants in the EU, and will cover the UK share of relevant EU expenditure, including pension liabilities considered linked to UK membership of the EU.

“Deal two” will include a potential transitional period. The Government refers to a “implementation period”, but this period will almost certainly include a transitional period of continued trade on single market terms, or something close to that, while the UK and the EU continue to negotiate the details of a future trade agreement. Working out the details of a transitional period might not be straightforward. If the UK wants something close to a continuation of trading on single market terms, the EU might say that that transitional period must involve all the obligations which would attach to continued EU membership, apart from participation in the Commission, Council, and European Parliament. The UK might be looking for something less than that. There might well be a deal to be struck, but it might take time.

“Deal three” will almost certainly be limited to the outline of a future trade agreement. The White Paper says “we want to have reached an agreement about our future partnership by the time the two year Article 50 process has concluded” (emphasis added). If this means the Government anticipates full agreement on the future trade agreement within the two year period, that sounds over-optimistic, though agreement on the outline of a future trade agreement would fit with the reference in Article 50 to the “framework” of the UK’s future relationship with the EU, and seems achievable.

An impasse in negotiations over any one of these three deals could block all three, not least because negotiations are likely to proceed on the basis that nothing is agreed until everything is agreed. An impasse over the amount of UK liabilities might well arise because the UK and the EU are too far apart on the amounts said to be involved, or on time to pay. In these circumstances the EU could insist that if there is no deal on the money, it will not agree to a transitional period.

There could also be an impasse over even the outline of a future trade agreement. In the Lancaster House speech on the Government’s Brexit negotiating objectives,[4] the Prime Minister says that “[w]e do not seek to hold on to bits of [EU] membership as we leave.” But both that speech, and the White Paper, confirm that the Government will seek “a new comprehensive, bold and ambitious free trade agreement…. [which] may take in elements of current Single Market arrangements in certain areas” (emphasis added). In the Lancaster House Speech, the Prime Minister revealed that the single market arrangements could apply to “the export of cars and lorries for example, or the freedom to provide financial services across national borders.” It seems that the Government is aiming for trade in some goods and in a key services sector on something close to a single market basis. As the White Paper says “it makes no sense to start again from scratch when the UK and the remaining Member States have adhered to the same rules for so many years.” Indeed. But the EU might initially respond that this an agenda of “cherry-picking” in thin disguise, which could only be accommodated if the free movement of persons were to figure in some shape or form in the negotiations. That might cause an impasse, unless the EU accepted that any negotiations on the free movement of persons would have to be reconciled with the commitment in the White Paper to “control over the number of EU nationals coming to the UK” (I think that the two could be reconciled but that is for another day).

That is how the UK and the EU might find themselves falling over the cliff-edge – locked in argument over a range of linked issues, and being beaten by the clock. I regard this as a possibility rather than a likelihood, but it is a sufficiently credible possibility to be worth thinking about and planning for, which is what the Foreign Affairs Committee is doing.

What is a worst case scenario for a future trade agreement?

If things were to turn out in this way, the UK and the EU might not have reached a very advanced stage in their trade negotiations, and it might not be clear what a worst case scenario might have looked like. The question, though, remains one worth asking. And identifying a potential worst case scenario for a future trade agreement might not be as daunting as it sounds, provided that the question is asked at a fairly general level.

The difference between a best case scenario and a worst case scenario will probably depend on the degree of UK access to the EU financial services market.

It is difficult to see many obstacles in the way of an agreement between the UK and the EU as regards tariff-free trade in manufactured goods. The EU has numerous agreements with third countries providing for tariff free trade in manufactured goods. If that were all that had to be agreed, the Government’s timetable would probably be safe. But there could be differences between the UK and the EU as regards trade in agricultural products, and it is possible that the trade agreement which the UK seeks could end up including tariffs and other restrictions on trade in some agricultural products. A report for the NFU identified this possibility for trade in sheep/lamb meat, but pointed out that the EU runs an overall trade surplus with the UK in agricultural products, and that there would be strong incentives on both sides for tariff-free trade in agricultural products.[5]

It would be in trade in services, and in particular financial services, that a bad outcome could diverge significantly from a good outcome. The best case scenario would reflect the aims of the White Paper, with elements of the single market being retained, including (through one means or another) the passporting of UK based banks and other financial services providers, enabling them to continue providing services in the EU directly or through branches, and without the need for capitalised and regulated subsidiaries within the EU. The worst case scenario would be no such passporting. UK based financial services providers would have to conduct their EU-facing business through subsidiaries capitalised and regulated in the EU. That would not be a good outcome. Jobs would be moved from London to financial centres in EU countries. Many of the jobs in question would be highly paid, and the personnel concerned would pay taxes which had previously been paid in the UK, in Germany, Luxembourg, or France.

 

How disruptive would a hard Brexit be?

The discussion at the Foreign Affairs Committee hearing was mainly on the disruption to trade which would result from an unplanned hard Brexit, but in our written evidence we examine in detail the potential impacts for migrants, tourists and consumers. EU migrants in the UK and UK migrants in the EU would face uncertainty as regards their rights to reside, work, and receive health care and state pensions. The rights of tourists to use their European Health Cards would come to an end, visa-free travel could be called in question, and the era of high roaming charges could return. We also consider the impact of unplanned Brexit on the role of EU agencies which currently figure directly in the UK regulatory framework, and whose separation from the UK market could lead to regulatory gaps.

But an unplanned or hard Brexit would undoubtedly have an impact on trade, and it is difficult to see how that impact could be anything but negative. An unplanned Brexit would mean a Brexit without a transitional trade arrangement having been put in place, since it would have been the withdrawal agreement that would have provided for such an arrangement. It would also mean that there would be no future trade agreement in place, because that could only be concluded after Brexit. The only option in the immediate aftermath of an unplanned Brexit would be to trade on WTO terms. This might indeed bring in some welcome tax for the Exchequer (as the Chairman of the Foreign Affairs Committee pointed out at the hearing), but that would be but a silver lining to clouds which would certainly gather over some UK exporters, importers and consumers.

Although tariffs expressed as a mean average are low, they do vary from sector to sector. Imports and exports of cars would face 10% tariffs, and the confidence of inwardly investing manufacturers would be shaken. Last year Nissan UK announced that the future of its investment in its Sunderland plant would depend on the outcome of the UK’s Brexit negotiations.[6] The Government responded that its objective in negotiations would be to ensure continued UK access to the markets in Europe and vice versa without tariffs and without bureaucratic impediments.[7] Trade on WTO terms with the EU would on any view be a blow to the expectations of those inwardly investing manufacturers which had chosen the UK as an investment destination because it was a tariff free and paperwork free gateway to the EU market.  No doubt considerations such as this explain the Prime Minister’s reference in her Lancaster House speech to retaining single market arrangements for trade in cars between the UK and the EU. Any other outcome would be damaging to the UK economy.

Tariffs on some agricultural products are high, and UK farmers exporting meat and dairy products would face tariffs of 30%-40%. Trade in both directions between Northern Ireland and Ireland would be hard hit, and such high tariffs would challenge the determination and ability of the Irish and UK governments to maintain their open border policy. There is no doubt the UK would make every effort to maintain the status quo and avoid any semblance of a “hard” border, as would Ireland, but Ireland would not be a free agent, having to account to the EU for its collection of tariffs on UK exports to Ireland, 80% of which would amount to “own resources” of the EU.[8] It is true that tariff-free trade in agricultural products under a future trade agreement could not be guaranteed, but the outcome of negotiations for such an agreement would surely be better than the WTO status quo.

And there would be damage to trade in financial services. Trade on WTO terms would mean the loss of passporting rights for UK financial services providers, because such rights are available under EU single market legislation, but would not be guaranteed under WTO rules. It true that this loss might occur in due course anyway, since there is no guarantee that a future trade agreement between the UK and the EU will provide for passporting, and indeed, no EU trade agreement with non-EU countries has to date done so. But Brexit after the conclusion of a withdrawal agreement would be more likely to bring with it a transitional arrangement prolonging the period during which UK financial operators could rely on their passporting rights.  This would allow the UK a breathing space to seek to negotiate passporting rights in the long term, either based on current single market arrangements, or on existing  “equivalence regimes,” or on new regimes described by TheCityUk as “building on and going beyond the existing equivalence regimes…”. [9]  A hard Brexit would mean that a UK bank or other financial operator relying on passporting rights to carry on cross-border business in the EU, would lose its ability to carry on that business, unless it set up a subsidiary which was capitalised and regulated within the EU. Financial services providers would safeguard their positions by carrying on their EU-facing business through subsidiaries in the EU, and many are making contingency plans to that effect. The position would be the same as in the worst case scenario referred to above – jobs would move from the UK to the EU, and the personnel concerned would pay taxes which had previously been paid in the UK, in other EU countries. All that sounds like a significant and ongoing disadvantage to the UK economy. If it can be avoided without disproportionate cost, it surely should be avoided.

 

Could the UK and the EU recover from a hard Brexit?

What are the limits of Article 50?

If the UK and the EU fell over the cliff-edge, that need not be end of negotiations. The shock for the UK and the EU of Brexit without a withdrawal agreement, and without a future trade agreement, could lead to renewed attempts to deal with outstanding issues, including international arbitration on outstanding issues of post-Brexit liability (though that would be unlikely), and the putting in place of a transitional trade agreement.

There might be any number of reasons why Brexit might occur without a withdrawal agreement having been put in place. One possibility would be delay in formally concluding an agreement which had been reached in principle. The European Parliament might delay in giving its consent, which would in turn prevent the Council concluding the withdrawal agreement. A delay on the UK side could not be ruled out. On this hypothesis, Brexit might occur because of the lapse of the two year period specified in Article 50, but a withdrawal agreement might shortly follow, putting in place a transitional period, and allowing negotiations on a future trade agreement to go forward, and/or preparations for a smooth transition to the future trade agreement.

The above scenario (a withdrawal agreement and transitional arrangement concluded shortly after Brexit) raises a technical legal question, which could have some political consequences. Would Article 50 remain available as a legal basis for the EU to conclude a withdrawal agreement with the UK after Brexit? The conclusion of an Article 50 withdrawal agreement requires (on the EU side) a super qualified majority vote in the Council and the consent of the European Parliament. That is not to say that the EU could not find any other legal basis to conclude a withdrawal agreement which included a transitional trading arrangement, but such a basis might require unanimity in the Council (depending on the content of the agreement, including its transitional arrangements), and it might be a mixed agreement, requiring the individual consent of all Member States. If Article 50 remained applicable, it would certainly simplify the process of recovering from an unplanned hard Brexit.

Of course, Article 50 would only simplify the process if it itself were immune from the doctrine of “mixity”. But might a withdrawal agreement made under Article 50 be characterised as a “mixed” agreement, requiring the consent of national parliaments, as well as a vote in Council and in the EP? The answer is almost certainly “no”: Article 50 bestows an exclusive competence on the EU to conclude all arrangements incidental to the withdrawal of a Member State from the EU, including transitional arrangements to ensure smooth transition to a future trade agreement, even if a trade agreement of that kind with a non-EU country would otherwise require the participation of all individual EU countries as well as the EU. If a withdrawal agreement containing transitional arrangements could be regarded as a mixed agreement, there would be no certainty that transitional arrangements could fulfil their purpose of ensuring a smooth transition to a future trade agreement, since there could be no certainty as to when the agreement might be concluded, or come fully into force. The better view is that Article 50 bestows exclusive competence on the EU in all matters relating to the withdrawal of a Member State, and leaves no room for the doctrine of mixity.

Article 50 might continue to be applicable, even if a withdrawal agreement has not been concluded at the time of Brexit. There is nothing in Article 50 which expressly rules this out. And it might seem arbitrary that a delay in concluding a withdrawal agreement, by even a matter of days, could be said to remove the power of the EU to act under this provision, which has been designed to make provision for all the nuts and bolts of the withdrawal process. It is true that if agreement were within reach, a unanimous decision of the Council could authorise the extension of the two year period specified in Article 50. But one or two EU countries at risk of being outvoted under the Article 50 procedure might refuse to extend the two year period, in the hope of putting the withdrawal agreement, and the transitional arrangements, onto a footing which might require unanimity in the Council, and perhaps the agreement of national parliaments. The possibility that Article 50 could continue to provide a legal basis on the EU side to conclude a withdrawal agreement and a transitional agreement, after Brexit, could have its attractions on both side of the negotiating table, and should not be ruled out.

What if there is an impasse over the UK’s liabilities to the EU – can the UK just walk away? Can the EU sue the UK?

One reason for an unplanned Brexit might be an impasse in negotiations on the terms of the withdrawal agreement. There have been press reports that the EU might claim a sum of €60 billion from the UK in respect of EU commitments for which the UK is alleged to be responsible. The EU might claim amounts from the UK which the UK regards as unacceptable, and/or a timescale for payment which the UK regards as unacceptable.

One question the Foreign Affairs Committee asked was whether the UK could simply walk from the negotiations, leaving the EU with a problem, but not the UK. The Committee also asked whether the EU could sue the UK. There is certainly no international court with compulsory jurisdiction over such a dispute between the EU and the UK. EU law does not bind the UK after it has left the EU, and EU law is not determinative of the liability of the UK for alleged liabilities which arise because the UK has withdrawn from the EU. The legal basis for any claim by the EU against the UK would be public international law. Rules and principles of public international law on state succession would be relevant, at any rate by analogy, but the law applicable must be regarded as unsettled. If I had to suggest a principle that might arguably be said to apply, it would be that the amount of any UK liabilities should be settled by agreement, and in the absence of agreement UK liabilities are to be determined on an equitable basis.

It is possible that the UK and the EU might seek to break an impasse over UK liability by submitting the issue to arbitration. This might be done before Brexit by a provision in the withdrawal agreement. I think this is fairly unlikely. In the first place, the dispute would be wholly or mainly an argument about amounts or a timescale for payment. In principle, public international law would govern the arbitration. But there would be no precise legal rules in play, and a submission to arbitration might smack of being a submission to the arbitrators’ political judgment, though this might be avoided or mitigated if the UK and the EU specified the criteria to be applied by the arbitrators. Arbitration could also pose technical legal problems on the EU side. The EU could submit the question of the UK’s liabilities to arbitration, but it could not submit issues of EU law to arbitration – that would be incompatible with the exclusive jurisdiction of the EU Court of Justice (see e.g., Article 344 TFEU). While the UK’s liability would be governed by international law, the assessment of that liability would involve consideration of the UK’s participation in EU procedures, and EU rules relating to the multiannual financial framework, and the pensions of civil servants. The drafters of any agreement between the EU and the UK to submit UK financial liabilities to arbitration would have to ensure that it respected the exclusive jurisdiction of the EU Court of Justice.

While the above considerations tend to argue against arbitration, the possibility of arbitration cannot be ruled out. It might be the only way of breaking an impasse over quantum and/or time to pay, and moving on to other issues, such as activating transitional arrangements, and designing a future trade agreement.

What is more likely is that the pressure caused by an unplanned hard Brexit would concentrate the minds of both the UK and the EU and produce an agreement on severance liability, and a transitional arrangement.  Unplanned Brexit could lead to a short, sharp shock, rather than a lengthy period of economic dislocation and political acrimony.

[1] http://www.barcouncil.org.uk/media/508513/the_brexit_papers.pdf

[2] http://www.parliamentlive.tv/Event/Index/a68f391f-589d-4a45-8cc6-ff6e6a4e0eb7

[3] https://www.gov.uk/government/publications/the-united-kingdoms-exit-from-and-new-partnership-with-the-european-union-white-paper

[4] https://www.gov.uk/government/speeches/the-governments-negotiating-objectives-for-exiting-the-eu-pm-speech

[5] http://www.nfuonline.com/assets/61142

[6] https://www.theguardian.com/business/2016/aug/05/nissan-warns-sunderland-uk-car-plant-hinges-brexit-talks

[7] https://www.bloomberg.com/news/articles/2016-10-30/nissan-was-given-assurance-u-k-to-seek-tariff-free-brexit-deal

[8] http://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32014D0335&from=EN

[9] https://www.thecityuk.com/assets/2017/Reports-PDF/Brexit-and-UK-based-financial-and-related-professional-services.pdf

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Brexit – the judges speak

Posted on 01 Feb 2017 by Brick Court

On Monday 30th January 2017 Brick Court Chambers and The Times presented a panel discussion about the Supreme Court’s judgment in the Miller Article 50 case.

The debate was chaired by David Aaronovitch of The Times, with panellists:

• Michael Gove MP
• Theresa Villiers MP
• Sir Richard Aikens
• Dominic Grieve QC MP
• Joanna Cherry QC MP

Each panellist spoke individually and a lively question and answer session ensued.

Watch the debate here.

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