October 25, 2016
A Brexit plan B
Our hunch is that the Brexit negotiations will end with either a good agreement, or an acrimonious divorce without a deal. For us the biggest risk is that the EU member states will not be able to reach agreement among themselves, and that this would leave the UK without a deal.
So, to obtain a good deal, Theresa May will need to set out a convincing plan B - a hard Brexit scenario that is sufficiently scary for the other member states. Such a scenario would surely involve a lower pound - lower than today - tariffs on goods imported into the UK, and maybe, as the Sunday Times revealed, a corporate tax cut from 20 to 10%. Since the UK would, in this circumstance, no longer be subject to EU law, European state aid rules would no longer present an obstacle. The UK government could, for example, pay the tariffs for UK exporters and importers. Nobody ever wins these trade wars, but in a situation like this a hard Brexit plan is a useful negotiation tool because it reminds the other side that they, too, stand to lose.
Does a corporate tax rate of 10% make sense for the UK? We don't think so. Nor does the author of this article, who argues that it would damage the UK market system. Viewed in isolation that's a valid argument, but not in the context in which these tax cuts would take place. In a hard Brexit scenario, the government will need to find ways to compensate the losers. But it is a credible strategy.
While Angela Merkel still tries to maintain a tough line on the UK, Sweden is already softening. Ambrose Evans-Pritchard quoted the Swedish finance minister, Magdalena Andersson, as saying: "The softer the Brexit, the better." She expressed concern about the weak pound for Swedish exporters, for whom the UK is the third largest market. Andersson also said the initial anger in EU capitals over Brexit had faded - but she underlined that the EU cannot move away from the four freedoms.
We have not yet read the Vox survey on how EU member states will confront the negotiations with the UK, but this summary table in this article seems wrong to us. It suggest that Sweden and Germany will take a hard position on trade and finance. As we just heard, the Swedish position is already going to be softer. Our understanding is that this is true of Germany as well. Germany has no interest in a hard Brexit. Merkel will not sustain her current position beyond the start of the actual negotiations.