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April 10, 2019

EU first needs to decide what it wants from an extension: 2nd ref or ratification

There is really quite a bit of confusion in the news reports coming from Brussels last night and this morning. When EU leaders meet today, they will not mechanistically go through a series of dates. They will rather discuss what an extension should accomplish: do they want to put pressure on the UK parliament to ratify the withdrawal agreement; or do they want the UK to revoke Brexit, pending a second referendum? The best way to secure ratification, in our view, would be to agree a relatively short extension - until end-May or end-June, and to declare that extension final. That would take out all the Cooper-Letwin nonsense and other attempts to sideline the actual choice. It would force the UK parliament to focus on the three options that really are on the table: ratify, revoke or leave without a deal. 

Donald Tusk has never left any doubt that he wants the UK to cancel Brexit. Hence, his idea of a one-year extension. We presume that the leaks came from his office. But we know for sure that this is not everybody’s position in the European Council. There are huge risks for the EU in a second referendum, most notably the risk of another pro-Brexit vote and the certainty that the UK will continue to dominate the EU’s agenda at a time when it should really be thinking about something else. Furthermore, by agreeing a long extension, EU leaders are very likely to take away the incentive for the UK government and the Labour Party to agree a deal, because the second-referendum supporters would no longer feel obliged to seek a compromise. 

The EU is not only misjudging the potential outcome of a referendum, but also the debate likely to precede it. A second referendum is almost certain to confound two issues: Brexit and democratic legitimacy. We know of Remainers who are so revolted by the idea of a second referendum that they would support Brexit out of spite. Whatever the outcome, we don’t think it would settle the issue.

This consideration alone should persuade EU leaders to think through the scenario of a long extension more carefully than they have so far. We don’t know for sure how long Theresa May will survive. Maybe until the autumn. If she does not deliver Brexit by December and is still prime minister then, she will surely be ousted in a vote of confidence by her own party. A new Tory leader will be in place by early 2020 at the latest. The EU would then rely on that leader to deliver Brexit.

There is talk of an agreement between May and the European Council that the UK would exercise self-restraint during the extension period. But the European Council cannot bind her successors. It cannot override treaty law. Until it leaves, the UK will remain a full voting member at the Council. 

A non-binding gentlemen’s agreement is certainly possible, but do EU leaders really believe that a future UK prime minister who openly advocates a no-deal Brexit would adhere to such an agreement? All Boris Johnson would need to do to trigger a no-deal Brexit would be to misbehave. The proposition of a gentlemen’s agreement seems ill-conceived to us, drawn up deep inside the European Council by people without a deep understanding of UK politics.

We have no doubt that Theresa May would adhere to anything she agrees with EU leaders, which is why the European Council should treat the foreseeable limit of her political life span as the outer date for a brexit extension. It is not clear that she can survive the summer. If the results of local and European elections next month turn out to be a rout for the Tories, the pressure on May to resign might become intolerable. 

So what should the European Council do? There have been a lot of leaks yesterday about the extension date - most of them pointing towards a long extension. A German journalist, Stefan Leifert from ZDF television, writes the discussion will focus on three extension dates: end of this year, end-March 2020, end-December 2021. The latter would have the advantage of coinciding with the EU’s budget period - a shockingly trivial reason considering what is at stake. We are not sure that this timetable would survive the actual discussions among leaders. 

We noted a brave prediction by the UK journalist Robert Peston who has been told that the EU is more likely to grant a short extension, since the current process of cross-party talks in the UK does not need more time. We all know that May will offer Labour a customs union, but she cannot do this right now. Maybe she will make a move after this week’s European Council.

It is possible of course that leaders are betting on a conclusion of the Brexit process after another UK election. May will be gone by the end of the year. But be careful what you wish for. An election remains vastly more probable than a second referendum. Under Jeremy Corbyn as leader, Labour will maintain its current Brexit stance - a customs union. The Tories could pivot towards a no-deal Brexit. We are not sure that the new centre party, campaigning in favour of a second referendum, will win many seats. The elections will thus offer the electorate an effective choice of customs union versus no deal. Why would EU leaders want to get to this point?

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April 10, 2019

All signs point to major transatlantic trade conflict

We now expect the EU to be next on Donald Trump’s list of targets for a major trade conflict. German car makers in particular should brace for a hit, with all the risks this entails for the German and eurozone economies. There is every reason to believe that Trump's tweet yesterday is just a prelude to the opening of the real hostilities. He announced the US "will now put tariffs on $11bn of EU products" - a retaliation for Airbus subsidies which is massively-overblown and flaunts WTO rules.  

Seen from Trump’s perspective, the material point is not that the EU has been irritatingly slow in agreeing its negotiating mandate for the promised new trade talks with the US, with Paris finally lifting the last objections. What clears the deck for a proper trade war with the EU is the near-certain fact that the US trade conflict with China is about to be wrapped up with a deal. Trump, who is back in full rabble-rousing campaign mode to prepare for his 2020 re-election, is already selling a China deal to his cheering supporters as his personal triumph. The US president makes no secret of the fact that the EU, the trading bad guy, will soon be brought to heel as well by the superior will and savvy of one Donald Trump. With Trump struggling badly to fulfil his promises on curbing immigration and building the southern border wall, strutting the stage as an active trade warrior becomes a vital electoral priority. The figure of $11bn in retaliatory US tariffs against Airbus subsidies is almost secondary, set against the size of the trade conflict that now looms.

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April 10, 2019

Montenegro - how China deals in Eastern Europe

The Telegraph looks at Montenegro as a cautionary tale of China’s Belt and Road project in Europe. Six years ago this small mountain country in the Balkans agreed to build a 165km stretch of highway to connect a port on the Adriatic coast to neighbouring Serbia in the north. Montenegro's first highway was billed as a project of hope for a better economic future. 

Today, the highway is only a third of the way through, ending nowhere, while the state is struggling under the weight of the Chinese loan it had to take to finance this first stretch. Its debt-to-GDP ratio has soared to 70% and the government had to increase taxes and electricity prices, cap public-sector wages, and end a benefit for mothers to counter the cost overruns due to construction delays. 

Eastern European countries are mostly receiving loans from China instead of direct investment. Only 1.5% of all Chinese direct investment in the EU goes to this region. With no financial capacity to finish the highway, Montenegro ended up trying to renegotiate the terms of the contract with China. 

The government is looking to bring in an external partner to finish construction, and then to operate the highway under a decades-long contract with the state to recoup their investment. China Road and Bridge Corporation, the state-owned enterprise which worked together with the Montenegro counterpart for the first section of the highway, unsurprisingly agreed to finish the project this way. But experts warn that it will take more than 10 years to recoup the costs of this project. 

Supporters of the project in Montenegro are still enthusiastic, expecting it to bring tourism and business to the region. But Montenegro's example should prompt other countries to consider their investments under China’s Belt and Road project more carefully, says Thomas Eder, a research associate at the Mercator Institute for China Studies in Berlin. 

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