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January 31, 2020

After Brexit EU urgently needs to address core vs non-core separation

It’s been our policy to ignore anniversaries, the commemoration when something started, when it ended, and sometimes the bits in between. Nor do we mark the moment - as they say in the newspaper business. 

We would like to make an exception today and devote the entire issue to Brexit, looking forward and focusing on the EU itself. 

The upcoming discussion on the future of the union offers an opportunity to confront demons and do some deep thinking on why Brexit happened. Our first concrete set of questions is whether the division of the EU into a eurozone and non-eurozone played a role; also whether it can be sustained and, if not, whether to organise a new relationship between the two parts.

The non-sustainability of the eurozone as a core within the EU has been one of our central themes since we started in 2006. The eurozone is not a club within a club, as a British colleague of ours once put it. The eurozone is either the kernel of a future federal union, or the seed of the EU's destruction. We see Brexit as a reminder that the latter is possible. It is the consequence of continuously kicking the can down the road. The Merkel mentality, which turns non-resolution of problems into an art form, has its superficial attractions. But it is poisonous for the EU in the long run. The eurozone/non-eurozone divide needs fixing. So does the eurozone itself. Both fixes need to happen in parallel. Only when this is fixed will the EU be able to do all the other urgent things it needs to do, like defending its interests against those of the US, China or Russia.

The reason we prioritise the ending of the eurozone/non-eurozone divide is that members of the eurozone, as a group, have different strategic interests. These in turn will inform their policy choices in areas beyond monetary policy. The divide is one of the reasons the EU cannot leverage the euro as an instrument of choice in foreign policy, for example. So, this is the issue that needs fixing first. 

Our own view is that the EU should set a deadline by which member states choose to join the eurozone or become associated members. They would retain the customs union and the single market, and some financial support, but would enjoy full national sovereignty in areas such as monetary and fiscal policy, foreign and security policy, and immigration.

Unfortunately, the EU continues to prioritise its cohesion and its enlargement with new members that have no hope to join an inner circle. This would be our reason to reject the enlargement to Macedonia and Albania for now.

As Brexit has demonstrated, the unsustainable ends eventually. But, when that happens, it still shocks. The EU may take comfort from the observation that no other countries have followed the UK. But be careful. We believe that Brexit will be relatively hard, and relatively successful economically because it will allow the UK to dump its unsustainable trickle-down economic model in favour of something better. The contours of that shift are already appearing. The EU may thus want to prepare itself for what will happen if some people suddenly come to regard Brexit as a success. For example, what if the UK were to extricate itself from the data-protection and state-aid regimes and actively subsidise artificial intelligence business? Would that not generate discussions at least in some member states about the viability of alternatives to EU membership?

We detect no signs in Brussels yet of any strategic gaming of the kind we have just outlined. The upcoming conference on the future of the EU will offer an opportunity to start this process. As of now, clarity of thinking is overshadowed by the shock that Brexit is actually happening, that it wasn’t reverted as so many in Brussels had secretly - and some not so secretly - hoped for. There is a danger that the complacency of the last three years simply continues, and turns into a complacency about the future relationship. Complacency remains the EU’s biggest enemy, and it is what distinguishes today’s EU from the early generation of European integrationists. 

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January 31, 2020

How Brexit will change the UK’s economic strategy

We noted in our story above on the future of the EU that the contours of a new business model for the UK were already emerging. There have been some small, seemingly insignificant signs, for example the much-maligned Downing Street job ad seeking weirdos and misfits for a Number 10 staff job. Another sign, unreported in the media but spotted by one of our favourite science bloggers, has been the British government’s announcement of a huge increase in funding for mathematical research that, in relatively terms, dwarfs similar schemes in the US and Europe.

To mark the big occasion, Boris Johnson will today give us some hints about the UK’s future, based on the most distant of possible relationships. He will seek a minimal trade deal only. The gap between a minimal deal, on tariffs only, and a no-deal departure, after the transition ends in December, is not as stark as most people think. The much bigger gap is between the minimal deal and the relationship envisaged by Theresa May, which would have been very close to that of a customs union.

This is why we expect the trade talks to have a different dynamic than the Article 50 negotiations. The Times has seen an extract from Johnson’s speech today, in which he will apparently insist that the involvement of the ECJ is a red line. The UK will not accept either direct or indirect ECJ jurisdiction. The paper quotes Michael Gove as saying that this means that the UK cannot even indirectly work inside EU agencies. The UK is seeking maximum regulatory sovereignty and is ready to pay the price in terms of trade friction. As we keep writing almost every day, the EU misjudges the shift in UK politics that has taken place since the election.

The reasons why we treat the government's red lines more seriously now is the parliamentary majority behind Johnson. But perhaps more important is the gradual emergence of a new industrial policy that would be consistent with a more distant relationship. We think that the discussion in the UK has focused too much on trade, which is based on products invented and development a long time ago, as opposed to innovations which will have in common that they will be less physical, and thus less tradable. Brexit is not good or bad in its own right. It could make sense if accompanied by an industrial shift. That might be happening.

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January 31, 2020

Irish brace for tough trade talks and challenges to EU cohesion

The Irish have a special relationship with both the EU and the UK, and it will be on their turf that many of the emerging fault lines from this divorce will show up. This is not only about Northern Ireland. 

After Brexit the EU needs changing, too. President Michael Higgins urged the start of a new European conversation to future-proof the union. There is growing alienation from the EU, he calls on the EU to take measures to present alternatives to those who are falling for far-right extremism, and neo-populism. Higgins blames years of austerity for undermining the union's cohesion. One of the most under-reported reasons for Brexit was the appalling and humiliating treatment of Greece during its crisis years. Higgins warns that fears had been stoked for political advantage, and austerity enforced by unaccountable troikas including EU institutions had worsened the economic bust. This had a disastrous impact on Europe. 

Fine Gael's MEP and EP vice-president Máiréad McGuinness warned that Nigel Farage has only started on his crusade against Europe. Brexit was only the first taster of his strategy to kill the EU from within. McGuinness sees the EU now moving into a much more difficult phase of Brexit negotiations. 

 

Former prime minister John Burton warns that trade talks will become the most hazardous part of the Brexit deal from the Irish perspective. At the EU table compromises are to be made, and Ireland might find itself isolated under the new economic reality. This is partly because hardly anyone in the EU understands the difficulties with Northern Ireland.

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January 31, 2020

The Franco-German relationship after Brexit

Charles de Gaulle already predicted that the UK would struggle in a community with set dimensions and rules. He thought the UK enjoyed economic advantages from trading with its Commonwealth partners that were incompatible with Europe. He went on to veto Britain's application twice before it finally succeeded. 

Brexit is some respects a return to de Gaulle’s thinking about the future of the EU. Some see this as a chance finally to realise a much more political European Union. It is a particular dream of the French, not shared by the Germans. And even if the new European Commission set out to become more political, this could well be much harder to achieve after Brexit. 

In some policy areas, the French are closer to the British than they are to the Germans, in geopolitics in particular. As former colonial powers France and the UK are more outward looking. Both have a permanent seat in the UN, and both have a long tradition of sending troops abroad. Both have no problems in defending their actions against all criticism from abroad. Germany, by contrast, is always seeking reassurances with partners in the EU or with countries such as Turkey or China on migration or technology. 

The Franco-German relationship post Brexit is unlikely to be strengthened by the absence of a British counterweight. In the 1990's the UK helped to mediate during the confrontational negotiations of the stability pact. Germany often hid behind the UK position in financial and product market regulation to avoiding confronting the French directly. The Germans’ constant worry of France's great political ambitions will tempt Berlin to counteract as it has been the case over the last two years. Without the British who is taking over the role of the arbiter? If anything, the absence of the UK could well bring the stand-off between France and Germany to the forefront. The French dream of a more political union might thus be shortsighted.

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January 31, 2020

Preparedness may make Brexit a financial non-event

The impact of Brexit on the financial sector may end up being much less than most people, including us here at Eurointelligence, once feared. This is down to the extensive contingency planning by national and EU authorities, and to long lead times. The fact that Brexit itself was delayed three times last year may have helped, as those who were remiss in their own planning were faced with successive no-deal cliff edges to remind them that something needed to be done. In the end Brexit may end up being remembered like another year-2000 bug. The turn of the century was not an IT disaster because of the effort made to prevent it, not because there wasn't a real problem with two-digit years in software. This does not mean that Brexit won't cause frictions, such as increased transaction costs. But those don't threaten financial stability.

Still, there is a cliff edge at the end of this year. Brexit will be followed by an eleven-month transition period during which financial market access will continue as before, and financial market participants will need to finalise their preparations before then. A problem here is that the future relation hasn't really been agreed, even in outline. Boris Johnson may prioritise regulatory autonomy and protecting the financial sector may not be a priority. The Bank of England has signalled that the UK won't be a financial rule-taker. But Johnson could also go for a surprisingly close alignment. There will be lobbying from various sectors, including the financial sector. So some market participants may still be either complacent or uncertain about their obligations after January 1st next year.

In any case special regulatory waivers, which were put in place over the past 18 months or so, will lapse tomorrow. They were intended to make up for the loss of the transition period in case of no-deal Brexit. These include extensions to the recognition of credit rating agencies and trade repositories, as well as of UK-based central counterparties for derivatives and the UK central securities depository. Ireland in particular is very dependent on access to UK market infrastructures. These measures serve as a reminder of where to look for potential trouble at the end of the transition period.

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January 31, 2020

Still no clarity on airline rights post-Brexit

The Brexit transition period will allow flights between the UK and the EU to continue as before, but a new aviation agreement will have to be part of the negotiations for the future relationship this year. At issue are the freedoms of the air, which allow commercial airlines from one country to fly over another's air space, stop for refuelling, and critically to fly routes between two locations in the other country. UK airlines in particular face the prospect of not being able to fly between two locations in the EU. This is less of an issue in the other direction as domestic UK flights are overwhelmingly served by UK airlines. But if things are not sorted out, one could see the odd situation where Iberia, the former national airline of Spain, is barred from serving domestic Spanish flights. Ireland faces a similar situation with Aer Lingus. This is because both are part of IAG alongside British Airways, and IAG must have at least 50% EU shareholding in order to be able to enjoy all the freedoms of the air in the EU. IAG tried to get around this by separating the economic and political rights of its shares, and putting the political rights in a Spanish-owned holding. IAG convinced the national authorities but the European Commission still has not given its final word on whether it accepts that arrangement. In any case, El Español reports that IAG has managed to reduce its non-EU shareholding from 47.5% last February to 39.5% currently, so the issue may not present itself when the transition period ends.

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January 31, 2020

Brexit inspires the return of Parthenon Marbles to Athens

Greece hopes Brexit will be an opportunity to argue more forcefully for a return of the Parthenon marbles. Lord Elgin removed the 160m-long frieze from the temple in Athens in the early 19th century, and it can be admired in the British Museum in London today.

The case for returning the marbles is not new. Since its independence in 1832, Greece has repeatedly called for the return of the 2500-year-old sculpture to Athens. Effectively Greece is accusing Lord Elgin of theft while the British museum argues the act was legal under contracts with the then-ruling Ottoman empire. Greece's culture minister said this week that, now that Britain is distancing itself from the EU and the ideas it advocates, Greece is likely to attract more international attention for its case. 

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January 31, 2020

Gilbraltar holds pitfalls for the post-Brexit negotiations

Despite its small size, Gibraltar may continue to be an irritant in the Brexit negotiations. We see two sources of conflict here. One is a the long-standing disagreement between the UK and Spain over Gibraltar's sovereignty. The other is the potential for unrealistic expectations about Gibraltar's eventual relation with the EU, and the blame game that would ensue if such expectations are disappointed. 

Spain's immediate interest on Gibraltar in the Brexit negotiations is to ensure a border as open as possible for the workers that commute each day into the British enclave from the neighbouring region of Campo de Gibraltar. So, Spain is likely to support the ambition expressed by Fabián Picardo, Gibraltar's chief minister, that Gibraltar join the Schengen area of passport-free travel. But this may be too much of a concession for the UK, which would be forced to introduce passport checks with Gibraltar.

The other issue is that of Gibraltar's status. As a British overseas territory, Gibraltar is not part of the United Kingdom but the UK is responsible for its foreign relations. Accordingly, Spain has insisted and the EU has agreed that the future status of Gibraltar needs to be negotiated separately from that of the UK. Spain almost vetoed the withdrawal agreement several times, each time extracting assurances from the UK that this would indeed be the case. But the UK may try to walk that back, especially if Spain emphasises its interpretation that relations between Gibraltar and the EU will in the future flow through Spain and not the UK. The issue for Spain is that it will not have a veto over the future relation between the EU and the UK like it did over the withdrawal agreement, at least for areas of exclusive EU competence. If some deeper integration is negotiated which requires the assent of the EU's national parliaments, Spain's veto over Gibraltar might rear its head again.

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