Business should brace for the worst kind of Brexit

When European Union (EU) heads meet at the end of this month, they are likely to issue a warning to bureaucracies and firms to step up preparations for a no-deal Brexit, also known as a ‘hard’ or ‘cliff-edge’ Brexit, because that’s where things appear to be heading in the talks between the EU and the UK.
At this point, it’s calming to view such signals in a game theory context. UK Prime Minister Theresa May has an incentive to take things to the edge so she can get her version of any exit agreement through parliament; she’s more
interested in a last-second cliffhanger vote than in a protracted debate. The EU, frustrated by a UK side that has nothing to offer, has been talking about the likelihood of a hard Brexit for more than a year, but that could be just a demonstration of willingness to walk away from the table.
If there’s no deal, the UK will drop out of the EU in March 2019 without a transition period. That’ll create gaps in regulations and the capacity to enforce them, mainly in the UK. The FT reported that the UK government isn’t doing much about that because it doesn’t consider ‘no deal’ a realistic scenario. But believing that the sides are bluffing can result in nasty surprises because the negotiations aren’t exactly poker. It’s a game in which the interests of some of those at the table are not aligned with those they represent.
It is businesses that really need to prepare for trading across the Channel according to World Trade Organization (WTO) rules, which mean 2 percent tariffs on most goods but 10 percent on cars and 20 percent on agricultural products. Customs barriers will also spring up, increase costs and slow down deliveries.
Last year, Wen Chen of the University of Groningen in the Netherlands and his team of collaborators analysed which regions in EU nations were most exposed to Brexit. Because of the deep level of data, this is probably best analysis of exposure to date.
Chen’s calculations, however, assume that Brexit will set UK-EU trade to zero (there’s no other way to get at the full share of GDP that could potentially be affected). In real life, though, a 2 percent tariff, slightly longer delivery times and the added cost of customs clearance won’t affect trade volumes much. The economic actors who really do need to prepare for a cliff-edge Brexit are primarily in auto industry, agriculture and finance, where UK and European firms would be cut off from operating in each others’ markets directly by the end of passporting.
In the financial services industry, a no-deal Brexit is considered a serious threat. In March, the global Association of Chartered Certified Accountants, whose members work in the entire range of financial companies and banks, published the results of a Brexit-themed survey. Three quarters of its participants work outside the UK; 77 percent of those asked said a hard Brexit would be damaging to their business, and 6 percent said their firms would no longer have a viable business model. At the same time, preparations have been going too slowly: 23% of the ACCA members (and 31% of those working in small firms) said their companies hadn’t even begun planning for Brexit. Only 8% said they’d begun to implement their plans, a measly three percentage point increase from March 2016.
A just-released Organization for Economic Cooperation and Development (OECD) report on EU downplays the risk — but still notes the potential that a lack of preparedness can cause adverse consequences. “EU entities will probably retain sufficient access to wholesale and retail financial services post-Brexit, as most financial services are currently already provided in the EU-27 and relevant UK entities can relocate part of their activities to other EU member states,” the OECD said.
According to Deloitte, a hard Brexit would cut German car exports to the UK by 255,000 a year, worth some 6.7 billion euros or 5 percent of sales. About 18,000 jobs would be endangered. European automakers in total would lose some 8.7 billion euros in sales. Car part sales wouldn’t be hurt as badly because the tariff on them would be 4.5 percent, not 10 percent as for cars, but thousands of jobs could still evaporate as imports from the rest of the world become more economically viable for the UK.
A survey of German enterprises by national association of industry and commerce chambers, published earlier this year, showed only 14% of firms considered themselves well-prepared for Brexit’s consequences. In particular, German car industry, the biggest potential loser, is heavily invested in pushing the government and EU to make a deal.
The Irish government and Ireland’s agricultural producers, who stand to lose 39% of their exports, worth 4.8 billion euros a year, if the UK leaves without a deal, hope for a favourable outcome, too, but at least they’re working visibly to get ready for a cliff-edge Brexit.
Not believing in the possibility of a no-deal outcome could cost businesses billions of dollars in lost revenue. Regardless of whether the UK and the EU are only playing a game, it’s a dangerous one. The quality of the players on the UK side and the EU’s multitude of other concerns make the worst outcome entirely possible. So all the warnings the parties issue as they try not to blink should be taken extremely seriously.
— Bloomberg

Leonid Bershidsky is a Bloomberg Opinion columnist covering European politics and business. He was the founding editor of Russian business daily Vedomosti and founded the opinion website Slon.ru