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Brexit - consequences and alternatives for customs

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Wednesday, June 29, 2016

Introduction

Now that the United Kingdom has decided to leave the European Union in the June 23 referendum on the Brexit, it is necessary to consider the consequences for customs. This article will describe the different scenarios that are available for the UK to restructure its relation with the European Union and the effects these scenarios have on customs procedures and trade.

The voters had many motives in the Brexit referendum to vote for ‘leave’ or ‘remain.'  The United Kingdom as a part of the EU affects many aspects of the lives of British citizens.  Still, the primary and most important reason for being a part of the European Union is the economic cooperation with other EU countries.  Participating in a rather unified market enables economic forces to produce more wealth for its participants.  With a potential market of over 500 million European consumers, economies of scale can be reached through larger production facilities and through countries specializing in those products and services they are best at.

Customs union

At the heart of the economic cooperation lies the European customs union.  In a customs union, the participating countries agree not to levy import duties between themselves and to levy the same import duties when trading with other (third) countries.  To know more about how import duties work, please watch the informational video ‘the concept of import duties’

Since the countries or member states as they are called officially, in the European Union form a customs union, no customs formalities exist anymore at the internal borders.  This important step towards European unity was realized in 1992. It gave a big boost to internal trade.  However, many taxation differences between the countries in the EU do still exist, of which VAT is the most important one.  VAT is a tax that generates a lot of money for the government.  The system is set up in such a way that the tax flows to the tax authority of the country where the consumer lives.  To see how the VAT-system works and how it is implemented on a European level, please watch the following videos: ‘how does the EU VAT system work?’ and ‘intra-community transactions.'

Now that the United Kingdom will leave the European Union, it will no longer participate in the customs union, and it will no longer be part of the European VAT system.  As a consequence, in the future, customs formalities will be part of the trade of goods between the EU and the UK.  To see how this will work in reality, please watch the following videos: ‘why do we need customs?’ and ‘how does customs work?.’

Of course, nobody in the United Kingdom or the European Union is happy with the fact that trade will in the future be hindered by customs formalities.  But we will see that in all instances in which the EU has special trade arrangements with other countries, customs formalities are necessary.

Some models for the trade cooperation between the UK and the EU are available from which the UK will have to choose. These models include the EFTA, Switzerland, Turkey, and the WTO, and will be discussed below.

The European Free Trade Association (EFTA)

The EFTA consists of Switzerland, Norway, Iceland, and Liechtenstein.  These countries have agreed not to levy any import duties on goods they trade with each other.  But, since they have not agreed to use unified external duties towards other countries, they are not a true customs union.  Several countries that have become a member of the European Union were part of the EFTA first, such as Austria and Sweden. 

The EU, together with three EFTA countries (Norway, Iceland, and Liechtenstein), form the European Economic Area (EEA).  Switzerland has opted not to participate in the European Economic Area. 

The EEA countries have agreed that no import duties between the countries in the EEA exist.  Still, customs formalities are necessary, since the EFTA countries do not levy the European Union duties when trading with third nations. 

The EFTA countries are no part of the EU VAT system.  Also, the integration with the EU includes the free movement of workers and the free movement of services and capital.  Norway, Iceland and Liechtenstein have to apply many European laws to make this possible.  Therefore, they also pay a contribution fee to the EU, which is, of course, less than the contribution regular EU member states pay.  EFTA countries do not participate in EU agricultural policies nor do they have a say in the EU decision-making process.

For those people who voted ‘leave,' the freedom of movement for workers was a big issue in their decision-making.  Many workers from other European countries move to the United Kingdom to find a job there.  Still, should the UK become an EEA country, this freedom of movement will remain.  The UK would have to adhere to many European laws and continue to pay a contribution.  It would have to finance its agriculture, but still, be part of the EU financial service industry.   

So, if the government of the UK would choose this option, then important voter goals, like limiting immigration, will not be realized. 

Switzerland

Switzerland has more than 120 bilateral treaties with the European Union.  In practice, the relationship is comparable to the one the other three EFTA countries have with the EU.  Switzerland participates in the Schengen agreement, as do the other EFTA countries, which enables the free movement of people.  For Schengen, it is important to harmonize labor regulations and asylum procedures. The UK is not a member of Schengen and certainly does not want to become one, as this was one of the main issues of the Brexit referendum.   Switzerland pays a contribution to the EU and applies many EU regulations, while at the same time, it does not have any say in the European decision-making process.  However, the 'Swiss' approach of closing bilateral agreements could be an interesting option for both the UK and the EU. For those sectors of the economy for which both parties are happy to continue trading on the current basis, bilateral agreements could quickly be created, thereby creating continuity for a large part of the current trade. For more controversial issues (like agriculture) the parties could take more time to create bilateral agreements.

Turkey

Turkey forms a customs union with the EU.  However, it is not a pure customs union as certain agricultural products are exempt from the customs union.  Customs formalities still exist between the EU and Turkey.  Turkey does not apply the freedom of goods, workers, services and capital with the EU.  They pay no contribution and apply their own laws. 

This scenario could be an option for the UK if the customs union with the EU would include all merchandise.  Trade with the EU would remain for the biggest part intact, with only border formalities to be fulfilled, but no duties to be paid.  The UK would no longer have to pay a contribution to the EU and would be free to make its own laws.  The freedom of movement of workers would end. 

However, two problems exist. The first problem is the fact that the access to the European financial market would close.  This is a big issue because London is an important financial center.  The UK government could try to close a special deal in this field with the EU.  But why would the EU agree on that?
The second problem is that countries in a customs union levy the same import duties when trading with other (third) countries. The advocates of a Brexit promised voters to close trade agreements with other countries such as China and the US, which the EU has, so far, not been able to do. When in a customs union with the EU, the United Kingdom would not be able to levy lower duties when trading with China and the US, which would greatly devaluate these trade agreements.   

The World Trade Organization

The last option available to the UK would be to become a third country in relation to the EU, as are most other countries in the world, like the US, South Korea or South Africa.  Two possible scenarios are thinkable:

  • Mexico

Some countries have a special treaty (free trade agreement) with the EU to exempt most products from import duties.  For example, Mexico, South Korea, and South Africa can export goods to the EU without paying import duties.  Most of these treaties are reciprocal, which means that no import duties exist when goods are sold from the EU to those countries.  The relevant customs formalities in this scenario are rather complicated to implement. The scenario would harm trade considerably compared to the free trade as it is now.

  • USA

Other countries, like the USA or China, do not have these preferential relationships with the EU like Mexico and South Korea.  Currently, new treaties like the Transatlantic Trade and Investment Partnership (TTIP) are being discussed.  Under TTIP, import duties are almost completely abolished, but many other aspects of trade are a part of it as well, making this a very extensive trade agreement.  Therefore, this is no option, as the UK would have to renegotiate all trade with the EU on a very detailed basis.

Conclusion

It may be expected that trade would be affected considerably, both with the EU and with all other countries in the world. The UK as a hub for distributing and selling goods in the EU will not be interesting anymore.  Logistics flows will pass the UK.  An example is e-commerce sales.  The UK now dominates the EU e-commerce market.  It is possible that fulfillment centers will move to the continent. Also, general distribution centers that service regions like Europe, the Middle East, and Asia, may move to the continent, since that is their biggest market. 

In all scenarios mentioned above, new customs formalities for goods traded between the UK and the EU will have to be implemented.  Depending on the option the UK chooses, many other areas of cooperation will be affected.  Each available option, will have a varying impact on the details and difficulties of customs formalities and thus of trade.  But the formalities itself will always be necessary. Please click here for an overview of the above-mentioned scenarios. 

Besides having to form a completely new relationship with the EU, the United Kingdom will also have to renegotiate trade relations with all other countries in the world. The UK will have to come up with new business proposals to keep its present economic model working.

Hans Maessen
Managing Director Maco Customs Service
 

 

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