8.1 Expected impacts – overview

UK economy

• Most economists expected Brexit to harm the UK economy:
  • Continues to grow long-run, but more slowly than if UK had stayed in EU
  • Brexit already causing GDP to be 2.0 – 2.5% lower (loss of ~ £40 to ~£50 bn a year)
  • Current cost to public finances ~ £300 million a week (assuming 37% of GDP)
• Estimated long-run impact of Johnson’s shallow FTA on UK economy: 
  • OBR: loss of 4%  (~£80 billion a year or £1.6 billion per week)
  • NIESR: loss of 3.5% (~£70 billion a year or £1.3 billion per week)
  • LSE, with UKICE: loss of 5.5% to 7% (~£110 billion to ~£140 billion a year)
  • ‘No deal’ would have reduced GDP by a further 2.0% to 2.5%
• Expected Brexit trade impacts included:
  • New barriers to trade and disrupted supply chains
  • Export of jobs and business activity to EU27
  • Reduced benefits from migration on work force (e.g. in farming)
  • Additional red tape, bureaucracy and costs
  • Impaired UK ability to compete in world markets
• To counter these, the expected benefits of UK’s own trade deals and reduced regulation were small, uncertain and long-term
• Brexit impacts on public purse and services include:
  • Less tax take and contribution to public finances (about 37% of the GDP loss)
  • Poorer public services due to unfilled vacancies in e.g. social care and NHS
• Government (November 2018) expected long-run annual losses to the UK economy would be:
  • 1.4% for an EEA-style agreement (~£0.5 billion per week)
  • 4.9% for an FTA (~£2.0 billion per week)
  • 7.7% for WTO option (~£3.0 billion per week)

EU27 economy

• Small overall economic impact
• Some countries could suffer a big impact, notably Ireland
• New Brexit trade barriers will create opportunities for EU27 suppliers to replace UK exporters

Click here for summary of Brexit FactBase.

Introduction

This section provides an overview of the expected impact of Brexit on the UK economy and the EU. There is a separate section that looks in detail at the expected UK impacts on industry sectors and regions.

We describe the expected economic impact before leaving the EU, as opposed to the actual impact of leaving the EU. The full implications of the new UK-EU trading relationship are taking time to materialise. The FactBase section on the EU-UK Trade and Cooperation Agreement (TCA) contains an assessment of the impact of the TCA. For additional expected impacts of Brexit, please see the FactBase sections on education, science, healthcare,  environment, and defence, security, and Euratom.

Here, we cover:

• Consensus view
• How economists assessed the impacts
• Range of estimates
• A word on the outlier
• Government’s assessment
• Impact of Covid-19

The next few years will see a substantial reorientation of the UK economy due to Covid-19 and Brexit. This process is likely to expose regional, sectoral and income disparities. Detailed sectoral and regional assessments on the impacts of Brexit will be essential to inform policy responses (Centre for Economic Performance).

The section on economic context looks at the high-level Brexit effects that have already reduced UK economic growth.

Economic impact

Consensus view

Before Brexit, the consensus among reputable economic forecasters (including the Government, HM Treasury and others) was that Brexit would damage UK economic growth. They agreed that the UK would be poorer with Brexit than it would have been without it.

The reason was simple. The UK could not forego the benefits of near-frictionless trade in the Single Market and the EU Customs Union and create new trade barriers with its biggest trading partner without an economic shock.

The principal factors that would harm the economy after Brexit were:

• Reduced trade volumes due to new trade barriers
• Reduced EU migration due to government policy
• Lower productivity due to reduced trade and investment
• Reduced employment (or lower wages)
• Lower foreign investment in the UK due to uncertainty and reduced attractiveness

Offsetting these significant effects, there are only small benefits from saving the UK’s contribution to the EU budget, future trade deals and reduced regulation.

Regional impacts were expected to vary, depending on the local industry profile and its reliance on the EU for trade, skills, workforce and investment.

The economy is complex and it will take a long time for the full effects of leaving the EU to work through. For example, manufacturers supply other manufacturers, and some service sectors depend on manufacturing or agriculture or on each other, for example, financial and professional services. The section on immigration considers the expected impact of reduced migration of EU citizens on the UK.

The relative impacts of the main options for the future UK-EU trade arrangement  were well understood:

• EEA (like Norway) – low economic impact
• FTA (like Canada) – medium economic impact
• WTO (no trade agreement) – high economic impact

These three options provided anchor points to consider the impacts of different levels of trade barriers. The Chequers proposal fell between EEA and an average FTA.

Johnson’s TCA falls between an average FTA and WTO (that is, its impact was expected to be medium to high). An FTA can be ‘shallow’ or ‘deep’ (like the EU-Canada agreement). The shallower an FTA is, the higher the trade barriers and the smaller the economic benefit. The TCA is shallow because the government wanted freedom to diverge from EU regulation (but did not say how).

There were originally two WTO options: with a Withdrawal Agreement (WA) or without. As the UK has a WA, the analysis just looks at WTO with WA. Please see the FactBase section on No deal for a fuller discussion of a ‘WTO Brexit’.

How economists assessed the impacts

Economists estimated a ‘Brexit delta’: the difference between economic growth for the UK as an EU member (the ‘base case’), and with Brexit. With Brexit, the UK economy was expected to continue to grow over the long run but more slowly. 

There are two types of economic impact – short-term and long-term. Most economists assessed the economic impact over around 10 years. Shorter term impacts of major changes are more difficult to predict. The long-term estimates used well-tested models of the UK economy and extensive data on the effects of removing trade barriers. To model WTO terms or an FTA compared to EU membership, economists reverse-engineered the economic benefits of trade liberalisation from previous trade deals. They used extensive historic data that quantified the benefits of liberalising trade through the removal of trade barriers. 

An important methodological point to note is that the uncertainties in any base-case forecast of the economy were less important than the reliability of the estimate of the difference between the base case and the revised forecast. It was essential to have a robust evaluation of the Brexit delta – the incremental impact on the economy of trade barriers and other Brexit factors, such as immigration, foreign direct investment and productivity.

The switch to the TCA caused short-term disruption, costs and uncertainty. However, economists usually focused on the long-term steady state. Two notable exceptions were the Office for Budget Responsibility’s (OBR’s) November 2020 evaluation and the Bank of England’s earlier assessment of ‘no deal’. The main difference between the TCA and ‘no deal’ is the absence of most tariffs and quotas. Most other ‘non-tariff’ trade barriers were not addressed by the TCA.

Even before Covid-19, economic forecasters expected the underlying rate of UK economic growth post-Brexit to be low. This meant the UK was expected to have low resilience to deal with the additional Brexit shocks. See the section on economic context for details.

Range of estimates

Before Brexit was finalised, economists had agreed on the ranking of the economic harm of the potential Brexit options. Figure 8.1 show nine views of the impact on the size of the economy compared to staying in the EU. Small percentages involve large sums of money: a 1% reduction in UK GDP costs about £20 billion a year (about £400 million a week).

The predicted outcomes for the three main options were:

1. EEA: fall in GDP of 1.3% to 3.8% – average 2.2%
2. FTA:  fall in GDP of 1.2% to 6.2% – average 3.9%
3. WTO: fall in GDP of 3.5% to 8.5% – average 6.7% (excluding outlier)

The EEA option had the narrowest range of 2.5% indicating that its outcome was the most certain. The ranges for FTA and WTO were wider (at ~5%) indicating that their outcomes were less certain. There was one notable outlier – Economists for Free Trade – who believed that a WTO Brexit would benefit the economy. Other economists thought their assumptions were unrealistic (to put it politely).

(Note that different economists may consider different factors. For a thorough evaluation of studies, please see: Gemma Tetlow and Alex Stojanovic, Understanding the economic impact of Brexit, October 2018.)

A word on the outlier

Economists for Free Trade (previously known as ‘Economists for Brexit’) forecast that a hard Brexit will cause long-run GDP to rise by 6.8%. This included 4% from trade effects and 2.8% from reduced regulation. Most economists challenged the EFT assumptions for being unrealistic and questioned the validity of their conclusions.

EFT made assumptions that other economists regarded as unrealistic:

• Unilateral abolition of all trade barriers and much EU regulation would boost Britain’s trade.
• The “gravity” effect does not apply to UK trade, whereby close neighbours trade more with each other.
• Any fall in trade with the EU will automatically be made up elsewhere.
• All price differences are caused by protection through tariffs.

In addition, EFT excluded some key considerations:

• Tariffs matter less than non-tariff barriers, especially for services but also increasingly for goods.
• The Single Market did away with these and benefits trade for all member states.
• Most price differences reflect differing quality or regulatory standards and are not due solely to tariffs.
• In terms of negotiating trade deals with other countries, unilateral abolition of tariffs and non-tariff barriers would mean that the UK would have no bargaining power in future trade negotiations.

EFT acknowledged that the trade liberalisation strategy that they proposed would be politically unpalatable for the current UK government. As the EFT also acknowledged, unilateral liberalisation of trade would seriously damage the British farming and manufacturing industries because the UK market would be flooded by cheaper imports. Trade liberalisation could benefit consumers but would cause thousands of jobs to be lost. The public would also be concerned that abolishing much EU regulation would greatly weaken protections for the UK environment, workers and consumers.

Sources:
Centre for Economic Performance, Economists for Brexit, A Critique, 2016
NIESR, The Economic Impact of Prime Minister Johnson’s New Brexit Deal, Arno Hantzsche, Garry Young, 29 October 2019
NIESR, 2019 UK General Election Briefing: The Economic and Fiscal Impact of Brexit, Arno Hantzsche, Garry Young, November 2019
UK in a Changing Europe, The economic impact of Boris Johnson’s Brexit proposals, 13 October 2019

Government’s assessment

In 2018, the Government published its economic assessment of the Chequers option in November. In late 2019, the Johnson government refused to produce an economic assessment of its proposals, despite Parliament requesting one to inform the Commons debate.

Previously, the Government’s own modelling (by the Department for Exiting the European Union in November 2018) cited mid-range GDP losses from trade effects of:

• 1.4% for an EEA-style agreement (£0.5 billion per week)
• 4.9% for an FTA (£2.0 billion per week)
• 7.7% for the WTO option (£3.0 billion per week).

These losses were greater for the FTA and WTO options when migration effects were taken into account (see Table 8.1 below). Under EEA they assumed zero impact from migration because the UK economy would continue to benefit from the free movement of labour (in both directions).

In the other direction, the economic benefit of UK trade deals with other countries was expected to be small. For example, a trade deal with the US (the UK’s next largest trade partner after the EU) was expected to increase long-term UK GDP by only about 0.2% (according to the Cross-Whitehall briefing of January 2018). Trade deals with other non-EU countries and blocs would add a further 0.1- 0.4% to GDP. Deals with China, India, Australia, the Gulf states and Southeast Asia would take many years to negotiate.

Table 8.1, taken from the November 2018 DExEU report, summarised the component impacts on GDP of the different Brexit trade options (from the report’s Table 4.12).

• The biggest impacts would come from new trade barriers (tariffs, customs barriers and regulatory barriers) created by leaving the EU Customs Union and Single Market.
• Non-tariff barriers (NTBs) apply in all three scenarios but were highest in the FTA and WTO (‘no deal’) options. In particular, UK-EU services trade would suffer from NTBs (such as regulatory standards and rules over market access).
• Tariffs on goods apply under the WTO option. The weighted average tariff for UK goods trade with the EU would be around 3.8%. Many sectors would be carry low or zero tariffs but tariffs for some would be high (such as automotive and agriculture).
• Impact of new trade deals was expected to be very small with central estimates at 0.1 to 0.2%. Incidentally, the government assumed that all EU trade agreements with third countries would continue as UK-specific arrangements.
• Any changes to regulation after Brexit would be limited and have a small effect of 0.1% of GDP.
• Migration effects had the biggest effect after NTBs.

Table 8.1: DExEU estimates of long-run economic impacts

Impact on jobs

To make the GDP results more tangible, the long-run impacts on GDP can be translated into employment effects. A rule of thumb is that a long-run 1% loss of GDP will lead to a long-run 1% loss in jobs – assuming wage rates and productivity remain unchanged. The UK economy provided 35 million jobs in 2017.

Using the rule of thumb, the employment effects of the Government’s November 2018 central estimates could be equivalent to reduced employment of:

• EEA – 0.5 million jobs
• FTA – 1.7 million jobs
• WTO – 2.7 million jobs

Given the flexibility of the UK labour market, the employment effect would be likely to be lower. For example, some employers could choose to reduce wages to protect jobs, or they might be willing to accept reduced productivity. If employers’ responses limit the fall in jobs, real wages would fall, which would squeeze households in a different way.

Impact on household income

Average disposable household income for 2017 was £33,000. As movements in GDP flow through to households, the annual percentage impacts on households mirror the changes in GDP.  The effects on disposable income of the GDP impacts in Table 8.1 would be:

• EEA –   £300 to £800 loss in disposable income
• FTA –   £1,100 to £2,300 loss in disposable income
• WTO – £2,100 to £3,000 loss in disposable income

Sources:
EU Exit, Long-term economic analysis, HMG, November 2018
UK trade and the Word Trade Organisation, Richard Barfield, September 2018
EU Exit Analysis, Cross-Whitehall Briefing, January 2018 (published March 2018)

Impact of Covid-19

Later, economists also had to contend with assessing the expected consequences of Covid-19 with Brexit. In general, this was seen as a double whammy, because the sectors badly hit by Covid-19 were generally not the same as those badly hit by Brexit.

Covid-19 affected businesses that provided face-to-face services such as accommodation, food services, transport and other services like entertainment. Social distancing hit them hard. Sectors with flexible working arrangements and those that did not rely on in-person consumer demand were less badly affected. These include information and communication services, and professional, technical and scientific industries. Similarly, manufacturing, financial services and mining could operate effectively with social distancing.

The short-term impact of Covid-19 was larger than the financial crisis, causing a GDP contraction of 9% in the first nine months of 2020. Economists expected the UK economy to recover faster from Covid-19 than it did from the financial crisis (which took about five years). However, Brexit caused the UK’s recovery to lag that of the EU and other OECD countries.

Comparing sector output losses during the pandemic with losses predicted from trading on WTO terms (Figure 8.1a), showed limited overlap between the affected sectors.

Figure 8.1a: Sectoral output impacts of Covid-19 and WTO Brexit

Prior to Covid, in relation to a basic FTA, such as the TCA:

• OBR estimated a fall in GDP of 4% through lower growth (and WTO a fall of 6% reducing to 5.5% over the long run) – November 2020.
• NIESR estimated a fall in GDP of 3 – 4% (£60 – £80 billion a year or £1.2 – £1.5 billion a week), and that WTO would have led to an impact of 5-6%.
• LSE, working with UKICE, estimated a GDP impact of 5.5% to 7%.

Overlaying Covid, the LSE took a simple view and compared the government’s view of the long-run impacts an FTA Brexit alongside the BoE’s view of the impact of Covid-19, summarised in Figure 8.1b. The LSE comparison assumed that the 1.7% drop in GDP from Covid-19 that the BoE expected for 2022 would continue permanently.

• LSE expected long-term scarring (the term economists use for permanent damage) from Covid and Brexit
• BoE expected economy would recover from Covid-19 reasonably quickly

Figure 8.1b: Forecast shocks to UK GDP

The OBR estimate in November 2020 provided a range of outcomes depending on Covid and Brexit (see Figure 8.1c).  Their view was that a thin FTA would reduce long-run UK GDP by 4% (its November forecast) and that ‘no deal’ would have reduced UK economic growth by 6% in the short run and 5.5% over the long-run (compared to continuing as an EU member). Since then, the OBR has maintained its estimate of a 4% impact.

The OBR said the main difference between ‘no deal’ and an FTA, would have been the UK imposing its new global tariff (UKGT) on EU imports and EU imposing its Common External Tariff on UK imports. The other effects apply to both an FTA and ‘no deal’:

• Temporary physical border disruptions as traders and officials adjust to new administrative requirements and customs checks
• Ramp up of non-tariff barriers as the UK exits the Single Market without regulatory equivalence, public procurement and mutual recognition arrangements.

These and other effects of a no-deal Brexit would be on top of Covid effects.

Figure 8.1c: Range of outcomes for UK economy

Sources:
Bank of England, EU withdrawal scenarios and monetary and financial stability, A response to the House of Commons Treasury Committee, November 2018
Letter from the Governor to the Treasury Select Committee regarding updated Brexit scenarios, 4 September 2019
Centre for Economic Performance, Covid-19 and Brexit: Real-time updates on business performance in the United Kingdom, Josh De Lyon and Swati Dhingra, July 2020
Bank of England, The Economy and Covid-19: Looking Back and Looking Forward, 4 September 2020
Dr Thomas Sampson, Associate Professor, London School of Economics, The UK Economy: Brexit vs Covid-19, August 2020 for UK in a Changing Europe
Office for Budget Responsibility, Economic and fiscal outlook, November 2020
National Institute for Economic and Social Research, Prospects for the UK economy, Hande Küçük, Cyrille Lenoël, Rory Macqueen, November 2020

EU impact

Current situation

In March 2017, the European Commission prepared an assessment for the European Parliament of the economic impact of Brexit on both the UK and the EU. The assessment based its findings on a large numbers of existing independent studies. This section and the one that follows are based on this report.

The trade in both goods and services between the UK and EU27 is substantial (the EU report uses 2015 data):

• €306 billion of exports of goods by the EU27 to the UK, versus €184 billion of imports, and thus an EU trade surplus in goods.
• In terms of % shares of GDP, the EU27’s exports to the UK amount to 2.5% of GDP, whereas the UK’s exports to the EU27 amount to 7.5% of its GDP.
• The UK is the EU27’s second largest trading partner after the US. US-EU27 trade in goods is only about 20 % larger than UK-EU27 trade in goods.
• For services, the amounts are €94 billion of exports by the EU27 to the UK, versus €122 billion of imports, and thus a UK trade surplus.
• For both goods and services the degrees of dependence in % of GDP on the UK market is much higher for the smaller EU member states that have close ties to the UK of historical character and/or geographic proximity (Ireland, Cyprus, Malta, Belgium, Netherlands).

Foreign direct investments (FDI) are very large on both sides. The EU27’s stock of FDI in the UK is estimated at €985 billion, or 8.3% of its GDP, while the UK’s investment in the EU27 total is €683 billion but bigger in relation to its GDP (26.6%). However, there are indications that a significant proportion, maybe about one half, of this FDI represent financial operations.

The number of EU27 citizens living in the UK at the end of 2016 is estimated at 3.35 million. The largest number are workers (2,002,000), compared to pensioners (223,000) and the unemployed (102,000). The number of UK citizens living in EU 27 countries is substantially less: 1,217,000, of which 400,000 are pensioners, with remainder being workers and their dependent families, and students.

Impact of Brexit

The main finding of the report was that the available studies largely agree that Brexit will inflict losses on both sides. All studies agree that the losses will be considerably larger for the UK than for the EU27. Only in very pessimistic scenarios would the losses for the EU27 reach a significant size.

The economic losses are shared disproportionately in a ratio of around 1:2 or 1:3 for the EU27 and the UK, respectively. In terms of percentages of GDP,  the losses for the EU27 would be about 10 to 15 times smaller than those of the UK. The much greater size of the EU27 (five times as big in GDP as the UK) means that it is much better able to absorb the economic impact of Brexit than the UK.

For the EU27 the losses are virtually insignificant, averaging between 0.11% and 0.52% of GDP for the optimistic versus pessimistic scenarios respectively. These amounts are modelled as the totals cumulating up to 2030, so the annual average losses would be of the order of 0.011% to 0.052 % of GDP. (For comparison, average member state contributions are about 1% of GDP a year).

At a member state level (see Figure 8.9), the EU study notes that the aggregate results for the EU27 under the FTA and WTO scenarios are also roughly reflected in the results for the larger member states (Germany, France, Spain, Italy).

For several small member states, in particular those with close historic ties with the UK, the results are more damaging:

• Ireland suffers the same magnitude of losses as does the UK. This is explained by Ireland’s trade dependency on the UK being greater than vice versa, in roughly the same proportions that the UK has a greater trade dependency on the EU27 than vice versa.
• Malta and Cyprus are also among the most exposed member states (the acronym CCM combines Croatia, Cyprus and Malta ).
• A similar picture emerges for Belgium and the Netherlands, (there may be some upward bias as there is a lot of trade between the UK and the EU27 that transits through the seaports of Belgium and the Netherlands).

Figure 8.9: Losses in GDP (2030) by member state and type of Brexit scenario (%)

Source: European Commission, DG for Internal Policies, An Assessment of the Economic Impact of Brexit on the EU27, March 2017

EU regional impacts

The aggregate figures mask more dramatic impacts at regional and sectoral levels.

The Birmingham University study looked at the exposure to Brexit of EU27 based on trade flows. Figure 8.10 shows the share of EU27 regional income that is exposed to Brexit. (Note that the scale of percentages for the EU27 is half the scale for the UK in Figure 8.8).

The study found that north-western European regions are typically the most exposed to Brexit, while regions in southern and eastern Europe are mostly barely affected by Brexit (other studies identify Brexit exposures in Malta and Cyprus).

In terms of specific regions, the results indicate that:

• Irish regions face similar levels of exposure to the least exposed UK regions, namely London and parts of northern Scotland.
• German, Dutch or Belgian regions face Brexit exposures that are between one quarter and one half of those faced by UK regions.
• The most exposed EU regions are in southern Germany, but the levels of risk are at most half that of the most exposed UK regions.

The implication is that, on purely economic grounds, the Republic of Ireland, Germany, the Netherlands and Belgium, will have more to gain from a relatively seamless and comprehensive UK–EU free trade deal than will other EU countries.

Source: The Continental Divide? Exposure to Brexit in Regions and Countries on Both Sides of the Channel, W Chen et al (December 2017)

Last updated on 19th May 2024 by Richard Barfield