Getting Brexit done

By 5 minute read

The clear general election victory on 12 December gave Boris Johnson the mandate to “Get Brexit done”. With a majority of 80 MPs, Johnson got a parliamentary backing and he faced no difficulties to get the Brexit deal ratified by the UK parliament last week. This week, it was also ratified by the EU parliament. Now that the deal or Withdrawal Agreement Bill in full is passed by both the UK and the EU, the UK formally leaves the EU by the end of January.

Transition period

The UK's exit from the EU on 31 January will be accompanied by plenty of symbolism but will involve little immediate changes. The EU and the UK have agreed on a transition period which serves as a standstill arrangement that allows the UK to preserve the benefits of membership of the EU's internal market and the customs union. During this transition phase the UK has no representation in the EU's institutions and no role in decision-making. This transition period is due to last until the end of this year, subject to a one-off decision extending the transition period for up to one or two years. However, the UK government seems unwilling to extend the transition period beyond 2020 and current legislation attached to the Withdrawal Agreement Bill rules out such an extension.
We argue that the current transition period is likely to be too short to be able to negotiate, draft and approve a wide scope agreement. The CETA free trade agreement between Canada and the EU for example stands at over 1000 pages, took five years to negotiate and a further three years to approve. At the same time both the UK and EU have an incentive to prevent a 'no-deal' scenario. We think it is likely that the full future-relationship negotiations cannot be finalized before the end of 2020. Most likely, the UK and EU will either have a longer transition period or on a roadmap of a number of partial deals. Clearly, the risk of a no-deal scenario remains – especially if the transition period is not extended– and will be a topic for financial markets in 2020.

Sequencing of talks and important dates

Both the UK and the EU want the future-relationship negotiations to begin without delay. The EU is aiming to have its negotiating mandate agreed shortly, and hopes that the EU27 ministers will be able to sign off the mandate at a meeting on 25 February. After that date, negotiations between the EU and the UK will intensify and a summit is scheduled to take place in June 2020 so the UK and the EU can assess the progression of the talks. June is also the final month for the UK to request an extension of the transition period beyond 2020. We believe that the end of November marks another important deadline as the (partial) trade deal must be negotiated, checked, translated and presented to the European Parliament if it is to be ratified by the end of the year. As it currently stands, 31 December 2020 marks the end of the transition period and the newly ratified (partial) trade deal will come into effect. If no trade deal is in place by that date – nor an extension is agreed on - Britain will fall back on basic World Trade Organization terms, meaning tariffs on goods and only limited cooperation between the UK and the EU. In case the EU and the UK were to agree on an extended transition period, 31 December 2022 serves as the final date. This would allow both sides more time to work on a comprehensive deal.

The UK formally exits the EU

Both the UK and EU want the future-relationship negotiations to begin swiftly after the UK leaves the EU. The EU hopes that the EU27 ministers will be able to sign off the mandate at a meeting on February 25.

An EU-UK political declaration, agreed as part of Johnson's Brexit deal, mentions a summit should take place in June 2020 so the UK and the EU can assess the progress of the talks. Also, June is the final month for the UK to request an extension of its transition period beyond 2020. However, current legislation attached to the Withdrawal Agreement Bill rules out any extension of the transition period.

A trade deal must be negotiated, checked, translated and presented to the European Parliament by this week if it is to be ratified by the end of the year.

On 31 December 2020 the transition period ends and the newly ratified trade deal is to become effective. If a trade deal is not in place – nor an extension is agreed on - Britain will fall back on to basic World Trade Organization terms, meaning tariffs on goods and only limited co-operation between the UK and EU.

The final date to which the transition period could be extended. An extension of the transition period beyond 2020 is not desired by Johnson. In any case, (supplementary) future-relationship talks are expected to continue after 2020.

Possible adverse effects

So far, the result of the referendum vote of 2016 has not been catastrophic for the UK economy although there is evidence of lower growth compared to its pre-referendum trend. UK economic growth has also been lower than many developed countries in the subsequent period. Looking ahead, we believe that it is important for the EU and the UK to agree on a (partial) trade deal before the transition period ends. In the absence of such a deal, the UK will fall back on basic World Trade Organization terms, meaning tariffs on goods and only limited co-operation between the UK and EU, which we argue would have adverse effects for the UK economy – and the EU economy to a lesser extent.

Bank of England

On Thursday, the Bank of England (BOE) decided to keep interest rates on hold in Governor Mark Carney's final meeting. The BOE noted that business confidence is strengthening after Boris Johnson's election victory removed much of the near-term Brexit uncertainty. Still, officials also said they saw signs of subdued inflationary pressure. "Policy may need to reinforce the expected recovery in UK GDP growth should the more positive signals from recent indicators of global and domestic activity not be sustained or should indicators of domestic prices remain relatively weak," minutes of the meeting said. The BOE lowered forecasts for 2020 UK GDP growth to a 0.75%, from 1.75% before. Economic projections for 2021 and 2022 were both a quarter-point lower.

Working towards a (partial) deal

Forty two months after the June 2016 Brexit referendum, the UK will formally exit the EU. Although this is a symbolic milestone, the direct economic- and business impact of Brexit is small as the EU and UK have agreed on an 11 month transition period. Our view is that it is in the best interest for both the UK and EU to prevent a no deal scenario by the end of the transition period. Hence, the UK and EU will be under time pressure to negotiate a (partial) trade deal. We think it is likely that the negotiations on the future-relationship will take longer – beyond 2020 – either by having an extended transition period or by agreeing on a roadmap of a number of partial deals over the next couple of years. Clearly, the risk of a "no-deal" scenario remains – especially if there is no extension of the transition period – and will remain a topic for financial markets in 2020.

Jordy Hermanns

About Jordy Hermanns

Investment Strategist