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image of Ilona2 November 2017

Ilona Serwicka is Research Fellow in the Economics of Brexit at the UKTPO.

As the United Kingdom is preparing to leave the European Union, Government policy is to seek a deep and comprehensive free trade agreement with the EU. But Brexit talks have not moved onto the trade issues yet and even if the future trade relationship is taken up in December, this gives little time and offers no guarantee that an agreement will be reached and ratified before 29 March 2019, the Brexit date. The Government has recently recognised the possibility that talks might break down and started to outline a ‘no deal’ vision of the UK-EU trade.

Our analysis reveals that unemployed households, those with children, and pensioners will all fare off worse than average in the case of a ‘no deal’. A new paper, Will Brexit Raise the Cost of Living? by Stephen Clarke, Ilona Serwicka and L. Alan Winters, and published by the National Institute Economic Review, looks at the impact that imposing Most Favoured Nation (MFN) tariffs on UK imports from the EU would have on the price of goods sold in the UK and the average cost of living.

Leaving the EU with ‘no deal’ would mean that the UK and the EU would be obliged – under World Trade Organisation (WTO) rules – to impose the same tariffs on their mutual trade as they impose on imports from the third countries (those not covered by preferential trade agreements).

The government’s intention is to adopt the MFN tariffs currently imposed by the EU, and if these were imposed it would cost more to get many goods onto our supermarket shelfs – because a lot of what we buy in the UK comes from imports and a lot of these imports come from the EU. In our analysis we analyse how Brexit will affect the prices of goods (but not services) that compose around 40 per cent of what the average family consumes. A typical shopping basket of these goods worth £100 would now cost another £2.70 just to cover the cost of tariffs, even after consumers have substituted non-EU goods for EU ones to a plausible extent.

The average increase in spending will vary from household to household, however, depending on what these households tend to consume. For example, households headed by someone who is unemployed spend an average 15.7 per cent of their total weekly expenditure on food, whereas households headed by someone in full-time work spend an average of just 9.8 per cent. And as food prices will go up by more than those of manufactured goods this means that unemployed households will face larger increases than those headed by someone in full-time work.

The research shows that across different categories of goods there is a significant variation in how much tariffs and prices will increase if the UK and the EU start to trade on MFN terms.

Figure 1: Tariff and price rises under the ‘MFN Brexit’

In case of ‘no deal’, tariffs on dairy products from the EU will go up by 45 per cent and meat from the EU will be subject to an average tariff of 37 per cent. Subject to the largest tariff rises, prices of dairy products are expected to increase more than other products (8.1 per cent). Manufactured and non-food items will face smaller price rises – cost of transport vehicles will go up by 5.5 per cent on average, clothing and footwear up by 2.4 per cent.

These price rises will have a significant effect on living standards. The research estimates that an annual spending for the average family in the UK could rise by around £260 per year – an average increase in the cost of living of slightly over 1 per cent. But for some 2 million – or 8 per cent – of UK households, Brexit could push the average cost of living by 2 per cent or more. Within this group there will be some very rich households – but also some households that already struggle to make ends meet.

Figure 2: Distribution of price changes for UK households

Overall, a ‘no deal’ outcome would most negatively affect unemployed households, those with children, and pensioners – while households headed by someone in full-time employment or by a single person with no children will be proportionally less affected. This suggests that there is a risk that economic inequality – a factor that may have contributed to a Brexit vote – may be exacerbated further by the UK’s withdrawal from the EU.

None of the post-Brexit trading arrangements – other than maintaining the status quo (which the UK Government rules out) – could deliver frictionless trade arrangements to a greater degree than those currently in place between the UK and the EU. But in order to minimise the negative effect of Brexit on households up and down the country, the UK needs to ask for an extension of the Article 50 negotiations and a transition period that preserves the status quo for as long as it takes to negotiate a new deep and comprehensive trade agreement with the EU.

See also

 

Disclaimer:
The opinions expressed in this blog are those of the author alone and do not necessarily represent the opinions of the University of Sussex or UK Trade Policy Observatory. 

3 Comments

  • Dick Rampling says:

    Thank you for an interesting factual article. The result of your work does not really surprise me; isn’t it always the least well off members of society who suffer the most?!
    One factor which you didn’t mention, but which does have an influence on the cost of living in the UK, is the £ / € exchange rate. As widely reported this has worsened since June 2016 and may well deteriorate further when the terms of Brexit are known. Thus your forecast price increases may have to be revised upwards even with MFN trading status. Did you assume a steady exchange rate?
    As a pensioner expat living in Germany I am well aware of the Brexit effect on the number of Euros my UK pension buys me!
    Thanks and best wishes
    Dick Rampling

    • Ilona Serwicka says:

      Thank you for your positive feedback on the blog. The modelling exercise is silent on the effect of exchange rate on prices, and therefore it is one of the reasons why our estimate of the price effect of Brexit is very conservative. In the paper itself (there is a hyperlink in the blog), we do elaborate on how devaluation of sterling has fed through into price changes for different categories of goods – but this is based on the past trends (June 2016 – August 2017) rather than forward-looking.

  • Sagesse says:

    The article is predicated on this: that “The government’s intention is to adopt the MFN tariffs currently imposed by the EU”, however the linked article makes it clear that that is only intended to be a starting place to ease transition to independently exercised WTO membership. The subsequent price of food will depend on the decisions taken after that, and cutting food tariffs selectively (by product, obviously) is perfectly legitimate provided that the MFN principle is upheld. So hypothetically the UK could -for example- cut tariffs on all those imported foodstuffs not produced in the UK without affecting UK farmers. Or it could trade off farmers’ incomes against food prices. There’s a huge range of possible responses which this summary does not suggest have been considered.
    Moreover the future prices of UK food will also depend on the production response of the UK farming industry. Higher prices would obviously call forth some additional production, and logically prices (for domestically produced food would – behind a tariff wall set at current EU rates- therefore settle somewhere between current prices and the levels suggested.

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