The United Kingdom is set to leave the European Union in March 2019. Our research suggests that all likely Brexit outcomes will entail an economic cost for the UK, and these costs would be unevenly spread across different sectors and regions.
The UK’s membership in the EU means that the country enjoys a frictionless trade arrangement embodied in the EU single market and customs union. After exit, barriers to trade in goods and services would increase while labor mobility would fall.
This matters because the EU is the UK’s largest trading partner, accounting for nearly half of the UK’s trade in goods and services. For example, 56 percent of cars produced in the UK are exported to the EU and about ¼ of UK-produced financial services are related to EU clients.
A frictionless border has enabled UK firms to specialize in activities in which they have comparative advantage and the greatest value added. EU membership had also stimulated foreign direct investment as firms invested in the UK as a base to access the single market, while free labor mobility enabled the UK to hire talent from across the EU.
The costs of different Brexit outcomes
Leaving the EU will inevitably reduce or eliminate some of the benefits of frictionless trade. Our study estimates the potential impact from higher trade barriers, lower migration, and lower FDI flows for each economic sector in the UK. For simplicity, we assume that trading relations with non-EU countries remain unchanged.
The EU is the UK’s largest trading partner, accounting for nearly half of the UK’s trade in goods and services.
Since the specific nature of the new economic relationship between the UK and the EU is still unknown, we present estimates of the long-term economic impact under two illustrative scenarios for the post-Brexit relationship.
Our estimates of the long-term effects of Brexit on the UK economy are similar to those of other analysts.
The economic impact of the deal agreed at the November 2018 EU summit is not modelled; however, our FTA scenario falls in the spectrum of economic outcomes consistent with the Political Declaration.
The Brexit impact would differ across sectors
Sectors with stronger trade links with the EU, larger increases in either tariffs or non-tariff costs, or greater sensitivity to price changes would be more affected.
What does Brexit mean for employment?
Brexit may usher in a prolonged period of higher structural unemployment, reversing some of the impressive employment gains of recent years, as workers separate from highly-affected industries but move only gradually to less-affected sectors and regions.
Active labor market policies such as retraining and assistance with job placement will be critical to facilitate the relocation of workers. The key is to support workers, not specific industries or jobs. Making credit more easily available to entrepreneurs would also enable people to respond flexibly to the new economic reality and increase their productivity. Efforts to boost housing supply should continue to help workers move from more negatively-affected regions to areas where jobs are more plentiful.