Going global after Brexit? Three key principles for the UK and its role in the international trading system

The UK has begun its first working week since it has ceased to be a member of the European Union. Though in most practical ways not much has changed for now, the UK will speak in its own capacity on matters of international trade. On the evening of 31 January the UK  formally notified the WTO of its departure from the EU. Its representatives in Geneva and worldwide have started to stake out the UK’s position independently of the European Commission.  But what are the key principles the government should think about as it sets about “going global”?

Going global starts at home

Perhaps the most fundamental insight to emerge, over the last two decades, from research into international trade is the importance of microeconomic factors. Specifically,  productivity and skills in firms and workers. Productivity has long mattered to economists because, as Paul Krugman once pointed out, it is “nearly the whole story” when it comes to raising living standards. Trade policy economists have in turn pointed to the role greater openness to trade plays in raising productivity.

But what the research also shows is that it is the more productive firms that stand to gain from the opportunities from greater openness. They expand, and search for more productive and skilled workers. To retain them, they pay these workers more, something they can afford to do. By contrast, lower productivity firms exit, and the pay of less skilled and less productive workers drop.

So if the UK is to go global, it must think about what policies are needed at home to raise productivity, create skills, and match workers with these skills to the firms that need them. That task is difficult in and of itself, and becomes even more complicated when one takes into account that there are big regional disparities in all these matters.

These disparities were one factor in driving Brexit. If the government does not want the Brexit vote to be channelled into a more general backlash against global trade – as we have seen in the United States – then it will have to address these disparities. This requires more than throwing cash at communities, and large-scale infrastructure projects. It requires a more mission-oriented approach to innovation and dealing with the factors that are holding back firm-level performance.

A more activist policy stance would need to navigate constraints placed by various sets of international rules on state intervention. EU state-aid rules have dominated recent discussions as the EU wants these as part of level playing field requirements it insists must be part of any future UK-EU agreement. But these aren’t the only rules. The WTO’s disciplines on subsidies target subsidies that are specific to industries (including, potentially, regional subsidies) and that cause adverse effects to partners. And the issue of subsidisation has globally become a hot topic, and one the UK will need to engage with.

Rules rather than expediency

The UK will engage in its own right with the WTO at a time when the multilateral trade  system is arguably at its lowest ebb since its inception. Multilateral trade negotiations remain in suspended animation. Protectionism world-wide is high and growing. The WTO’s dispute settlement system has been damaged by the blocking by the United States of  appointments of arbitrators to the WTO’s Appellate Body. And the emergence of China, partly on the back of an activist-state model of industrialisation, had led to moves by other trade partners to consider how WTO rules should be changed to deal with perceived distortions created by state intervention.

Securing the health of multilateral rules is clearly in the interest of the UK as it winds back its level of integration with one large trade block. The UK as a G-8 nation will wield influence. Over the years the UK has also established a reputation for steering the WTO towards greater openness, and also more inclusiveness, notably by playing a leading role in the Aid for Trade agenda and by presenting itself as receptive to the concerns of developing countries. The WTO system affords opportunities for specific countries to wield influence as bridge-builders, and the UK has capital to draw on.

The main challenge for the UK will be how to square its multilateral ambitions with its stated desire to sign multiple preferential free trade agreements. The two are  not necessarily mutually incompatible – if only because WTO rules expressly allow for FTAs. The issue is more that the geo-politically driven nature of FTAs may present the UK with uncomfortable choices.

Take the much touted FTA with the United States. The US push for  FTAs is part of a wider strategy by the current US administration to reduce the relevance of multilateral institutions in favour of bilateral arrangements which it sees as being more favourable to the US. This is not a development that would favour the UK. Indeed a weakened WTO and stymied dispute settlement system further reduces the UK’s bargaining power vis a vis the US (or any other large trade partner).

These factors will weigh on UK’s choices within the WTO.  Will, for example,  the UK seek to join the alternative system for appeals initiated by  17 WTO members, including the EU, or will this be seen as antagonising the US? Will the UK push hard on the Japan-EU-US initiative on targeting distortions (read, China’s approach to trade), or will it want to tread softly on this issue, to preserve its own scope for policy activism and/ or maintain good relations with China in a bid to securing a FTA with it?  In digital matters, will the UK prioritise global rules, or will it align itself to the US or others trying to set rules in a manner that will create a competitive advantage to their businesses.

The main challenge for the UK will be to ensure that a principled commitment to a rules-based system is not overrun by political pressures to conclude “deals”.

Harnessing disruption

The stresses on the WTO have come from a variety of sources. The rise of protectionism, driven by the unequal distribution of openness to trade, is one. The rapid rise of China is another. Two others are, respectively,  climate change, and the digitisation of production and trade.

Climate change interacts with trade in a number of ways. First, disasters related to climate change can disrupt trade. Over the longer term, changing climatic patterns will alter patterns of comparative advantage. Secondly, efforts to reduce emissions raise trade issues because of fears that different levels of stringency in emissions targets distort world trade and causes activity to “leak” from more stringent to less stringent ones (the concern dovetails with level playing field concerns more generally.). The EU is calling for carbon border tax measures.  In general one can expect a push for trade instruments to deal with leakage concerns, if not also to punish countries that do not sign up to reduction commitments. That will increase stresses on WTO rules which lack clarity on these matters.

Digitisation is breaking down traditional distinctions between goods and services, and between services themselves. These distinctions have long been the currency of negotiations since they have played into the “bartering” approach to trade, fond of negotiators. The time is ripe for an overhaul of rules that in many cases have been overtaken by reality. But this will also require addressing issues beyond  trade such as competition policy, taxation, data regulation and protection and consumer matters.

The confluence of these issues seems daunting. However it is also worth remembering that disruption also creates momentum for rule making. The Uruguay Round – the last big episode of multilateral rule-making in trade – was launched in the mid-1980s against a backdrop of a debt crisis, heightened protectionist sentiment in the US against Japan and the newly industrialising countries of East, and rapid domestic policy liberalisation in the West.

The UK and other like-minded countries – such as Canada, Switzerland,  Singapore, Chile, New Zealand – could play an important role in structuring trade rules that are responsive to sustainability issues and reflect the reality of the digital era.

In conclusion, the post-Brexit period will open up possibilities for the UK in international trade policy and diplomacy. Seizing them will require a principled approach that begins with an assessment of how trade policy can raise domestic living standards, and then progresses to strengthening the international system of rules that helps put trade and trade relations on a stable and predictable footing.