Europe: the ticking time bomb
Conservative Party conference, Manchester
Ruth Lea, Director, Global Vision
I shall address a quite specific problem today - Britain's economic relationship with the EU. Our current economic relationship is based on 2 things:
• The Customs Union
They are, in my view, both fundamentally flawed and will hold Britain back. This is one reason why this country must address its relationship with the EU and, in my view, negotiate a much looser, more modern relationship - more suited to the changing world economy in the 21st century. This should be a relationship based on free trade and mutually beneficial cooperation - whilst opting out of the political union.
2 The Customs Union
As any customs union, the EU's customs union has no internal tariffs but has a common external tariff (CET), or common customs tariff (CCT), on goods from third countries. A free trade area has neither internal tariffs nor common external tariff. In a free trade area the members, therefore, retain the right to decide their own tariffs against third countries whilst in a customs union they do not. Moreover, and crucially, members of a free trade area retain the ability to negotiate their own bilateral deals with third countries and have direct representation in the World Trade Organisation (WTO), whilst members of the EU's customs union do not.
The EU's Trade Commissioner negotiates the trade deals and has a seat in the WTO on behalf of all the EU member states including the UK. If we shared the same interests as other EU members, it could be argued - and often is - that this adds weight to our negotiating position in international organisations. In reality, however, other EU countries are inclined to pursue a much more protectionist agenda (especially regarding agriculture) which can act as a block to the EU as a whole agreeing to the kind of open market arrangements which the UK would favour.
The UK, despite the fact that it is the 5th biggest economy and the 3rd largest trading nation with unparalleled international links, is, therefore, unable to negotiate bilateral deals with the US (the UK's single biggest trading partner), China, India or any other country of special significance to Britain - not least of all the other major Commonwealth countries. In an age (arguably) of increasing bilateralism in trade deals and the resurgence of the Chinese and Indian economies the current situation is clearly sub-optimal for Britain. The EU customs union may have helped Britain in the 1970s, when tariffs were high. But now tariffs are very low (the CET is 1.5% to 3% & falling), and the EU's share of the world economy is shrinking, and will continue to shrink, it most certainly is not.
3a The Single Market: introduction
Now the Single Market which, is according to many, the "jewel in the crown" of the EU. If I may be allowed an autobiographical note, I was in the DTI when the Single Market ("1992") was being negotiated and marketed to businesses as a great new trading opportunity. The marketing declared that Europe was "open for business". The implication was that the Single Market was fundamentally a genuinely Anglo-Saxon style free trade area - with no regulatory strings attached.
But this was misleading - either deliberately so or, more likely at the time, because of disingenuousness - because the Single Market was never regarded as an Anglo-Saxon style "free trade area" by the other EU countries - especially by France.
There are 4 points to be made:
• Firstly, France and much of the rest of the EU don't actually want Anglo-Saxon style free markets - and never have done. They are regarded as "chaotic" and inherently unstable - as evidenced by the convulsions of the last 2 years in the world's financial markets - and therefore markets need heavy regulation.
The conclusion from Britain's experience about labour markets should surely have flashed "amber" that the Single Market is not an Anglo-Saxon style free market, never has been and never will be. And yet there is still a profound misunderstanding in this country that it is. I've still heard people say the Single Market is desirable - apart from the regulation. But the Single Market is quintessentially a heavily regulated market, favouring protectionsim, which undermines international competition. "You cannot have one without the other". Until we understand what the Single Market really is we cannot hope to really sort out our relationship with the EU.
3b Single Market: costs
And the Single Market costs. Current estimates of the costs and benefits of the single market for EU member states are available from EU Commission sources. Günter Verheugen (Vice-President of the European Commission, responsible for enterprise and industry) has estimated the cost of complying with EU regulations at as much as €600 billion a year (2006). This estimate is equivalent to 5.5% of EU GDP - equivalent to the size of the Dutch economy.
Meanwhile the benefits are much lower than the costs. According to the Commission the benefits could have amounted to €240bn (2006). An alternative Commission estimate of a boost to prosperity of €225bn in 2006 was quoted by the Treasury and the DTI in their 2007 analysis of the single market. But whichever figure is taken, it is clear that the costs comfortably outweigh the benefits by a factor of about 2 ½ to 1. This would be regarded in business as not sensible. But the EU is primarily not about business - and nether is the Single Market.
4a Financial services: the City of London
Finally I would like to say a few words about developments in the regulations and regulatory regime of the financial services, which I find extremely alarming but wholly unsurprising - in the light of my comments so far. But, firstly, note just how important the City is:
• It accounts for 3½% to 4% (3.7%) of UK GDP. It's a major tax payer, makes a substantial contribution to the Balance of Payments and is a major employer. Around 345,000 people work in wholesale finance and the professional support services.
4b Financial Services and the Single Market
Financial services came under the aegis of the Single Market when it was agreed to develop a Financial Services Action Plan (FSAP) at the Cardiff Summit in 1998, under the British Presidency, when Blair was PM. Since then there has been a blizzard of regulation. Doubtless there have been benefits - but in the absence of comprehensive CBA studies we cannot be sure what they are. But there are certainly costs. Open Europe estimated (in 2006) that the original FSAP's costs could be between £14bn and £23.5bn for the UK up to 2010. Suffice to say, costs will continue to be incurred past 2010.
But the most significant aspect of the FSAP was not the regulatory blizzard that emanated from the original plan in themselves. By signing up to the FSAP, Britain comprehensively handed over the regulatory control over the City to the EU. The UK is but one voice amongst 27 in the EU. Most of the 27 are not interested in, or understand and/or are sympathetic to the City. Some are downright hostile. Under QMV (for legislation) the UK has only 8% of the votes.
Concerning regulation there has been the hurried release of the draft Alternative Investment Fund Management Directive which relates to property & commodity funds, for example, as well as hedge funds & private equity.These activities are disproportionately important to the British economy within the EU. There have been many criticisms: (i) high compliance costs, (ii) protectionist - keeping out "3rd countries" that don't adopt equivalent regulatory burdens, (iii) restricts ability to invest in non-EU funds - such as in the emerging markets. Some funds currently based in the UK will simply leave the UK - and leave the EU.
4c The EU's supervisory powergrab
In addition to the extra regulations, there has been the EU powergrab for a direct supervisory role and the power to overrule national supervisory authorities. This is a new profoundly significant development. The proposed new EU supervisory bodies are:
• The "micro-prudential" over-arching European System of Financial Supervision (ESFS), concerned with individual financial institutions. The ESFS will comprise 3 supervisory authorities for banking, securities and insurance (European Supervisory Authorities (ESAs)). They will have legally binding powers over national supervisors on supervisory standards. Britain will have 1/27 votes.
This is a very worrying development. Inevitably the new-style authorities will accrue more powers over time, meaning less powers for the national authorities. In most EU countries this doesn't matter much - but it matters to Britain with its unique global financial centre. The government has confirmed the reality of this situation. In an answer to a written question in the Lords, Lord Myners (Financial Services Secretary to the Treasury) confirmed that:
• "The European Commission has indicated its intention to use Article 95 of the EC treaty as the legal basis for its proposals to establish a European System of Financial Supervisors. The European Commission has confirmed that day-to-day supervision of financial institutions should remain at member state level."
So there we have it from the horse's mouth. The FSA (and/or the Bank, if the Bank takes over supervision of the banking sector) will be responsible for merely the "day-to-day" supervision of financial institutions in the world's premier global financial centre. It's unbelievable that the government has agreed to this. But it has.
The ticking time bomb is going critical. For me the City is the final straw. Britain will have to make its mind up. Do we "put up & shut up" or do we say time for a change and go for a Swiss-style reationship, where we would have free trade & mutually benficial bilateral agreements but we opt out of the political union that is the EU.
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