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2 April 2019

Five main reasons why an EU Customs Union would be the worst choice of all

by Greg Hands

Originally published by Greg Hands.

Executive Summary

In the pages that follow I explain why staying in the EU’s Customs Union, while outside of the EU and without a seat at the table, would be one of the worst Brexit options.

There are very real implications for the UK’s future trade policy. In short, a Latvian MEP would have more say over UK trade policy than any elected politician in the United Kingdom. The negatives are both economic and political. Such an arrangement would be unsustainable in the medium and the long-term, as the effect of such a Customs Union – without a seat at the table – would be damaging not only for trade, but also for our businesses and for our foreign policy. There would be a massive democratic deficit when it comes to trade in this country, which would conflict sharply with both our tradition and our future as a free trading nation.

Whatever gains were to be made in the short term by securing supply chains and by preventing customs disruption would gradually seem smaller compared with the loss of trade opportunities, the asymmetric nature of trade agreements, the inability to properly defend UK industry from unfair trade practices and the acute loss of foreign policy influences. Even supply chains might actually benefit more, over the long-term, from cheaper imports of raw products where the UK is not a significant producer.

  • The UK has historically been one of the biggest advocates for free trade among the EU28. The EU27 is already becoming more protectionist. Yet we would be forced to follow their policies without a say.
  • The loss of influence that follows would also mean the UK’s interests when negotiating new FTAs with third parties like the USA, Australia or Mercosur are treated as subordinate to those of the EU27. UK defensive interests would be the first to be conceded in these negotiations, and UK asks the last to be prioritised.
  • Like Turkey, which is in a partial Customs Union with the EU, not only could the UK be forced to follow evolving EU legislation, including those on competition policy, state aid, rules for goods and discriminatory taxation, but we’d be bottom of the list for FTAs with third countries who already have a deal with the EU. Third countries will already have extensive access to UK markets, thanks to the Customs Union.
  • Trade defences would be run by the EU – likely without much consideration – or prioritisation – for the interests of UK industries. A recent DIT consultation showed the extent to which EU trade remedies are misaligned with UK interests, and demonstrated how much UK consumers – and businesses with global supply chains – could benefit from lower import tariffs.
  • Within a Customs Union we would have to follow the EU’s trade policy towards the developing world: when it comes to trade preferences, we could be overruled by protectionist voices of the EU27, who fear, for example, Pakistani or Sri Lankan production of garments could threaten their industries. There would be a huge loss of UK influence, particularly in Lower Middle Income Countries like India, Pakistan, Sri Lanka, Kenya, Nigeria and others, as the UK has been their best friend at the EU when determining these trade preferences. The UK can and does use this influence for leverage on other issues like security and migration. This will now all be gone.
  • Membership of the Customs Union would require harmonisation across technical rules for goods, and perhaps most pertinently on Sanitary and Phytosanitary (SPS) rules for agri-food. To use a popular example, the UK could decide in any future trade agreement with the US to accept chlorinated chicken or not – but if the EU chose to do so (which is currently highly unlikely), we would have to follow and have no say. But, meanwhile, circumvention of form-filling in other areas is not guaranteed.

That is why – for the reasons above and in what follows – I believe a Customs Union arrangement would be economically and democratically unsustainable and must be rejected once again by the House of Commons.

Introduction

The House of Commons voted narrowly in July 2018 to not be in a Customs Union with the European Union (https://www.bbc.co.uk/news/uk-politics-44864496), and again on the 27th March 2019. There are a number of political reasons why remaining in a Customs Union with the European Union are objectionable to many. Many would view this as being not true to the democratic vote of June 2016, meaning we would become in many ways a non-voting member of the EU. Others would object that this doesn’t allow us an independent trade policy, which would be incongruous for the world’s 5th largest economy.

These points have validity. But I wanted to study some of the details behind such a policy.

What Does the Customs Union Option actually entail?

Many voices in the House of Commons are arguing for continued customs union membership or for a Customs Union arrangement with the EU largely because of fears over the loss of free circulation. Firstly, this overestimates the cost of customs form filling which is electronic and declining in burden with newer technologies. Most importantly it fundamentally misunderstands that free circulation comes not from the Customs Union, but from the Sanitary and Phytosanitary (SPS) and Technical Barriers to Trade (TBT) rules of the single market. Therefore, to avoid any checks, the customs union logically means regulatory harmonisation for at least goods and agri-food. Even here, a Turkey style partial customs union would still require forms to be filled in (specifically A.TR – or ‘Admission Temporaire Roulette’ – certificates, which enable goods to qualify for tariff preferences on imports and exports between the EC and Turkey). So when we talk about the Customs Union and what it actually means, we need to be clear about it. It is this alignment with regulations in goods and agri-food that takes away our ability to do trade deals as much as it is loss of control of our tariff schedules.

What’s Wrong with the EU Customs Union?

What’s more, the EU27 will be significantly more protectionist than the EU28, once Britain’s voice is gone. The UK is always at the EU Trade FAC (Foreign Affairs Council) the most liberalising, pro Free Trade voice. I know, because for two years as Trade Policy Minister under Liam Fox, I was that voice! So instead of leaving the EU to become more pro free trade, we would be bound by a Customs Union to a body that is set to become more protectionist! Indeed, we are already seeing this happening, with France and Germany seeking to overturn competition rules to create “European champions” and changes to procurement rules.

We are, of course, already in the EU’s Customs Union, through our membership of the European Union. Every EU country is in the EU Customs Union. Further, no significant country outside of the EU is in a full Customs Union with the EU. Andorra and San Marino are, but it is worth noting that Norway or Switzerland are not, even though they have much closer relations with the EU than either major UK political party pledged to achieve at the last election. Turkey is in a partial customs union with the EU, but only for industrial and processed agricultural goods, and we will examine the Turkey case further below.

Labour’s policy of being in an EU Customs Union - with some kind of equal say as the EU - is nonsense.

The EU doesn’t allow anyone to have decision making powers in a customs union without themselves being a member of the European Union. Corbyn told the CBI in November, shortly after the publication of the draft Withdrawal Agreement, that he wanted “a new comprehensive and permanent customs union with a British say in future trade deals.” When launching the policy in February 2018, he said he wanted “a new customs union with the EU, that would give us a say in new trade deals.” This is ambitious, but wholly unrealistic. For the last 40 years, the UK has been a member, and has had one vote out of 28 on future trade deals. Corbyn implies that once outside of the EU, but somehow still in the EU Customs Union, the UK will have one vote out of two. There are no examples of any countries with any kind of customs union with the EU who have any say whatsoever in its trade policy. Now, we know that the EU is very keen on the UK joining a customs union, so it is conceivable that the EU could pledge to speak to the UK about its position on future trade deals, before the negotiations started, but as I outline below, the British asks are likely to be the ones discarded first in any negotiation. I discuss Turkey later, but it is integral to the Turkey partial customs union that Turkey accepts the burdens of any agreement that the EU negotiates and then has to negotiate deals for itself with no leverage at all. The UK would be in the same leaky boat in any customs union arrangement.

There are five principle reasons against being in a customs union with the European Union:


Being in a Customs Union would mean the UK having to align itself with the EU on tariffs and many other market rules. When entering into new trade agreements, the European Union negotiators can therefore offer access to the UK’s markets and 65 million consumers, without the UK having any say. Imagine the outcry if the EU offered access to foreign goods where there was no producer in the EU, but there was in the UK? There might well be job losses, and employees might well feel aggrieved that their elected representatives can do nothing about it.

1. The EU would negotiate other countries having improved access to the UK’s market and 65 million consumers, without the UK having any say.

This has profound implications for our democracy. Trade agreements are often controversial. There was outcry over the proposed EU – US Free Trade Agreement (more commonly known as TTIP), which was under negotiation 2013-16. The deal was ultimately aborted, but may soon be back under negotiation, as the US has again pledged itself to seek a deal. The deal was widely criticised particularly in Europe, including in the UK. At the time, the UK had influence on the deal, as the second largest member of the EU, but now, in a Customs Union with the EU, it would have none. Criticism in 2016 included the “secret” nature of the negotiations, “behind closed doors” and how MEPs were only able to view the documents in reading rooms. But if we joined a Customs Union with the EU, we would not even have access to the reading rooms, to the negotiators or probably any of the documents. During TTIP, it was the Labour Party that was most critical of the negotiations: yet now, they appear to be proposing a situation much worse.

Indeed, Labour objected to TTIP and more recently to CETA on the basis that the agreements would allow private US and Canadian companies to access our NHS. These fears were overplayed – nothing in any trade agreement prevents a domestic right to regulate. However, Labour’s policy appears to be now to allow others to negotiate these trade agreements with the US, but now the UK would have no influence at all at the table, and no access to EU papers (as a non-EU member state), even in a “secret reading room”!


Corbyn may imagine that the EU will act on his behalf, even when the UK cannot be at the negotiating table. But let’s think for a moment about what would happen in practice. Let’s say the UK ask was to lower tariffs on Scotch whisky or for better market access for financial products. Meanwhile, the EU would have its own list of dozens of asks. Any trade negotiator will tell you that they never secure all of their asks, and in return never give way to all of those from the other side. It is inevitable that the UK asks would be surrendered first, and the third party’s difficult asks which particularly affected the UK market would be agreed to first. The EU could effectively sell access to our agricultural, ceramics or automotive markets, but we would not gain any reciprocal access. What’s more, the UK would have no democratic recourse to anyone to complain.

2. There is no realistic likelihood of the EU taking on – or at least prioritising – specific UK asks when it comes to trade negotiations


Turkey entered into a partial Customs Union with the EU in 1995, based on the Ankara Agreement. The EU-Turkey Customs Union is a partial agreement and only applies to most industrial goods (where the EU generally has an advantage) and the industrial components of agricultural products. It excludes non-industrial agricultural products, coal and steel (all of which Turkey might have an advantage in, given its lower cost base). Goods within scope are not subject to tariffs or quotas for movements between Turkey and the EU. However forms (the A.TR movement certificates) must still be filled in.

3. The “Turkey Trap” – or how Turkey’s Customs Union with the EU obliges it to grant access to its 80 million consumers with no guarantee of anything in return.

Further, the Customs Union foresees that Turkey is to align to the acquis communautaire in several essential internal market areas, notably with regard to industrial standards. Turkey has no say over the setting of EU legislation and is obliged to accept large sections of the EU’s acquis including its future evolution. This includes:

a. Competition law: Turkey must satisfy core provisions of EU competition law and these provisions are to be interpreted in line with the EU treaties and secondary law.

b. State aid: Any state aid provided by Turkey must meet specific criteria that define its compatibility with the Customs Union, with provisions to be interpreted in line with the EU treaties and secondary legislation.

c. Technical Barriers to Trade: Turkey agreed to incorporate into its legal order the Commission instruments for the removal of technical barriers to trade. The subsequent list of these measures covered EU legislation across a broad range of manufactured goods including automotive, cosmetics, construction products, and electrical goods. As one example, Turkey has to comply with the Toy Safety Directive, which lays down the safety criteria that toys must meet before they can be marketed in the EU.

d. Intellectual Property: Turkey commits to adopt domestic legislation equivalent to EU legislation.

e. Automotive regulation: Turkey accepts that free movement of its automotive goods in the EU is conditional on its application of EU law harmonising automotive standards and type approval.

f. Discriminatory taxation: Turkey agrees to comply with provisions on discriminatory taxation to ensure the free movement of goods.

g. Trade defence legislation: Turkey agrees to consult and coordinate on provisions on trade defence legislation to ensure the free movement of goods.

h. Identical customs legislation. However, all movement of goods between Turkey and the EU still require customs declarations in order to distinguish between goods that are in scope and those that are not.

Turkey must consult the Customs Union Joint Committee when drawing up its own legislation with relevance to the functioning of the EU-Turkey Customs Union.

The agreement is controversial in Turkey, but was agreed to as the Turks at that time believed the EU was going to accept it as a member state. By the same token, the Turkish arrangement should not be a model for Britain – we are leaving, not joining!

Further, whenever the EU enters into a new trade agreement, Turkey must grant market access (e.g. because tariffs are set by its EU Customs Union), but the third party doesn’t have to implement the new market access for EU goods and services it has just granted to the EU to Turkey as well. Hence the asymmetry in the arrangement, or the so-called “Turkey Trap”. In practice, many countries entering into EU trade agreements then do negotiate a similar agreement with Turkey, but they don’t feel the need to be in a rush (after all, they’ve already just gained a great deal of market access to Turkey through its EU Customs Union). Turkey has FTAs with 19 countries. Of these, only two (Iran and Mauritius) do not have an FTA with the EU. To note:

Turkey runs an independent trade remedies system on goods destined for Turkey. For products destined for the EU (and covered by the EU-Turkey Customs Union), this system relies on additional administrative checks either at first entry into Turkey to distinguish between goods destined for Turkey and the EU, or during the customs checks between Turkey and the EU. I believe there are at least two cases where the third party has simply refused to do a deal with Turkey – Algeria and South Africa – even after they have concluded an EU trade agreement.

  1. Turkey has committed to pursuing similar preferential agreements to the EU, but is excluded from EU-third country FTAs and therefore must negotiate its own.
  2. There is little incentive for countries that have an FTA with the EU to offer Turkey preferential access to their goods. This is because Turkey must apply the Common External Tariff on goods within scope of the EU-Turkey Customs Union and these countries have preferential access to the Turkish goods market indirectly via the EU.

This is a big potential problem for the UK. We would be in a worse position than Turkey, both because our EU Customs Union would doubtless cover all goods and because the UK would probably have more difficult asks than Turkey. In short, when it comes to new trade agreements, tariff and other market access decisions made by the EU would have to be implemented by the UK. We would have no guarantee that the same privilege would be afforded to us.

Should it seek a Customs Union arrangement with the EU, the UK would, of course be in a different position to Turkey, both politically and economically. Nevertheless, some implications from the EU-Turkey Customs Union can be identified. These include the following.

Trade remedies have been in the news extensively since Donald Trump became US President in 2017. Punitive tariffs have been placed on goods from China, the EU, Canada and more, particularly in steel and, probably soon, cars. Currently in the UK, because all trade policy is an EU competence, all decisions relating to trade defences against unfair trade practices are taken in Brussels. There are more than a hundred such measures in place across the EU, notably in sectors like steel and ceramics. It is worth noting that these punitive tariffs are placed on specific products from specific countries, rather than sectors – e.g. cold-rolled flat steel from India, chamois leather from China, biodiesel from Argentina and so on.

  1. To be acceptable in the WTO, any potential Customs Union between the UK and the EU would need to cover “substantially all trade”.
  2. Subject to the position determined following negotiations with the EU, the UK would likely need to abide by the acquis across all sectors as Turkey does and any subsequent acts that amend, implement or supplement such legislation would likely be required to be simultaneously implemented in the UK.
  3. The UK would have to apply the Common Commercial Policy on goods in scope of the Customs Union without the ability to influence it. This would include the adoption of the EU`s Common External Tariff as well as the alignment to the EU`s customs legislation. This would limit the independence of the future UK trading position, reducing our Rest of World (RoW) negotiating capital and place additional restrictions on relative benefits that the UK is able to secure.
  4. If membership of the Customs Union required the UK to stay fully aligned to EU regulations, this would place significant restrictions on our RoW negotiating capital, limiting the outcomes that might be achieved with future trading partners, such as the US, in key areas such as agriculture and pharmaceuticals.
  5. Although the UK might not be required to harmonise trade defence instruments with the EU, it would likely be required to consult and coordinate and would have to apply the EU trade defence regime for goods arriving in the UK but destined for the EU.

4. Trade defences like anti-dumping would be run by the EU with the UK having no say.

For a full list of current EU trade remedies, see here.

To be WTO-compliant, trade remedies have to follow an investigation into dumping, subsidy, or some other unfair trading practice. Dumping (that is the sale at a lower price than in the country’s own domestic market) or subsidy (the government pays a company to lower the price of the product artificially). The EU’s Directorate General Trade is currently the UK’s trade remedies authority, at least until exit day, depending on any Implementation Period.

This may become a UK competence in just a few weeks. Dr Liam Fox and I therefore set about establishing our own Trade Remedies Authority (TRA) in 2017, and this is part of the Trade Bill currently advancing through Parliament. The TRA is based in Reading and is expanding quickly to fill a need, actual or potential. It consulted last year on the roll over of existing EU trade remedies, and found – from the evidence provided by businesses and others – that 66 of these measures should no longer apply after we leave the EU.

However, if the UK set up a Customs Union with the EU, these trade remedies would be highly likely administered by Brussels. It is not clear what right they would have to raise punitive tariffs beyond the shores of the EU. Or how investigations might be WTO-compliant, if they didn’t include an investigation into the UK market. There would be questions over whether UK producers – if we weren’t paying into the EU – would get the same degree of attention as those in the EU. It may even be that the EU would drag its feet over punitive measures on Chinese dumping of steel if the particular product were made only in the UK. Or in the opposite case – if the product in question weren’t made in the UK at all, yet UK consumers might benefit from that cheaper import. Either way, it is very hard to see the EU giving UK industries or consumers as fair a crack of the whip as those in the EU.

Moreover, here again a democratic deficit kicks in. Trade remedies would be determined in Brussels, without any UK say. Imagine the case where the EU didn’t apply remedies for a product produced only or largely in the UK, like certain types of steel. This could cost jobs, and those employees currently lobbying their UK MPs or MEPs (I know – the steel and ceramics lobbies in Westminster are strong, and rightly so) would have nowhere to go, if we were in an EU Customs Union. The decision would be made in Brussels, and the UK would have no say. It is hard to see why any MPs representing steel and ceramic producing constituencies in particular, would favour such a Customs Union. It would be unsustainable for both economic and political reasons in the medium term.

Asymmetric trade preferences are given by developed countries to goods from developing countries, to benefit exporters from poorer countries. This is an exception to the usual Most Favoured Nation (MFN) rule at the World Trade Organisation. Under the WTO agreements, countries cannot normally discriminate between their trading partners. Grant someone a special favour (such as a lower customs duty rate for one of their products) and you have to do the same for all other WTO members. This principle is known as most-favoured-nation (MFN) treatment. The members of the World Trade Organisation (WTO) agree to accord MFN status to each other. Exceptions allow for preferential treatment of developing countries, regional free trade areas and customs unions.

5. Trade Preferences for the developing world would be decided in Brussels, with no UK input, with a catastrophic impact on UK influence

The EU operates a comprehensive system of trade preferences, with broadly three levels, starting with the most generous: Everything but Arms (EBA) to the Least Developed Countries (which allows everything except arms to be imported duty and quota free), and GSP (General Scheme of Preferences) and GSP+ to Lower Middle Income and Middle Income countries. 49 countries are in EBA (e.g. Haiti, most African countries, Bangladesh, Burma). 13 countries are in GSP (including India and Indonesia). 10 countries are in GSP+, which is a more favourable treatment than GSP (including Pakistan and Sri Lanka).

GSP+ in particular is a very interesting scheme, as it grants a more preferable trading relationship in return for those countries adhering to certain international conventions in human rights, labour laws, the environment and more. The EU carries out an assessment of each country on a regular basis and this can be very controversial. In the case of Sri Lanka and Pakistan, focus will be on their human rights and labour laws. The European Parliament takes a strong interest in these questions, either through its Trade Committee, its Foreign Affairs Committee or through MEPs in general. Many of the more protectionist EU countries dislike some of the schemes, fearing for example Sri Lankan or Pakistani clothes competing with their own garment industries.

These schemes have also faced some criticism in this country, from two angles. First, some EU critics see them as driving production in the developing world towards raw material production and against finished products. Second, some development activists think they should be more generous still.

The UK currently takes a full role in these schemes. In fact, the UK is the most influential country in these schemes in the European Union. Not only is the UK typically the largest EU importer from the developing world, but the UK has the soft power to be able to assess compliance with human rights and other regulations, particularly in the GSP+ category. In Brussels, the UK is the best friend of developing countries. When Pakistan faced flooding and member states requested a waiver for its exports beyond the GSP+ scheme, Portugal and Greece objected for protectionist reasons.

In fact, most of the objections to the EU’s scheme of preferences from within the EU have come from protectionist countries, typically from Mediterranean ones defending their garment industries from South Asia or agricultural interests. The UK has been the strongest supporter of poorer countries seeking to export into the EU.

After Brexit, another key part of the Trade Bill is to roll over the EU’s schemes of trade preferences to be UK schemes on exit day, or at the conclusion of any Implementation Period. The Department for International Trade has always taken the view that it will roll over first, and then seek to make more liberal or generous. This has always been my preference and one shared by Dr Liam Fox, and would be good news for the UK’s friends in the developing world and for our foreign policy influence.

However, all of this would be in vain if we joined a Customs Union with the EU. Trade preferences would all be decided in Brussels by the Commission and the EU27 at Trade FAC (where I was the UK representative 2017-18). Trade preferences would become less generous. The UK would be forced to follow.

Moreover, this has a significant impact on our foreign policy. Currently, the UK uses its trade liberalising voice within the EU as leverage in those countries. Many countries in GSP+ in particular know that the UK is their main backer when it comes to seeking EU agreement that they are in conformity with the provisions of GSP+. I know, because I have been in the room. Our High Commissioners in Islamabad or in Colombo can use this leverage to help other key UK asks, like in security, counter-terrorism, anti-corruption and post conflict peace.

Moreover, many of these countries have big diasporas in the UK. Many of these diasporas are doing a lot of trade with their countries of origin. Many more are looking to do so post-Brexit. They wouldn’t understand if the UK were to have no say whatsoever on its own trade policy with India, Pakistan or Sri Lanka after Brexit. Bangladesh would be similar, as it will soon reach a stage of development to allow it to leave EBA and enter GSP+.

In other words, being in an EU Customs Union would lead to a sharp decline in UK trade influence in many key developing countries. It would lead to a sharp decline in political influence too. Yet these are the very countries where the UK wants to maintain or enhance its influence! Remarkably, it is the Labour Party which now has this reduction in our links with developing countries in south Asia and Africa as their official party policy!

Conclusion

It is remarkable that Labour has chosen this policy. It has some superficial attractions – it allows the flow of goods between the EU and the UK to be more frictionless, without having necessarily to sign up to free movement (although Labour seems to be in favour of this as well). But being in a Customs Union with the EU would be a disastrous policy choice. Whatever gains were to be made in the short term by securing supply chains and by preventing customs disruption would gradually seem smaller compared with the loss of trade opportunities, the asymmetric nature of trade agreements, the inability to properly defend UK industry from unfair trade practices and the acute loss of foreign policy influences. Some might prefer to take the long term pain for the short term gain, but in the medium to long term, I strongly believe that such an arrangement would be economically and democratically unsustainable and must be rejected once again by the House of Commons, if it gets put to the vote again.



Greg Hands

Greg Hands is MP for Chelsea and Fulham, and a former Minister of State at the Department of International Trade

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