Good evening, ladies and gentlemen. I am very grateful to the IEA for inviting me to join such a distinguished panel this evening.
As recent polls have shown, there is strong support for seeking to negotiate the fundamental changes to the EU that the Prime Minister outlined in his great Europe speech two months ago. I think what most people want is to stay in the EU just for trade without all the Brussels directives and regulations covering areas that are nothing to do with trade.
But I see no hope of being taken seriously by our European friends unless they can see that if we don't get what we want we would be prepared to leave the EU altogether. For that purpose we need a negotiating fallback plan.
Unfortunately, it's a serious over-simplification to say "Well, let's be like Norway or Switzerland". Neither country's relationship with the EU is at all comfortable when you look into it.
Nor do I think we could just leave the EU unilaterally. It's all very well to say the EU's average tariff on manufactured goods is only 2½ per cent. So what would it matter if we just walked out and had to learn to live with the same tariffs that the USA, Japan and China face exporting into the EU? But that 2½ per cent is just an average.
Roughly half our manufactured exports into the EU would be duty-free if we left it. But, arithmetically, the other half would suffer an average tariff of 5 per cent. In particular, the EU's 10 per cent tariffs on car imports would be completely unacceptable to Toyota, Nissan, Honda and BMW.
And we shouldn't imagine we could do a special zero tariffs deal with the EU on car trade only across the Channel as that would be illegal discrimination against other countries like the USA and Japan under the World Trade Organization Agreements.
So the conclusion we have reached is that if we do ultimately determine to leave the EU it would be essential to negotiate a new cross-the-board preferential trade agreement with it. And that negotiation must start with Germany as the EU's most powerful country.
Under the WTO Agreements only two types of preferential trade agreement are allowed for merchandise trade between developed countries – customs unions and free-trade areas.
The EU is a customs union, not a free-trade area. The distinction is vital, but many people do not understand it. For anyone interested there's a one pager here on customs unions, free-trade areas and the crucial subject of rules of origin, and it's also on our website. But in essence, as the WTO defines it:
A customs union is where a group of countries agrees to:
- eliminate duties on substantially all trade in goods between them, and also
- imposes a common external tariff (or tax) on substantially all goods imports from outside the customs union
Note that with free movement of goods across borders the EU has gone well beyond the normal WTO definition of customs unions.
- A free-trade area is where a group of countries agree to have duty-free trade between them in substantially all goods produced in their region. But they retain control of their trade relationships with other countries. The best known example is the NAFTA.
To decide whether goods have been produced in a free-trade area, "originated" to use the technical term, you need pesky things called rules of origin. They are technical, complex and often difficult for even experts to understand. Anyone interested should read the research paper on our website on "Rules of Origin in EU Free Trade Agreements".
The other day, you may have seen Herr Schäuble, Germany's Finance Minister, quoted as saying that Britain leaving the EU would be catastrophic. He does have one very good reason for holding that view.
If we left the European customs union the Northern liberal bloc of EU member states, currently led by Germany and the UK, would lose its blocking minority on the Council of Ministers. But the protectionist Mediterranean bloc led by France, Italy and Spain would retain its blocking minority.
It would indeed be a disaster to let the protectionist countries get the upper hand in Europe.
Sooner or later Angela Merkel must grasp how wrong it would be to seek to coerce Britain into full political integration with the EU against the will of the British people. Once she does, I believe she will warm to the idea of the UK staying in customs union with the EU, on a new inter-governmental basis outside the EU but with full voting rights on trade matters.
For the UK, I believe that staying in customs union with the EU, "Staying in Europe for Trade" as we call it, would be the best possible outcome starting where we are now. Let me list four principal advantages:
We would retain free movement of goods with the EU. Switzerland and Norway, by the way, do not have free movement of goods with the EU. Their exports are only duty-free if they comply with the relevant rules of origin.
I hate to think how the foreign investors who dominate car, food and chemical manufacturing in the UK would react to the prospect of having to test all their trade across the Channel, both ways, against EU rules of origin. It's about psychology as well as economics.
There would be hardly any disruption to trade and investment, and therefore minimal uncertainty in advance about the consequences of the UK leaving the EU
We could continue to participate in:
- the EU's free trade agreements with countries like Switzerland, Norway, Korea and Singapore, and
- the new free trade agreements the EU is negotiating with countries like India, the USA and Japan.
We would retain a voting say in Europe's future where it matters for us, trade.
Nor, I think, is it correct to suggest that British exporters are held back by the UK being in customs union with the EU. Over the last five years*:
- UK goods exports to the rest of world have increased by 57 per cent. whilst
- UK service exports to the rest of the world have increased by 62 per cent.
So, to summarise, I think that "Staying in Europe for Trade" on the basis I have outlined is:
- Saleable to the UK business establishment and to all the foreign investors whose presence here is so essential to the UK economy
- The best option open to us.
* Over the last five years means 2007-12 in the case of trade in goods and 2006-11 in the case of trade in services.