Want To Save Britain's Economy? Vote To Stay In Europe.

As each day passes the EU referendum draws ever closer, a referendum whose outcome will undoubtedly have huge impacts on both the economic and political landscape of the whole country for years to come. A huge part of the debate that’s raging is over the political repercussions of either outcome, much of which focusses on our political sovereignty and by extension the central issue of ‘regaining control’ of our borders. I’m not going to address the potential political outcomes (the endless rhetoric clouding politicians’ true intentions makes this nigh-on impossible anyway) but instead I will focus on the economic aspect of this debate. In doing this I will seek to answer one key question: which option should the people of the United Kingdom take to ensure economic prosperity going forward?

There is no precedent to the situation the UK finds itself in, therefore nobody can state empirically exactly what the outcomes of each choice are. The complexity of prediction is further hampered by the range of trade deals the UK has if it does choose to leave, but that’s not to say we can’t build models to predict at the very least the net effect of the outcomes – whether they are positive or negative. Economically, we can split the potential impacts of a ‘Brexit’ into the short and medium-to-long term, with different potential issues presenting themselves in different time frames.

Author’s Own Calculations using data sourced from ONS

Short term issues are already presenting themselves. The referendum is still a month off but the mere possibility that the UK could leave the EU is already having tangible economic repercussions. We saw a negative trend in GDP growth in the first quarter of this year, with growth falling 0.2% compared to final quarter of 2015, and UK industry has fallen into recession after two successive periods of negative growth in Q4 (the fourth quarter) of 2015 and the Q1 in 2016. Though it would be both naïve and plain wrong of me to attribute this growth slowdown completely to uncertainty, it is at least partly responsible. If seen in the results for the second quarter of the year, it does pose a question – if we’re seeing this kind of trend in an economy which is merely discussing the possibility of abandoning the status-quo, then what results will we see if the UK does actually vote to leave? Further slowdowns in growth, coupled with a very real possibility of contraction of the economy are the most obvious guesses.

The uncertainty goes further. We’re already starting to see markets pricing the risk to the economy, the most obvious of which is in the CDS spreads (Credit Default Swaps – essentially the cost of insuring UK debt against a default). The spread allows the cost to be compared to other economies and the Eurozone to see how the market is pricing the individual risk of default). In the 6 months to April 2014, costs have nearly trebled, nearly reaching the Eurozone level as a whole and overtaking both the US and Japanese cost. What does this mean? The markets see the country as a risky prospect, the problem with that is that businesses don’t invest in a risky economy.

Kierzenjowski et. Al (OECD)

The long term effects are perhaps more of a significant worry, however. One such effect is the predicted impact on Foreign Direct Investment (FDI) – investment by foreign investors in UK businesses or other entities. The scale of FDI in this country is huge, with FDI stock estimated to be over £1 trillion and roughly half coming from within the EU. Part of the appeal for non-EU investors is the UK’s access to the single market – access which we may or may not have if we choose to leave. EU membership has had a huge effect on the level of FDI – the Centre for Economic Performance estimates that membership has increased FDI by around 28%. 

But why does it matter? What impact will this have on our everyday lives? For a start, studies have found that (for varying reasons) FDI has (among others) the benefit of enhancing productivity . This would suggest a positive correlation between GDP and FDI levels and empirically we find that to be the case, especially in an economy with such a large service sector.

Based on a conservative model, if the UK were to leave the EU, we would expect to see a 3.4% reduction in real incomes, a loss even greater than the anticipated drop in trade and a figure which translates to £2200 per household – not small change.

Another issue I want to just briefly address is the supposed reduction in the contribution to the EU budget. The net contribution to the EU budget, once total public sector receipts have been applied, was £8.5billion in 2015- but it is a fallacy to think we will no longer have to contribute to any organisation should we leave the EU. There are thought to be four options for trade agreements – the Norwegian Model (joining the European Economic Area), the Swiss Model in which they negotiate individual treaties to take part in any initiatives, re-joining the Free Trade Association (FTA) or trading through the World Trade Organisation.

I don’t have time to describe exactly what each one entails- it’s safe to say each comes with its own disadvantages- but I’m going to briefly describe how their contributions compare to ours. Norway are part of the European Economic Area; essentially this is just jargon for saying they are part of the single market but not full paid-up EU members. Compared to the UK, the net contributions are only 17% lower and come with disadvantages in the form of having no influence over EU decision making and potentially facing higher costs in trade.

The Swiss Model is significantly ‘cheaper’ than the Norwegian model- it’s estimated that the contribution to the EU budget is 60% lower than the UK’s contribution per capita. However there’s no guarantee of market access that the EU provides, and again, the UK is shut out of influencing key EU decisions.

Rejoining the European Free Trade (FTA) agreement is the third option and, though there is no obligation to contribute to the EU budget, increased non-tariff barriers between the UK and the EU are likely to arise, as well as greater restrictions on the free movement of people (it’s worth remembering that migration has been found to have a positive net effect on the economy).

The final option is to be governed by the World Trade Organisation. This would increase the cost of exporting for UK firms relative to the EU, there would be no right of access to EU markets and the same issue with free movement of people that was present in the FTA would also apply here.

The conclusion of all this? There are trade alternatives that the UK could choose to pursue but each one has its flaws. For some, this is the insignificant reduction of contributions to the EU budget, for others it’s the increased difficulty and cost of trading within Europe. There’s no straightforward alternative.

I said that I wasn’t going to talk about the political side of this argument but I feel I must say something brief in conclusion. Economically speaking, this decision appears to be a no-brainer – the net effect of being in the EU on the UK economy is positive. However, this debate is a wider discussion than just the economic consequences and I understand that the political landscape and ‘ever-closer union’ that the EU appears to be striving for is a potential cause for concern and there are countless other issues that will influence the way people vote. All this means that I think the decision over whether to leave the EU will come down to one key battle – nigh-on ensured Economic prosperity, or political sovereignty. Which will you choose?

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Mythbusters: Brexit Edition

People have been clouded by scaremongering that has prevented us from getting to the real debate of Britain's EU membership, says Matt Walton. Today, he seeks to set the record straight on this key issue.

The debate surrounding the economic implications of Britain leaving the EU has so far been dominated by both sides trying to outdo each other in terms of scaremongering. “Brexit could cost £100bn and nearly 1m jobs” say the EU-funded CBI one week. “EU policies threaten to cost Britain £9,265” says the IEA the next. It is perhaps no wonder that many voters feel a little bit unsure about who to trust. The announcement this week that the government would spend £9.3 million on a pro-EU leaflet to every household meant that they had another organisation to add to that list of scaremongers. In this piece, I will attempt to draw together the economic arguments for Britain to leave the EU while rebutting some of the outlandish claims of the ‘In’ side. Before starting, however, I have a slight admission: My main motivation for wanting to leave the EU is not economic, but rather democratic. I fundamentally believe that we must leave so that we can hold those who make our laws accountable. However, given that this is an economics blog site, I will focus on the potential economic benefits which this country could enjoy.

Naturally most of the economic arguments surrounding the debate concern Britain’s trading relationship with the EU if we vote to leave. Trade is what the EU is all about after all, isn’t it? Campaigners on the Remain side have said that Britain would struggle to negotiate a favourable trading arrangement if we leave. That Britain is a relatively insignificant market for the EU and it would therefore be the EU which dictates the conditions of the deal, not the UK. This is incredibly misleading. Firstly, on the day that we vote to leave the EU, we become the EU’s largest export market for goods. Moreover, we currently export goods and services to the EU to the value of £228.9 billion per year whereas we import £290.6 billion of their goods and services (2014 figures). This means that we have a trade deficit with the EU of £61.7 billion. At a time when the EU struggles to shake off the remnants of the Euro crisis and when growth is still sluggish, can you imagine any desire on the EU’s part to forfeit this huge source of income?

Let’s suppose, however, that Britain does not reach a trade deal with the EU. A worst-case scenario, where the EU member states close ranks and say: “We won’t give you a trade deal, if you’re out you’re out.” Aside from being a particularly unlikely outcome, it’s also not a particularly damaging one for the UK. In this situation, the UK would revert to the rules of the World Trade Organisation (WTO). WTO rules dictate that tariffs on most goods must be between 1% and 3%. Let it be reminded that this is the minimum standard. In other words, almost negligible. The only areas where this is not the case is a) cars and b) agricultural products. 

But any tariffs the EU imposes on Britain will be matched by equivalent UK tariffs on EU products. Who makes wine and cars? Answer: the Germans and the French – the two countries who dictate EU policy more than any others. The German car industry alone, would be at risk of facing reciprocal UK tariffs on the £16 billion market for German cars in the UK. Almost 1/3 of the new cars sold in Britain come from Germany. You can be sure that, if we vote to leave, the heads of BMW, Mercedes, Volkswagen and the rest of the hugely successful German car manufacturers will be in Angela Merkel’s office the next morning saying “We need tariff-free access to the lucrative British market.” It is inconceivable, therefore, that a trade arrangement between the UK and the EU would not be reached.

If countries like Norway and Switzerland can prosper outside
of the EU, why not Britain?

“But”, cry those who want to stay in, “you won’t have access to the Single Market.” This is a valid point as far as the Single Market in terms of goods is concerned, yet our economy is not primarily goods-focused. David Cameron, in a column urging people to vote ‘In’, has claimed that 80% of our economy is made up of services. Though as he well knows, there is currently no Single Market for services. So the Single Market argument which he and others perpetuate cannot be relevant to the UK’s situation. Non-EU Switzerland, which supposedly doesn’t have access to the EU’s services market, exports five times per capita more to the EU than we do. If countries like Norway and Switzerland, two of the world’s richest and happiest nations, can prosper outside of the EU, maintaining friendly relations and trading with the bloc, without being subject to its constant over regulation, why not Britain?

Another argument peddled by the Remain camp is that British jobs would be at risk if we voted to leave. Their favourite figure to use on this comes from a report compiled by the National Institute of Economic and Social Research (NIESR) in 2000 which suggested that around 3 million jobs in the UK are linked to our trade with the EU. The methodology behind this is fairly simple to understand.  The UK’s exports to the EU are equivalent to 13% of our GDP. Thus, claim the researchers, it is logical to assume that 13% (3 million) of British jobs are linked to our trade with the EU. The operative word here is linked, however. The NIESR explicitly acknowledged that "there is no a priori reason to suppose that many of these [jobs], if any, would be lost permanently if Britain were to leave the EU." Plus, if you use the same back-of-the-envelope-type calculations for the EU, you find that between 5 and 6.5 million jobs on the continent are linked to their trade with the UK. Thus a trade deal with the UK would be imperative for job security in both countries.

I want to move away, however, from criticising the arguments of the ‘In’ side. Instead, let me spell out a more positive vision for Britain’s economy after we leave. After the 2 year negotiation period set out in the Lisbon treaty, and Britain is freed from the EU’s Common External Tariff, we will have access to world prices. These are typically 8% lower than prices in the EU. As a nation with a particular preponderance for imported goods, this will be a noticeable shift. The move from EU prices to world prices will mean that the cost of food and household goods will fall. Furthermore, this means that British firms will have access to cheaper factor inputs. The only result of cheaper inputs is that we, as a nation, become more globally competitive.

A departure from the EU’s protectionist external tariff wall will not just help the UK though. Currently African farmers, some of the most impoverished businesspeople on the planet face EU tariffs of 7.5% on roasted coffee and 30% on processed cocoa products, two of the continent’s major exports. Think what the removal of this barrier, at least on the UK’s part, will do for those same farmers. Tariff-free access to the UK market, the 5^th biggest economy on the planet, can only make them richer.

 

One of the most frustrating things which I am hearing as the referendum approaches is that people “don’t know the facts” or that “they haven’t been told enough about it” – the inevitable result of media and government hysteria most likely. You each have, at your fingertips, possibly the most useful research tool in the history of humanity: the internet. If you are undecided or wanting more information about the referendum, it can be as simple as watching a YouTube video, reading a newspaper column or watching Question Time on Thursday evenings. 

If you want to find out more about the case for Leave, I would recommend listening to Dan Hannan or Tony Benn, or perhaps even reading Michael Gove’s piece on why he is voting to leave. From the Remain side, David Cameron and Alan Johnson are the ones making the case most prominently. 

Ultimately, however, it will be your choice on June 23rd. The outcome will fundamentally alter the course of British politics. 

Whether we vote to leave or stay, there is uncertainty. Yet it is my strongly-held belief that leaving the EU is not a ‘leap into the dark’ but rather a ‘step into the light’, towards a more prosperous, more democratic United Kingdom.

What is your opinion on this issue? Should Britain stay in the EU or vote to leave? Put your opinions in the comments below!

The Cost of Chelsea's Failure

The past 10 months have been miserable for the blue part of South West London. From the very first day, Chelsea Football Club's season has been embroiled with controversy, instability and most importantly, failure. 



In any season of the Abramovich era, the scale of Chelsea failure would have been shocking- but coming after a season of winning the Premier League/Capital One Cup double with such comfort, no one saw this coming.

It's no difficult task to quantify Chelsea's overall lacklustre performance. Last season, with 30 games played, Chelsea were cruising in 1st place, with 70 points and a game in hand over second placed Arsenal, who were 7 points behind. The Capital One Cup was in the bag. This season, after 30 PL games, Chelsea are 10th in the league. On 41 points, and for the first time in a very long time, having drawn more matches than won. Elsewhere, the Blues were disposed of with relative ease from the Champions League and FA Cup by PSG and Everton respectively, and, well, it'd be better not to mention the Capital One Cup.

Now, much is made of the excesses of money in football- something that, no doubt, Chelsea have profited from massively over the past decade or so. But while this excess has rewarded success generously, it has equally put failure at a massive cost. Especially for a club like Chelsea, who have performed so consistently in recent years.

Premier League Prize Money 2014-15
[sportingintelligence.com]

Chelsea's Premier League struggles will cost them. Last season, the club won the largest ever Premier League prize bounty of £99m. Now, of course, any estimates of this year's prize money are totally dependent upon how we predict Chelsea will finish this year. If we assume merit payments (the portion of prize money dependent upon final position in the table) will stay the same as last year (in reality it will most likely increase, a little), Chelsea will lose out on £11m.

This won't be the greatest cost of failure this season, for Chelsea, however. Had Chelsea not lost to PSG and gone on to the final of the UEFA Champions League, they could have netted an extra £30m over the £18.7m they earned this year*. If they had won it, they could have earned up to £42m more.

But to be honest, while Chelsea were expected to go far in the UCL at the start of the year, few expected the Blues to win the competition- so perhaps these aren't the costs we should be thinking about. What we should be remembering is that, thanks to a terrible Premier League season, remaining in and winning the Champions League was Chelsea's last, thin hope of playing the Champions League next year. Knocked out of that by Paris Saint Germain, and now being very unfeasible that Hiddink's men will rise up the table to fourth from 11 points behind, Champions League football will not be visiting Stamford Bridge until at least August 2017. This has serious financial consequences.

It means that as substantial an amount of money won, even from such a disappointing campaign as this year's, will not reach the club accounts until at least the 2017/18 season. Even if they qualify for the Europa League next year, the prize money amounts for the two competitions are night and day. Tens of millions will be lost from Chelsea's failure to qualify for next year's Champions League, and this will most likely be the biggest financial consequence of the team's failures this season.

With chances of Champions League football next
season pretty much gone for Chelsea, we won't be
seeing similar celebrations any time soon.

To put these losses into perspective, remember that Chelsea Football Club, despite the footballing success and achieving its second highest ever turnover of £314m, lost £23.1m last season, with no particular massive expenditures to justify the loss. It's worrying to think that what the next two years have in store for Chelsea's finance when you consider such a loss, during one of the club's successful years.

UEFA'S Financial Fair Play Regulations are tightening for the next 3 years, allowing only a loss of €30m (£23m) to be incurred in each season. Now, I'm pretty sure the club would have some sort of way to avoid substantial consequences, even if they did break this rule. But if Chelsea were to fall foul of the FFP regulations next season and be punished, it would not just be a huge embarrassment for the club, but it could restrict their re-entrance into the Champions League, worsening the financial issues.

The Blues' finances will be made worse by the fact that this failure will necessitate the club to spend more, particularly on the acquisition of players. With a new manager coming in, the squad looking weak in a number of areas, and a number of key players set to leave in the search of UCL football next season, Chelsea will have to spend big this summer to rebuild the squad. It will be interesting to see how the club manages to balance finances- after all, investment is required to open up future successes, but in the short term will only worsen the financial situation.

Chelsea have some big investments to make in the near
future- not least the £500m renovation of Stamford Bridge.

Not only is Chelsea due to invest in players, but it is also working on a drastic renovation of its stadium, Stamford Bridge, a project expected to cost over £500m. Failure to get back on to track financially over the next few years will jeopardise this grand project.

This is, you could say, a pessimistic look at Chelsea's financial prospects for the next year or two. But, it is indeed a situation that the club must be aware of, and one that teaches us the perils of failure in football as well as the gifts of success. The bigger you are, the harder you fall- and while it is unlikely (hopefully!) that Chelsea will collapse as a result of this season's failures alone, the financial effect will no doubt be felt hard.

What's your opinion on this matter? Will failure this season leave Chelsea in the lurch for the future or do you think will they bounce back quickly? Leave a comment below! 

*Estimates made from statistics from Total Sportek.