As Britain Exits Europe

There is much dealing still to be done before the UK leaves the European Union

THE TRADE DIVORCE of the century is literally an ocean away. Yet as the UK prepares to leave the European Union on March 29, many Canadian businesses are watching closely to see whether it will be Deal or No Deal. A deal, the so-called soft exit done under friendly transition agreement, will still see the UK leave the EU as planned but remain largely under the EU’s umbrella until the end of 2020 to negotiate new trading arrangements with its former partners. It would  also be free to sign bilateral trade deals with other countries during the transition period.

But that turns on having a signed withdrawal agreement, which the European Parliament wants in October. However, a draft agreement issued in February has caused an uproar in the UK over the proposed trade treatment of Northern Ireland, raising questions of whether Britain will be able to meet the deadline.

Without a signed withdrawal agreement, the UK is left with the so-called hard exit, meaning it will come crashing out of the European Union on March 29th with no transition deal in place. On March 30, it would revert to World Trade Organization standards, instantly wiping out free movement of goods and services across borders with the 27 remaining EU countries as well as wiping it from 40 trade deals it had done as a member of the EU.

Hard exit or soft? “At the moment, I think it’s too close to call,” says Peter Kirby of Fasken Martineau DuMoulin LLP. Whether March 30, 2019, or Dec. 31, 2021, what happens to Canada the day the trade deal expires is the £64,0000 question.

The EU is Canadas second largest trade and investment partner so the question is a serious one. A significant number of Canadian companies use the UK as their gateway to the EU, some have UK divisions, operations or even hard assets there, or use a UK company in their supply chain for goods being sold in the EU. They all stand to be affected by the what happen across the Atlantic.

While Canada exports large amounts of minerals and metals to the UK, Brookfield Asset Management, for example, has an investment in Londons Canary Wharf. CAE Inc., which makes simulators, has a UK division, Bombardier Inc. has Bombardier Aerospace, Belfast — with a European supply chain of 900 approved suppliers. Most of Canada’s financial services companies have offices in London, some have separate UK units. The Canada Pension Plan Investment Board has infrastructure investments across the UK.

Kirby sees some Canadian sectors being much more affected than others. Financial services, in particular, he says is a significant sector to worry about “because we don’t know how important London is going to remain as a financial-services centre. Should we be looking at Europe rather than the UK for access? That’s one that will be very dependent on what the final relationship with the EU looks like.”

Most if not all major Canadian financial institutions have a UK office. Those without a European office as well have already started looking at opening one, he says. “It would be negligent for any bank to be sitting in London and not making arrangements for the various possibilities. … We don’t have armoured trucks going off to Europe yet but the banks are all definitely all talking about relocating staff.” What’s not clear, he says, is how large the displacement will be.

As for manufacturers, he expects possible “hiccups” for Canadian companies with UK suppliers who sell into the UK but predicts there will be workarounds, with the real issues being tariff negotiations slowing things down.

Many trade lawyers agree workarounds all be agreed on. But the feeling is Canadian companies should be preparing now, and with the developments on the North American Free Trade Agreement sucking the air out of the room not everyone is giving Brexit the attention they should.

John Boscariol, head of the International Trade & Investment group at McCarthy Tétrault LLP,  says his firm is pointing clients who use the UK as a gateway into the EU to the Canada-European Union Comprehensive Economic and Trade Agreement, or CETA, which was provisionally applied in September 2017.

The Canada-EU trade deal allows over 98 per cent of Canadian goods to enter the EU without tariffs, giving Canadian businesses access to the market of half a billion customers with a GDP of $22 trillion. While the EU will be smaller without the UK, Boscariol acknowledges, it will still consist of 27 countries and regardless of what happens with Brexit, Canadian businesses can still access them. But those that have been using the UK as their portal may need to change their strategy.

“They should be looking carefully at how they would access the EU markets directly from Canada,” he says. “The timing of CETA was wonderful in this instance because we’ve got the free trade agreement with the EU, but they still have to have a contingency plan in place. I think we can all hope that reasonable minds prevail here and it’s not going to be the hard break everyone talks about. But I think companies have to be prepared in case it is.”

Boscariol and others have heard that Canadian and British trade officials have already been talking informally, laying the groundwork for an eventual bilateral deal. It has been reported that UK officials are also talking trade with the US.

Britain’s top export markets are Switzerland, Japan, Canada, Singapore and South Korea and, post-Brexit, the UK will want to ink deals that are easiest to seal “to show their other trading partners outside the EU that it’s possible.” They have probably the closest relationship with Canada, he says, pointing to the shared history, culture and common law.

“They may want to do the same with the United States, which is a much bigger trading partner for them, but with President Trump in power that could still be tricky. So I think Canada will be an attractive target for the UK. We’re a tenth of the size of the US and smaller than Japan and other EU countries. It’s more of a symbolic thing, I think. The groundwork is there, there is the historical and cultural relationship and because we’ve had CETA negotiated, the connections are already very tight.”

But that doesn’t mean a potential Canada-UK trade deal could be inked within a month or two of Britain exiting the EU. Boscariol sees it taking between one and three years of formal negotiations, best case scenario.  “CETA took 10,” he says.

A freshly uncoupled UK would probably like to hammer out scores bilateral deals but with the clock ticking, one problem bedevilling its government is the lack of seasoned negotiators. The reason is that Britain — the world’s fifth-largest economy —  hasn’t needed to negotiate its own trade deals since it joined the EU in 1973. Brussels negotiates for the block.

Since the UK hasnt needed to have internal trade expertise for well over 40 years they need to recruit from elsewhere,” says Matthew Kronby, a partner at Bennett Jones LLP in Toronto. “That’s proving a challenge because the salaries they can offer are not particularly attractive, especially given the cost of living in London.”  Kronby was director general of the Government of Canadas Trade Law Bureau from 2009 to 2012 and the Government of Canadas lead lawyer in the CETA negotiation.

He says the UK government has its work cut out for it. “I don’t think there are a lot of people with expertise in this sector who want to leave the private sector for a UK government salary, or who want to relocate from the public sector in other countries, where their money may go a lot further, to live a two-hour commute from work in downtown London. I think a lot of it, at least from what I’ve heard, is as mundane as that.”

The Financial Times reported when UK International Trade Secretary Liam Fox brought 27 officials to Washington to open talks with the US over the summer,  that while the delegation included some experienced civil servants including career diplomats, only a minority had worked in trade and none had directly carried out trade negotiations.

The UK government has budgeted millions of pounds to hire and train staff to negotiate trade deals, and Trade Minister Mark Price told Parliament this summer that over 200 staff in the department have already undertaken training in trade policy.

Kronby says he’s not as pessimistic as some others about the chances of Britain and the Canada striking a quick deal. “The year and nine months transition period is certainly not a long time,” he says. But using CETA as a template, he says,  “a lot of the heavy lifting has already been done,” although there would still be issues on quota allocations for goods that are subject to tariff-rate quotas, and other issues.

“It’s not like it would be a really simple negotiation, but it’s not impossible. It becomes a question of what kind of resources the UK will have to negotiate a bilateral deal because, understandably, if it remains significantly under-resourced on the trade policy and trade law front, concluding an arrangement with the EU is going to be its priority.”

But if it has the resources, he, too, feels Canada is a good candidate for an early agreement. “There are longstanding trade and investment ties, there aren’t too many commercial sensitivities on one side or the other. I think there’s even room to go beyond the CETA in areas like regulatory cooperation, which would be a big one, in terms of labour mobility and temporary-entry provisions, and commitment on agricultural trade and trade on services as well. So I think Brexit, in a sense, creates an opportunity to deepen trade liberalization between Canada and the UK.”

The question is how long it will take: weeks, months or years.

 

Asked whether she believes a trade deal can be done by Jan. 1, 2021, Brenda Swick, a partner at Dickinson Wright LLP in Toronto, is blunt. “No,” she says, adding Canadian negotiators are just getting through the Trans-Pacific Partnership Agreement, which Canada signed in March but still needs to be implemented.

“I don’t mean to be critical of the government, naturally, with what’s happening with the North American Free Trade Agreement, introducing all these new free-trade agreements is great. Diversifying the Canadian trade export market is great. But it takes time to negotiate, ratify and implement each one at the domestic level.” 

Even with CETA now provisionally implemented, she says, some Canadian government departments still lack the necessary procedures required to fulfill Canada’s commitments.

AS for using CETA as a template for a new Canada-UK deal, Swick doesn’t see it. “It’s not a good model because a lot of provisions are unnecessary for the Canada-UK relationship. The two countries really have to think of what issues should be covered and in what way, then look around and see how to tackle them. The bad part of that is that will take time, more than two years or whatever the transitional period is.”

If the withdrawal agreement is not signed this fall and it is a “hard exit,” Swick like others says the UK will have to default to WTO agreements. While the UK has remained a WTO member, it was as part of the EU. So Britain is in the process of “rectification,” or making the transition back to being a WTO member solely in its own right.

That entails things like negotiating its portion of tariff-free block quotas for imports of various products, as well as on goods and services, that were negotiated on behalf all EU countries, including the UK, she says. “There’s going to have to be some mechanism to examine the imports of each product by the UK, and the same product by the rest of the EU, in order to determine allocation.”

While the UK and EU permanent representatives to the WTO have sent all WTO member countries a letter saying they are working on allocation issues, “can you imagine how long this is going to take?”  Swick believes with all the good will in the world, whether it is done through an EU-UK deal or a reversion to WTO standards, the untangling of Britain from the EU is a “massive” undertaking. “The devil is in the details. This is not an overnight exercise.”

If she and many others in the trade bar are right and there’s just not enough time on the clock for the UK to negotiate a soft exit from the EU, Prime Minister Theresa May risks running into a very large problem, says Keith Mitchell, a partner at Farris, Vaughan, Wills & Murphy LLP in Vancouver. An election.

Mitchell says free-trade arrangements between countries can be hard to push across the finish line partly because they involve domestic politics, and they can be slowed by a myriad of stakeholder interests.

When it comes to Britain’s exit from the EU, he doesn’t see the last day of 2020, the end of the proposed transition period, as being the key date. “To me, the magic number is 2022.” Why?  “Because Britains go to the polls for a general election.”

Depending on how Brexit ends, he says, trade may be a major election issue. “A lot of the discussion of the trade arrangements turns on who’s the government and what’s their mandate. That will be terribly germane. There is some view that once the political referendum is held this could never be the subject of political debate again, but I’m not so sure.

“It’s hard to say this whole thing is in cement and is going ahead as schedule. I don’t underestimate the tenacity of the current British Prime Minister, but you’re only as good as your last election. I think she hopes to run on a completed Brexit, but that remains to be seen.” There will be a “thicket of political issues as this thing evolves” and stakeholders who have the ability to slow the process down with consultation periods.

Even with an EU-UK deal in place before the next general election most free trade arrangements have termination clauses, he says, and even if they don’t, successive governments can come up with ways to create leverage that forces the other party to reopen the deals to renegotiation. 

Wendy Wagner, a partner in the Ottawa office of Gowling WLG (Canada) says the partners in her firm’s London office are convinced Brexit is “irreversible.”

They’re advising clients who do business in the UK to examine their supply chains and identify where they have the routing of goods through the UK to Europe. “There is a thought that it won’t be as seamless or as easy as people think for the UK to work out something with Europe in terms of access to markets and customs duties. You can’t assume when Brexit occurs there will be the same access to the rest of Europe from the UK.

Asked what she’s advising clients, she says Canadian companies, like companies everywhere working on new contracts, “should be looking to see who has duty liability. A lot of times if companies are selling in a free-trade market then there’s no issue in your mind in assuming liability for any applicable customs duties because you know there are none, or you’re confident there are none, or that your product qualifies for preferential access under the free trade agreement.” But if they’re now in a situation where that’s not the case, businesses should be look at the liability issues for customs duties in a different way “and perhaps assign that liability to the customer rather than to the supplier. So you should be looking at the way the contract is structured.”

For contracts that are already in force, she says, Canadian companies that manufacture or source parts in the UK to sell into the EU should be aware of the potential for increased cost and evaluate its impact their competitiveness.  “If it’s very significant, you might look at sourcing that component or part from within continental Europe.” She says the bottom line is even if there is a hard exit, and Britain leaves the EU reverting to WTO terms, it’s not necessarily a disaster for Canada.

“Duties are not particularly high for a lot of different categories of product. If you look at the Canadian tariff code there are thousands of products that have zero duty regardless of whether we have a free-trade agreement. The Most Favoured Nation rate of duty can be very low.  While some sectors like textiles have a fairly high rate of duty, others such as computers and the tech sector have a zero rate of duty.”

She says right now Canada is in a good position in negotiating with the UK. “If Canadian companies see that there’s a potential opportunity, and start speaking to government in terms of what overtures we can make to the UK for some of those markets, there may be a really good opportunity here. They are going to be looking to do some deals. There are some risks, but there a lot of opportunities as well.”

Peter Kirby of Fasken Martineau DuMoulin LLP thinks Canada is in a great position because at the end of the day it is holding an extraordinarily strong hand.

“The message is it’s not as simple as cutting and pasting CETA into an agreement with the UK. We’ve already made concessions to the larger group but those concessions are not necessarily transferrable to the UK. So if they ask for concessions, in, say, dairy, we can say, ‘We already gave you your cake through CETA and now you’re asking for more?’ We now have a whole different ballgame when we negotiate with them. We can demand some tough concessions.”

“The UK is desperate for trade agreements. They absolutely have to have trade agreements in place as quickly as possible. So I’m thinking they’re negotiating from the worst possible position, from desperation.” In other words, Deal or No Deal, no matter which way Brexit works out, it may result in a better deal with the UK for some Canadian businesses. It may not be fast, it is bound to cause some bumps, but in the long run it may turn out to be worth it.

Ironically, at least one commentator has suggested for the United Kingdom, that it may take note of the Canadian direction: Martin Wolf wrote in the Financial Times: “So where, when the dust has settled, will the UK end up? It will become Canada. It will have a trade relationship with the EU similar to Canada’s. It will relate to the EU in a way not dissimilar to Canada’s relationship with the US. It will remain a middle-of-the-road democracy, like Canada, and not become, as David Davis, secretary of state for Brexit puts it, a “Mad Max” dystopia leading a regulatory race to the bottom. Finally, like Canada, it can seek a modestly positive global influence.”

Michel Barnier, the EU’s chief negotiator, has explained why the UK’s future trading relationship with the EU will be similar to that in CETA. This agreement allows both sides to enter into separate deals with other partners. It also puts Canada outside the EU’s customs union and single market. Thus CETA provides limited benefits to providers of services. A word of caution from Scotland though: In discussing the grandiose and imaginative notion that Scotland might join the Canadian federation after Brexit, Scottish-Canadian journalist Julie Rampen wrote: There is one time Canada is anathema to the Scottish government, however, and that is when it is followed by the word “plus.” This is a reference to the Canada-EU trade deal, seen as a poor alternative to access to the EU’s single market, which Britain is expected to leave after Brexit.