Tuesday, July 5, 2016

Brexit and its Impact on UKs Public Finances


One of the main points of contention for the Brits which urged them to vote in favor of the Brexit was the fact that, many believed that the UK was financially supporting the EU and that it would be better if the UK could spend that within its borders rather than supporting other poorer nations in the EU.
In this section, we examine the probable impact of Brexit on Britain’s public finances. First, we look at Britain’s current contributions to the European Union. Second, we will look at Britain’s likely fiscal relationship with the European Union after Brexit.

The United Kingdom’s Current Contributions to the European Union

As the EU has no direct income of its own, every member state makes a standard contribution to the EU’s budget based on the size of its Economy. They also share a % of the Added Tax receipts with the EU. For the years 2014/15 the UK had supposedly paid a Standard contribution of £13.7 billion plus £2.3 billion as part of the tax receipts sharing. That works out to a total of about 16 billion Pounds and has been one of the main selling points by those in favor of Brexit.
Of course, this movement of money isn’t just one way traffic. It received back £4.8 billion through the British Rebate and also a £0.8 billion fee for collecting customs duties on behalf of the EU. So, after accounting for the receipts or incoming funds the overall amount that UK contributed to the EU stands at around £10 billion.
We also need to consider the fact that the EU disburses £4.4 billion to British companies and households via various grants. Though the UK is indirectly getting a big chunk of this 10 billion pounds back, the amount set aside in public funds in the UK’s budget still stands at 10 billion pounds.

Britain’s financial relationship with the European Union post-Brexit

At the outset, it looks like the Brexit is going to have a direct savings in the order of around £10 billion a year which is approximately 14% of the public sectors net borrowing figure of £70 billion. As the British Economy grows, this yearly contribution is only expected to rise which means, there could be a lot of potential for savings if the coming years.

Of course, this assumes that the UK still receives its rebate and its share of the customs duty. The rebate was agreed in the year 1984 when Britain was one of the poorer members of the EU which isn’t the case now. So, if the UK stays a member of the EU, this rebate could potentially be under risk in the next seven-year budget by the EU. If we take out the rebate which stands at over £4 billion pounds, the net savings from the UK’s public budget will be even higher.

Am sure you are thinking, savings of over £14 billion pounds, that's a ton of public money that could be used by the UK to make the lives of its own citizens better isn’t it?

We need to remember that, it wouldn't be this straight forward.

Firstly, by leaving the EU, UK will no longer have free access to the EU Market. Let’s take the case of Norway as an example. Though Norway is not a direct member of the EU, it pays a contribution based on the size of its economy in return to free access to the European Economic Area. It is quite possible that the UK may take this route and hence not all of this 14 billion pounds may get saved. Experts predict that a Norway-style arrangement could result in the UK paying at least 50-60% of what it is paying now. You may ask why pay 50-60% if they are no longer part of the EU. That is because the EU nations may not be in a forgiving mood and might want to make an example out of the UK in order to detract other EU members from following suite and requesting an Exit.
Secondly, if the UK left the European Economic Area, it might need to compensate its local exports if no free trade agreement were reached and the EU imposed its common external tariff. The government may also need to compensate local businesses for loss of access to EU Structural Funds such as the European Regional Development Fund. These would be small amounts but nonetheless need to be provisioned in the public funds budget.
In our prior calculations we had included a £0.8 billion in duties as revenue which may not be a revenue source post Brexit. In order to retain its free-trading arrangements with EU nations, the UK may have to negotiate on very low or even zero duty arrangements with its neighbors which means the revenues on the public finances side is going to take a hit.
The UK is one of the high tax countries and has over 3 million immigrants (with hundreds of thousands joining the job market every year). Brexit could potentially cause a decent sized dent in Tax revenue if stricter immigration policies are put in place or if immigrants are forced to leave the country.

£ savings from Brexit – True or False?

At the outset it looked like the British government could save about £10bn per year (or more) on its contributions to the European Union’s budget if the country left the EU.
However, the reality is that the actual savings will be much lower than £10bn because there are a number of factors that could reduce them. The government might have to continue to make some contributions to the Union if it wanted to preserve single market access, it might need to compensate sectors of the economy and specific regions that currently benefit from European Union handouts and it may have to sacrifice customs duties income to strike new trade deals with countries outside Europe.
So, to answer the final question – Yes, this Brexit will Definitely benefit the Public Finances but not to the level the proponents of Brexit had projected. Only time will tell if this public finance saving is worth the risk of leaving the EU.

Disclaimer: All views presented in this article are those of the Author and are not endorsed by anyone. While every effort has been made to ensure that the data quoted and used in this article is reliable, there is no guarantee that it is correct, and the Author accepts no liability whatsoever in respect of any errors or omissions. This article is only economic research and is not intended to constitute investment advice, nor to solicit dealing in securities or investments.

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