Overall, I believe the EU has had a positive effect on Europe. Unfortunately, it has become too interventionist in some areas, especially when imposing regulations that are better left to national or local governments. At the same time, in many other areas it has not gone nearly far enough, especially in terms of creating a free trade zone in services.
The UK is likely to leave the EU in the near future and there are indications that it may adopt a relationship that is roughly like the relationship between Canada and the US:
What really matters is that Mr Johnson is seeking a goods-only or “Canada minus” deal for the rest of the UK.
This will involve only minimal coverage of services, they write. “It will also involve significant non-tariff barriers on trade”, because there will be extra costs for business as the UK operates its own customs regime.
This means the Johnson deal is far worse for the economy than Theresa May’s. Menon and Portes calculate that, under the May deal, income per capita would have been 1.7 per cent lower than under continued EU membership.
The equivalent figure for the Johnson deal is 2.5 per cent lower while that for a no-deal Brexit is 3.3 per cent.
I believe “Canada minus” refers to Canada’s new free trade agreement with the EU, not Nafta, but what interests me is that a “goods only” relationship is similar to what Canada has with the US. If this distinction is confusing, consider the difference between shipping goods from Belgium to France, vs. Ontario to Michigan. Both are free trade zones. But unlike in the EU, you have to go through customs at the US/Canada border.
Generally, when I see those loss estimates from an opponent of a policy I take them with a grain of salt. Industry is surprisingly adaptive; for instance, the cost of environmental regulations is often less than first estimated. Perhaps the same is true of trade disruption.
So the 2.5% of GDP loss estimate may be too high. On the other hand, consider that Canada’s per capita GDP is more than 20% lower than in the US. It’s not obvious to me why this is the case. Consider some hypotheses:
1. Natural resources? Nope; Canada has more in per capita terms.
2. Ethnic mix? In America, whites and Asians earn considerably more than blacks, Hispanics, and Native Americans. Canada has a smaller share of its population in the lower earning ethnic groups.
3. Lack of free markets? Canada is 1.2% freer in the Heritage ranking of economic freedom, while the US is 1.4% freer in the Cato ranking. Average the two rankings and they are virtually identical.
4. Big government? Canada’s government is a bit bigger as a share of GDP (sources differ on the precise figures) but not dramatically bigger.
You can quibble about my comparisons, but the US/Canada income gap of more than 20% is really large. Think about how British Columbia is sort of like Washington State. Or how Toronto is sort of like Chicago. Or how Alberta is sort of like Texas, or how Saskatchewan is sort of like the Dakotas, or how New Brunswick is sort of like Maine, or how Canada’s north is sort of like Alaska. If there were no boundary line at the 49th parallel, wouldn’t you expect Canada to be as roughly rich as the US? Maybe even bit richer, given that the northern US (which Canada most resembles) is a bit richer than the South. Thus I’m not so sure the 2.5% Brexit loss estimate is too high.
You might wonder why I don’t come up with an even larger estimate, based on the US/Canada income gap. However, even with all the success of the EU, Europe remains far less integrated than the US economy. A few weeks back, The Economist had a nice set of stories on the sad decline of the European economy:
A decade ago ten of the world’s 40 largest listed firms by market value were based in the eu; now only two are—in 32nd and 36th place.
This is because Europe doesn’t yet have a single market in services:
European companies selling goods can make use of the single market, reaching scale and so profitability quickly. They have an edge over those that sell services. Partly as a result, Europe is a continent of goods companies. Fully 21 of the eu’s 25 biggest listed firms supply goods, including cars, make-up, alcohol and planes. Two decades ago the same was true in America—where now 17 of the 25 biggest companies provide services such as software, data plans and bank accounts.
This matters: services companies are, on the whole, more productive than those making goods. That usually translates into higher salaries for their employees. Services companies spring up quickly. America’s five biggest companies are tech giants mainly focused on services (and gadgets, in the case of Apple) with an average age of just 30, worth $4.3trn between them, 35 times last year’s profits. Europe’s biggest firms all existed in one form or another a century ago—think of Unilever and Royal Dutch Shell. Combined, they are worth under $1trn, about 23 times last year’s profits.
The UK’s GDP won’t fall by 20% because they start from a position less well integrated into a continental size market than the US. They are already poorer than Canada.
Will we ever know the effect of Brexit? Probably not, but in my view the best estimate will be as follows: Right now, the UK and France are amazingly similar countries in two respects. The have almost identical populations and almost identical GDP/person in PPP terms (based on IMF or CIA estimates, the World Bank has a small difference). Both countries have been growing slowly in recent years. If nothing dramatic happens to public policy in France (which is a politically stable country), it may represent our best way of measuring the effect of Brexit on the UK.
If the UK’s GDP/person is still roughly even with France in 10 years, then Brexit probably won’t have hurt. If it’s 2.5% behind, then the Financial Times will likely be correct. In my view, either outcome is plausible. If forced to offer an opinion, I’d guess the UK will be 1.5% behind in 10 years, if the rumored Boris Johnson proposal is adopted. Somebody needs to remind me of this prediction if I’m still alive at age 74!
READER COMMENTS
Rob Rawlings
Oct 16 2019 at 7:58pm
My calculations (GDP = 2.83T, Export to EU = .27T) indicate that trade with the EU makes up only about 10% of UK GDP. Given this I’m curious how they calculate ‘non-tariff barriers on trade’ can reduce GDP by over 3%?
Scott Sumner
Oct 17 2019 at 12:26pm
See mbka’s comment. Think about a Japanese auto investment in the UK, which might not have happened if the UK were not in the EU.
Matthias Görgens
Oct 19 2019 at 11:34pm
And of course also just the positive effects on local productivity that come from vigorous competition in a bigger market.
mbka
Oct 17 2019 at 5:35am
Scott,
my favored explanation why Canada is so much behind the US in GDP is all about scale. There are huge advantages to a large single market, with more unified regulations – it’s all about economies of scale. Hence, the huge irony re: criticisms of EU regulations is this: it is much cheaper for companies to follow a single set of regulations, even if intrusive, rather than follow 27 different sets of regulations, even if lighter on an individual basis. In reality of course, the EU has been based on free market principles, and much of the hysteria over EU regulations ignores the fact that the previous national regulations were no better and often worse. And the EU generally pushed for free market principles and against “national champions”. A UK outside the EU is at the complete mercy of the next Labour government, which will happen eventually at some point, nationalising huge portions of its economy with impunity. Something the EU would have prevented.
And you’re totally right about the missing EU single market in services, current populism has stalled progress here in its tracks. In fact, all pro market principles of the EU were established when it was less democratic. Now that the EU has become fairly democratically controlled by the EU parliament, any chances for more free market reforms fall prey to national protectionist manias.
Scott Sumner
Oct 17 2019 at 12:25pm
mbka, I agree, but would note that there are different kinds of regulations. It’s pointless for the EU to force individual countries to have certain labor market regulations—overtime rules, etc. Rather what you want to unify is product standards, etc. Things that move in international trade in goods and services.
mbka
Oct 17 2019 at 8:47pm
Scott,
agreed on that but again in fairness, for a long time all the EU did was standardize regulations for product safety and infrastructure. For most everything else, they have the principle of subsidiarity (“solve every problem at the most local level possible”) – I mean, which country even has this kind of noble principle enshrined as major doctrine?
The labor market and tax harmonization stuff came later, is more problematic, but has to be seen in the context of the Euro – attempts to prevent too much gaming of the system. I’m against it but I understand where the intent came from.
Scott Sumner
Oct 18 2019 at 7:55am
Good points.
Matthias Görgens
Oct 19 2019 at 11:37pm
Yes, subsidiarity would be an extremely libertarian principle, if they gave it any real teeth.
ChrisA
Oct 27 2019 at 5:52am
I guess the argument on the EU bringing regulations and standards is a coordination issue, it is hard for 27 countries to coordinate on their own, so the EU can step in, which creates a better equilibrium. But doesn’t this actually leave the UK in a better place post Brexit? If there are benefits to following the EU standards, they can do so. If on the otherhand the regulations are ill conceived then for home use, and for export to other countries in the world they can be ignored.
I suspect though that standardisation and regulation are small impact on economies so it probably doesn’t matter either way.
TMC
Oct 17 2019 at 10:13am
I think one could also make the argument that the UK’s economy may rise by 2.5%. Your quote from the Economist – “A decade ago ten of the world’s 40 largest listed firms by market value were based in the eu; now only two are—in 32nd and 36th place.” – can be read as a negative effect of the EU. Removing this will only help the UK.
FWIW, I’m was fan of the European market, but the Euro forced too many disparate economies, with very different needs, into a single monetary plan.
Scott Sumner
Oct 18 2019 at 7:57am
TMC, The UK is not in the euro. The foreign exchange market is reacting to Brexit news as if Brexit will reduce British GDP. The pound falls sharply on news of a no deal Brexit.
TMC
Oct 18 2019 at 1:28pm
Yes, I’m aware that the UK is still using the pound, my second paragraph was a separate thought. Germany is having some issues now as they did in the 90s, but what is good for them monetarily may not be good for the rest of the EU.
The FX is taking this as a negative, but I’m not aware that it has been particularly prescient. I take this as caution. Your analysis may be correct, but you did add the quote from the economist for good reason. Clearly the EU is doing something wrong and is being left behind. Removing oneself from that is a positive effect not being tallied here, even if it does not lead to a net positive.
Your post was a better treatment of Brexit than most out there, I was just adding a consideration to what you’ve written.
Lorenzo from Oz
Oct 17 2019 at 7:32pm
Comparing Australia and New Zealand (who have had a free trade agreement for decades) gets much the same result as the US and Canada.
US: 327m people. Canada: 38m.
(US population 8.6 times Canada)
PPP per capita
US: $62,900 Canada: $51,500
(US 22% larger per capita GDP)
Australia: 25.5m people. New Zealand: 4.9m
(Australian population 5.2 times larger)
PPP per capita
Australia: $53,800. New Zealand: $40,300
(Australia 33% larger per capita GDP)
But then we go to the other Anglosphere Big-Small pairing:
UK: 67.5m people. Ireland: 4.9m
(UK population 13.8 times larger)
PPP per capita
UK: $45,700. Ireland: $79,900
(Ireland 75% larger per capita GDP)
Apparently, the Irish are richer than anyone else in the Anglosphere. And scale isn’t everything.
EU: 513.4m EU-UK: 445.9m people
(EU population without UK is 6.6 times larger than the UK.)
PPP per capita
EU: $43,150
So, UK has (very slightly) higher GDP per capita. How big does an economy have to be that any scale effects become fairly minimal?
Using World Bank and Angus Maddison estimates, the UK’s per capita GDP ppp went from $20,600 in 1980 to $39,500 in 2017, a total of 92% growth over the period.
France’s per capital GDP ppp went from $24,000 in 1980 to $38,500 in 2017, a total of 60% growth over the period.
The UK has had much faster growth than most of the EU, part of the reason the EU has lost standing in the UK (and, comparing the 1975 and 2016 referendum results, it has lost considerable standing).
The polling evidence consistently suggests that most Britons have wanted to leave the EU for quite a long time, it is just a group who preferred to leave felt the cost might be too high (about 20% of the electorate). That is a terrible basis for continued UK membership of the EU.
BTW, the most informative read on the ins and outs of British opinion on the EU is Dominic Cummings’ longish piece on why the Leave vote won. (He was the central figure in the Leave campaign and is now Boris Johnson’s chief of staff. Very interesting thinker.)
https://blogs.spectator.co.uk/2017/01/dominic-cummings-brexit-referendum-won/
mbka
Oct 17 2019 at 8:44pm
Lorenzo,
how does your logic explain that the UK obtained superior growth right after joining the EU… which eventually flattened out… Wouldn’t that rather mean that EU membership had large advantages which are simply now fully absorbed and the UK reverting to within-EU mean?
Lorenzo from Oz
Oct 18 2019 at 8:07pm
mbka: I said the EU had lost standing within the UK, I didn’t say that joining the EU had not provided any benefits. Disentangling those benefits from the benefits of Thatcher’s reforms (which were maintained, and possibly slightly extended under Major and Brown) would be an interesting exercise, but those reforms do give Britons an easy way to discount the EU effect.
Lorenzo from Oz
Oct 19 2019 at 7:38pm
That should be “Major, Blair and Brown”
Scott Sumner
Oct 18 2019 at 8:03am
The Australia/NZ comparison is good. Ireland is in the EU, so I’d expect them to do better than NZ, and they do. (Admittedly, NZ’s geographic isolation also hurts.)
I agree with mbka; I think the UK example shows the opposite of what you seem to claim, the UK has benefited from joining the EU.
In general, small countries within the EU do well because they have benefits of scale. The Netherlands is a good example. Do the Dutch want to leave just because they are richer than the EU average. No.
Lorenzo from Oz
Oct 18 2019 at 8:22pm
Scott: as I say in my reply to mbka, I didn’t say that joining the EU had not provided any benefits to Britain, I said the EU had lost standing within the UK. Also, apparently the Irish GDP figures are somewhat inflated, see Shane L’s comment. (I used “apparently” because I was sceptical, but had no basis to disagree with the IMF and the World Bank who both gave Ireland higher per capita GDP than the US).
On the advantages of scale, presumably a sufficiently free trade policy by the UK could give it advantages of global-level economies of scale. Singapore is the obvious poster-child for that, with a per capita GDP (ppp) considerably higher than the US’s. Access to EU markets is the difficult question, but that has obvious advantages to both sides. (Yanis Varoufakis has argued that Britain should have just gone for Norway’s deal, which seems plausible.)
While the difficulties of Brexit has seen poll weakening support for leaving (though it is still higher than it was prior to the campaign), it is still clear that the UK is the most sceptical member of the EU by a considerable margin, which comes down to more than economics.
Shane L
Oct 18 2019 at 11:23am
A small note on Irish GDP. It is known that the figure for GDP in Ireland is inflated, due I believe to the large multinational sector here. This is well known among economists here, and discussed in some detail:
https://www.cso.ie/en/media/csoie/newsevents/documents/reportoftheeconomicstatisticsreviewgroup/National_Accounts_-_problems_and_possible_solutions.pdf
As a result, it is best not to compare Irish GDP, or related statistics like health expenditure as a percentage of GDP, with other countries. GNP or GNI are sometimes used as alternatives. As far as I know, economists are generally somewhat hesitant about those alternatives too and are cautious about comparing the scale of Irish economic activity with that of other countries.
Lorenzo from Oz
Oct 18 2019 at 8:04pm
Shane L. Thanks for that, which makes entire sense to me. My “apparently” was a sign that I did not really believe the Irish figures, but had no basis for not going along with what the IMF and the World Bank say (who both give Ireland a higher per capita GDP than the US).
LK Beland
Oct 18 2019 at 10:03am
“2. Ethnic mix? In America, whites and Asians earn considerably more than blacks, Hispanics, and Native Americans. Canada has a smaller share of its population in the lower earning ethnic groups.”
One out of 5 Canadians is French Canadian. They are less educated than English Canadians and earn less than English Canadians.
art andreassen
Oct 18 2019 at 2:50pm
Scott: The UK joined the EU in 1973. From 1945 to 1979 the UK was a Social Democratic heaven and it was the economic sick man of Europe. Arthur Scargill and the coal minors decided who would govern until Thatcher won in 1979. The UK had a lot of catching up to do. Which ties in with your discussion of Canada versus the US.
There are two differences between the US and Canada that you neglected to mention. Canada is a much more Social Democratic country than the US and the very smart people assure the rest of us that Social Democracy is a boon for economic growth. Further, the US has spent an extra 2% or more per annum of GDP for the last 75 years on the defense of Western values that Canada and the EU have shirked. Taken together these neglected aspects certainly should have contributed to Canada’s GDP.
Jack
Oct 18 2019 at 3:00pm
Political integration and global/regional centralization is the greatest threat to liberty in the long term. I’ve changed my mind on Brexit – its become abundantly clear that the EU isnt about free trade anymore, but about dirigisme and protectionism. Any liberal, let alone libertarian, should be for decentralization of power and therefore support things like Brexit, Scottish/Catalan independence, etc.
John Arthur
Oct 18 2019 at 4:35pm
Interesting post about Canada vs US
Do you think that US is wealthier because it has a higher population?
I’ve always thought that bigger countries trended toward having higher per capita incomes as they tend to have the outliers that dramatically push per capita forward. A good example are people like Jeff Bezos and Steve Jobs, people who are not in Canada!
Anyways there is only so little people can make, so in the end it shifts per-capita up than in a smaller country
John
John Arthur
Oct 18 2019 at 4:53pm
A really interesting argument for Brexit I heard was that it would be an accelerationist policy. Just like how Singapore’s vulnerability caused it to have mass reforms to maintain a fast growing economy capable of not being crushed underfoot, Brexit may spur the UK into doing some reforms that may make it comeptitive again.
Don’t usually negative shocks force economies to reform. If Britain’s policies became even a little more like Singapore, then Brexit may be a success
Ion Ioannidid
Oct 20 2019 at 11:59pm
Hi Scott
“Canada’s per capita GDP is more than 20% lower than in the US. It’s not obvious to me why this is the case”
It is obvious to me.
You are measuring wealth per person. Per capita GDP is a false measure in your case. Wealth is not distributed based on a bell curve like height. US has 10fold millionaires and 15fold billionaires (585) compared to Canada (39).
Use median income and Canada has more than double per person.
The average US individual is poorer, but the average billionaire in N. America is from the US
Ion
ChrisA
Oct 27 2019 at 6:08am
Ion – the data I see on Wikipedia suggests that Canada and US have almost the same median PPP nominal income in 2017. Which sort of proves your point, but it is not twice as big in Canada.
MadJon
Oct 21 2019 at 7:53am
We’ll see where Brexit takes the UK (or maybe the Former UK (FUK), if Scotland leaves). But surely this article inadvertently points to the point that Brexit is largely political not economic, a successionist movement. Just as Canada is quite happy to be an independent country making it’s own silly mistakes at the expense of greater wealth as a part of the United States, there are enough people in the UK (or rather England) who would like to make their own stupid mistakes. Essentially, the problem is political not economic.
If you watch this discussion from 1975 between to Labour Cabinet Ministers, you see the political deficit vs economic benefit argument in full swing. The Euro Crisis and generally sclerotic performance of the European economies (at least the south) has definitely impacted British positive feeling about the EU as a positive economic machine.
Of course, as Britain is an 80% service economy, the lack of a single market in services makes it easier to feel one is not going to miss out by leaving the single market.
Linda Colley helps understand the causes of Brexit by using of Lawrence Stone’s historiography laid out in Causes of the English Civil War: a) short term triggers, b) medium term precipitants, c) long-term preconditions. Triggers often to do with ‘elite inefficiencies’, but they are rarely an adequate explanation for major historical events or traumas.
So are the precipitants? Both to do with war: “States to make war”, but also, for Colley, “wars make states” and wars have shaped attitudes of English people to continental Europe and the EU. In the medium term, this is regard to WW2 – most of the continent experienced invasion, occupation and/or defeat. So greater European union seemed to offer a chance for healing, peace and rescue to continental Europeans. Britain repelled German invasion attempts in WW2, so has a persistent place in British imaginings. Also, there is a sense that the continent was defeated and therefore deficient, and UK resisted and therefore were not. Informs polemics about the EU, especially that Europe is irremediably a basket case, or even that Europe owes us – they owe us more than we need them. When the UK did join the EU it was at a time of national decline, and became associated with and attributed to that decline, rather than an engine of post-war recovery.
For Colley, Britain’s earlier experience of war create the long-term preconditions of the present Brexit crisis. The Civil War of the 1640s and the Glorious Revolution of 1688 meant that the Westminster parliament was able to widen it’s power and prestige against the monarchy, and widened access to political, religious, legal rights and liberties. By 18c Britain was regarded as a land of liberty, compared to continental Europe which was usually subject to over mighty monarchies and oppressive bureaucracies. These complacencies were reinforced by military success – no civil war or revolution, invasion or major military defeat from 1700 onwards (apart from Ireland and the loss of the 13 colonies) until the fall of Singapore in 1941. All this burnished the self-image of Westminster parliament (esp. versus the continental despots). Colley concludes that defeat in war however does clean up and modernise political systems, e.g. Germany’s 1949 Basic Law. Stasis might not always have benign and functional results. She wonders whether the convulsions over Brexit might have a tonic effect?
ChrisA
Oct 27 2019 at 7:47am
On the impact of Brexit on the UK, I think it will be negligible really. If you look back 100 years the large countries with the highest GDP per head were just about the same as today; US, UK, France, Germany (I am ignoring the small countries). The main additions (large countries) are Japan and Korea since then and even then they were the richest countries in Asia 100 years ago. Think of all the political and economic challenges since 1919, including the second world war, the UK’s flirtation with socialism and so on. But the list really hasn’t changed much. I think this shows not only Adam Smith’s take that there is a great deal of ruin in any nation, but that per Scott’s comment, if the fundamentals are there trade will find a way to overcome barriers.
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