Investmentupdate

InvestmentUpdate 29 December 2020 Brexit deal brings some clarity, but not without costs A free trade agreement with the EU avoids damaging tariffs, but other barriers remain In summary companies less sensitive to Brexit practices. That’s important because − After nearly five years of sharing our and UK economic growth. medicinal and pharmaceutical goods are Brexit analysis with you, we finally the third largest category of UK exports, have some clarity. The UK will Non-tariff barriers to trade with the second largest trade surplus leave the European Union (EU) The trade deal avoids the imposition of among categories of goods. However, with a free trade agreement (FTA) tariffs. This is good news. In the short- other sectors are not so fortunate. The in goods once the transition period run the imposition of tariffs would add agricultural sector faces many new ends on 31st December. an additional level of disruption and checks, such as vet certification, leaving − With the backing of the Labour would likely further delay productivity- British farmers facing more barriers whip, it is highly likely to pass the enhancing business investment as firms than New Zealand’s. Non-tariff barriers UK’s parliament. Approval from EU adapt to the new regime. Our favoured to exporting electric cars get a six-year member states was provided from economic research teams, such as those reprieve, but other consumer products the EU ambassadors on 28 at Citi, Oxford Economics or Capital will face significant red tape right away. December and we don’t expect any Economics, concluded that “No Deal” The UK has said that it won’t impose subsequent objections before the would have seen 0.5-2.0 percentage the new customs regime on imports official signing on 30 December. points less GDP growth by the end of from the EU until at least 1 July 2021, to − Policy uncertainty, in and of itself, is 2022 relative to what it might be under the trade deal. allow firms to acclimatise. The EU has negative for economic growth, and said that it will impose full checks from in this sense any news is positive. Over the long-term, however, non-tariff day one, which may mean that the UK’s But even an FTA imparts barriers (NTBs) are likely to exert by far exports to the EU are disrupted by more significant short-term economic the greater cost and, broadly speaking, than its imports from the EU. costs (and most likely long-term the trade deal doesn’t negate these, too), and it’s unfortunately still an despite what Mr Johnson tried to claim Of course, it has been known for some item in a list of reasons why the UK in his press conference. The Bank of time that NTBs are going up. As has the may emerge from the COVID- England expected around 80% of the near unanimous verdict of economists recession as an economic laggard. total reduction in trade as a result of “no (a rarity!) that the effects will be − Moreover, the fog of uncertainty is deal” to be attributed to NTBs. Others negative for UK growth. As investors we yet to disperse over the UK’s estimated upwards of 90%. The Cabinet focus on what risks may not already be outsized services trade. Talks are Office recently estimated the cost to UK compensated for by today’s prices. scheduled to begin in 2021 on companies of filling out customs The successful resolution to the trade several important ‘mini-deals’ declarations alone, for example, could talks makes us more hopeful that we covering, for example, cross-border come to £7bn. Various non-tariff will see use of trade facilitation financial services, the transfer of barriers affect trade in services too, to measures to cut down some – though by data between the UK and the EU, which tariffs wouldn’t have applied. no means all – of the burden of NTBs. or the portability of accreditation in That’s concerning because for several other professional services. decades UK growth has been founded The deal references a set of − Our analysis suggests that UK- upon its comparative advantage in arrangements whereby firms that focused equities and the pound are financial and business services. demonstrate consistent quality already priced for a particularly assurance on customs matters can be adverse scenario. Valuation gaps Few sectors escape NTBs such as checks designated “Authorised Economic with comparable assets overseas at customs on compliance with rules of Operators” who benefit from the fast- may begin to close, but not entirely, origin, labelling laws, and so on. An tracking of consignments and fewer as there are a number of non-Brexit annex on medicinal products sets out an physical and documentary factors at work. Broadly speaking, agreement on mutual recognition of examinations. It sets out clear we continue to favour global inspections and manufacturing InvetmentUpdate: Brexit deal procedures in a five page technical test. UK and EU financial institutions trading partners to make up trade appendix, and this is a good sign. currently follow the same rules, rules foregone with EU over the next decade. that tend to be decided by supranational Geopolitical dynamics have changed bodies such as the G20’s Financial since the referendum, and trade deals Risks to trade in services remain Stability Board or the Basel Committee, with both the US and China are The trade resolution also makes us and the most zealous aspects of recent arguably mutually exclusive now. The more hopeful about crucial negotiations financial regulation have been proposed UK-China relationship was also on cross-border financial services, by the UK not the EU (e.g. the ring damaged by the decision to ban digital and data transfer rights between fencing of retail banking from Huawei’s kit from the UK’s 5G network. the UK and the EU, or the portability of investment banking, the bank levy, and accreditation to conduct accounting the ban on inducements). Investment and public policy services due to take place in 2021. It is Broadly speaking, the costs of Brexit can encouraging to see that the deal The UK’s pre-eminent financial services be broken down into three: (i) short- contains an agreement to permit industry is about far more than London term disruption; (ii) productivity and lawyers to provide cross-border as a convenient gateway into the EU. It capital losses as changes shake services. British politicians have pointed is the agglomeration of three centuries themselves out in the market; (iii) long- to the framework that the deal provides of global financial activity, supported by run costs associated with being a more for establishing mutual recognition of world-leading professional services in closed economy. professional qualifications. But the EU’s accountancy and law, safeguarded by deal with Canada also contained such a the British legal system and made The links between trade and framework and yet no recognition accessible by the English language and a productivity - via competition, market negotiations have been successful. convenient time zone. The economic size, specialization, cross-border benefits to locating here will not be investment and technological transfer - In short, risk and uncertainty remain. erased if the UK breaks ties with the EU, are well known, and we won’t repeat The UK runs a large trade deficit in and the sector is highly unlikely to them. The drag on productivity from goods that is paid for mostly by its large collapse. However, if the UK failed to Brexit could be eclipsed by a publicly trade surplus in services, which is negotiate a substantial agreement on backed wave of digitalisation, green almost entirely in financial and other continued access, it is difficult not to energy infrastructure (increasingly professional and technical services. envisage a gradual loss of financial important for competitiveness as we business and investment, particularly move into a world where carbon border The UK will leave the EU’s passporting given that legal and regulatory experts taxes are likely), as well as initiatives to regime that permits financial have been emphatic since before the raise productivity outside of the South institutions in one EU country to referendum that the EU intends to East. Overall public investment has operate in any other member state clamp down on the extra-territorial been lower than in other leading without any extra authorisation. The UK provision of financial services. economies in recent years, and has already legislated for a temporary investment in digital infrastructure still passporting regime that allows EU firms Some financial service chiefs have lags investment in transport, energy and to continue to operate in the UK while warned that even with equivalence, utilities, which in turn lags the best- the process of obtaining full some business will have to move. performing advanced countries. authorisation is worked out. The EU has Passporting lasted for as long as you not reciprocated, and UK firms have were in the EU, but equivalence can be Public investment and support for transferred their EU clients to EU withdrawn at a moment’s notice. private business investment has been subsidiaries to minimise the disruption. There’s form here. In 2019, Switzerland noticeably absent in UK fiscal policy Thankfully, a series of special had its stock market’s equivalence during the pandemic, in contrast with arrangements has minimised any risks withdrawn. the EU’s Recovery Fund, for example. to financial stability for the foreseeable But it was pleasing to hear it featuring future, according to the latest Non-EU trade deals: blue, yonder so prominently at the recent assessment in the Bank of England’s As an EU member the UK had 40 trade Conservative Party conference.

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