Merkel and her fellow EU leaders are under pressure to save Schengen. © Sean Gallup/Getty Images

Would it actually matter if we left the EU?

There is a case for Britain remaining a member of the European Union, but it has little to do with economics
June 17, 2015

As a non-British citizen who lives in the United Kingdom, I am one of those who will not have to answer the question: “Should the UK remain a member of the European Union?” If I were, I would consider the following two answers—both of which would render my ballot paper invalid: “Define European Union!” and “Could you ask me that question again in five years time?”

There is nothing flippant about those responses because it is important to understand, at some level of technical detail, the nature of the institution I am being asked to leave and to consider ongoing political developments that would have a material bearing on my answer.

The EU that France or Germany belong to is very different from Britain’s EU. I am not speaking about perceptions or attitudes but about the EU as legal entity. Britain is not a member of the eurozone, nor of Schengen, the group of countries that have enabled passport-free travel between one another. Britain has exempted itself from justice and interior policies and also has a special prerogative that limits the ability of the European Court of Justice to interfere with how UK courts implement the Charter of Fundamental Rights.

And these are only the formal opt-outs. Then there are the areas of policy that Britain is technically involved in, but in reality is absent from. Vladimir Putin’s EU interlocutors are Germany’s Chancellor Angela Merkel and France’s President François Hollande, not David Cameron. This was Cameron’s choice. And while Cameron accepts the legal principle of the free movement of labour within the EU, he does not accept the principle of non-discrimination when it comes to benefits those workers might receive—the so-called in-work benefits.

Britain's relationship with Europe, in pictures:

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So what’s left? There is, of course, the customs union, of which any EU member is a part. If Britain left the EU, it would eventually have to leave the customs union. But customs unions are really only relevant for manufactured goods, which form a small and steadily declining part of gross domestic product (GDP) in all countries. The customs union was a much bigger deal in the smokestack economies of the 1950s and 1960s than it is today. It would matter for a number of non-British companies that have chosen the UK as a production location for exports to the rest of the EU. A British decision to exit the EU might persuade some of them to leave, but it is hard to judge how many would do so, and whether the impact would be significant or whether there would be countervailing factors. For instance, some companies might relocate to the UK if it were to offer lower taxes or a better regulatory environment once it is outside the EU. But I would distrust studies claiming to know the answer to this question, since these always fail to take account of the real dynamics at work.
"The single market has a certain “motherhood and apple pie” quality—it is very hard to be against it."
The next privilege of EU membership is joint trade agreements with third parties, of which there are several, with a number of important negotiations still in the pipeline, notably with Canada and the US. It is technically true that, were it to leave the EU, the UK would have to renegotiate all these agreements. But “Brexit” would be subject to a detailed technical agreement that would foresee transition times and rules and privileges that continue after departure, either permanently or temporarily. It could, for example, allow the UK to maintain the EU’s trade agreements over a period during which the UK negotiates its own version of these agreements. It would be a bureaucratic nightmare, one that would generate very large fees for lawyers and consultants, but EU members are used to this type of challenge. Alternatively, think about it this way. The UK is the EU’s largest trading partner. Why should the EU want to cut the UK off from trade? The idea is absurd. If you want to find a reason to stay in the EU, you’d better come up with something better than trade with third parties.

That leaves the single market, the ultimate “gotcha” argument for pro-Europeans. The single market has a certain “motherhood and apple pie” quality—it is very hard to be against it. If Britain were to leave the EU, its access to the single market would be in doubt. Britain could join a club known as the European Economic Area (EEA), which currently includes the EU, Norway, Iceland and Liechtenstein. The trouble is that those three countries are passive members of the EEA. They have to accept whatever rules the EU imposes on them. Most likely, Britain would not join the EEA on leaving the EU, in which case it would have to negotiate its own arrangements with the EU, which may or may not be possible. The argument thus becomes the following: only EU membership guarantees the fundamental right of access to the single market, and only EU membership guarantees the right of vote in the Council of Ministers.

All this is true, but consider a couple of qualifications. First of all, voting on single market issues is by “qualified majority” (where 55 per cent of member states are required to vote in favour of a proposal and that proposal is supported by states representing at least 65 per cent of the total EU population). Nobody has a veto on single market legislation, whether they are in the EU or in the EEA.

Then consider this: how much is the single market actually worth? Supporters usually point towards studies showing that it has had a big impact on the economy. It has certainly affected location decisions by companies, and may even have driven up trade between countries. Any goods licensed for trade in any member state can be sold without further bureaucratic hindrances elsewhere in the EU. What can possibly be bad about that?

To understand its true impact, however, it is not enough to point out who has gained from it. One should also look at those who have not. If the single market had produced an increase in efficiency across the economy, you would have seen the effect in aggregate productivity data across the EU.

But if you look at the trend of EU-wide productivity, the single market leaves no trace. In fact, productivity growth in the EU was in the order of 1-2 per cent a year in the late 1980s. Between 1990 and 2000 it fluctuated around 1 per cent. The average between 2001 and 2007 was 0.7 per cent, and it has averaged around zero since. It has been downhill ever since the official start date of the single market in 1992. Productivity trends in Britain are very similar. You could, of course, argue that without the single market, the situation might have been worse, but that assertion is impossible to prove. My point is that the single market is not visible in the macro statistics. What you are hearing are extrapolations from a micro perspective. Advocates of the single market might benefit from it personally, and so might their shareholders and employees. But the data are telling us a different story—that the single market is a giant economic non-event, for both the EU and the UK.
"Those who truly favour the EU do not need a reason for doing so. They just  know."
What about the City of London? Would the City lose its status as Europe’s financial centre if Britain left the EU? There are a number of equally plausible answers to that question. My hunch is a qualified “yes.” Yes, but it would happen anyway because the eurozone will eventually find that it is in its own interests to have a financial centre, or centres, inside its own borders. But why worry? If the single market is a zero-sum game, other sectors might benefit. Smart graduates from British universities might find more useful employment in different sectors, thereby boosting the British economy in other, and possibly better, ways.

Not only do I find it hard to make a compelling case for British membership of the EU on the grounds of the single market, I go further and reject all utilitarian arguments. Utility is hard to define, whereas “ever-closer union,” which is enshrined in the Treaty of Rome, is a matter of principle. There are, of course, very good reasons for supporting membership of the EU. But I am incapable of justifying my answer in terms of the amount of utility I might derive from it. My justification is as sophisticated as that of a three-year-old: I want it because I want it. Those who truly favour the EU do not need a reason for doing so. They just know.

I am aware that very few people in the UK claim an emotional attachment to the European project. Without that kind of attachment, and without membership of the euro and with doubts about the economic benefits of EU membership, it is no surprise that the debate in Britain takes the form that it does.

The reality is that the alternatives are not as stark as they may appear. This is not really a binary question of whether Britain wants to be “in Europe” or some other geographic domain. It is really a choice between membership of the outer sphere of the existing EU and the inner sphere of a group of the EU’s closest neighbours. I doubt that most people would notice the slightest difference in their personal lives were Britain to leave—except that they will be able to enjoy duty-free shopping when they travel to Europe. This is also why I find it hard to get enthusiastic about the “in” or “out” arguments. In the end, it probably does not matter much anyway because Britain effectively left the EU a long time ago when it decided not to join the euro.

This explains the first of my two responses, “Define European Union!” What about the short-term political dynamics? The really big job the EU will have to accomplish over the next five years is to make the eurozone work. It is not clear that it will succeed. It is conceivable that Greece may leave the eurozone, and that this may, over time, lead to a wider breakup. It is possible that the eurozone manages to stay together for now, but will not be able to cope with the next economic downturn, or the next financial crisis. It is also possible, of course, that the eurozone finds the will to do what it takes to survive, especially the will to create a genuine banking union with a common fiscal backstop. The least likely scenario is that the eurozone simply continues as though nothing has happened. When Germany runs a current account surplus of nearly 10 per cent of its GDP, an unreformed eurozone would become increasingly divergent.

A functioning eurozone would require a much closer level of political integration than currently exists. It would almost certainly require a banking union with a joint fiscal backing. If the current EU is a hybrid between a state and an international treaty organisation, the eurozone will shift the balance in the direction of a state. This raises some fundamental questions about the relationship of the countries inside the eurozone with those outside, especially Britain. If the eurozone turns itself into a political and economic union—which it must do to survive in the long run—what would be the UK’s interest in remaining in a union with such a large bloc? The eurozone will always be able to outvote Britain and the other non-eurozone countries in the Council of Ministers. It is conceivable that eurozone integration without treaty change would be the equivalent of a unilateral British decision to leave the EU—in the sense that they would both produce the same outcome.

The changes to fix the eurozone will require treaty change. They will impinge on the UK’s existing relationship with the EU in a potentially harmful way. But the treaty change will also offer Britain a chance to negotiate a deal, based on its status as a permanent outsider. The quid pro quo is that Britain accepts further eurozone integration, while the rest of the EU accepts whatever shopping list of opt-outs the British government of the day, presumably the current one, will ask for. The danger is that the eventual deal is ultimately indistinguishable from the status a British government could negotiate with the EU after a “no” vote. No matter what happens, Britain’s future relationship with the EU is going to be one of semi-detachment.

The next problem is that the in/out question cannot properly be answered until 2018 or 2019, because the EU will not discuss treaty change until then. The reason is that neither Merkel nor Hollande wants to touch this hot issue before the next elections in both countries—in 2017. Germany will vote after France, probably in September of that year—and if previous experience is anything to go by, it might not be until December that a government is formed. This timetable would push all serious treaty negotiations into 2018. If these negotiations were to conclude in the same year, a hugely optimistic assumption, they are unlikely to be ratified before the end of 2019, and will not come into force until 2020, when the next UK general election will take place. That would be an almost naively optimistic timetable. In all likelihood, it will take a lot longer. The ideal time for a UK referendum would therefore be the moment after such a treaty change is decided. That obviously does not suit Cameron’s political timetable.

The best Cameron can hope for in 2016 or 2017 is a political agreement—a promise to incorporate a series of amendments into the next treaty change, whenever that may be. This is also known as the “Danish solution,” since it was the technical device used in 1992 to allow Denmark to opt out of the single currency after a referendum in that country produced an unexpected “no” vote—as European referendums so often do. The Danish solution presupposes that a treaty change will happen, that it will happen in good time and that the agreement will be honoured. Between 1991 and 2001, there were three treaty changes in relatively close succession. The subsequent one, the one that resulted in the current Lisbon Treaty, took a further eight years.

The longer the gap, the greater the chance that not all governments will abide by the political promises their predecessors made. The EU is no longer the same institution it was in 1992. What is agreed politically will never be the same as a treaty. It will have the legal status of a warm handshake.

Another consideration is the dynamics of interaction between the eurozone and non-eurozone in areas where there is an obvious overlap between the single market and market integration that is specific only to the eurozone countries. Will it be possible to have a banking union for the eurozone only, but a capital markets union for everybody, including Britain? I doubt that this can work. The optimal area for an integrated financial market is not a customs union, but a monetary union. This is a potential conflict that will eventually need to be resolved. It is not clear whether this is possible. How this question is answered will clearly affect the rational, utilitarian calculation a British voter makes on whether to stay in the EU or not. So even if you consider yourself a pragmatist, you will not be able to get around the problem that you will only be able to make a informed choice until the relationship between Britain and the rest of the EU is defined. My guess is that this will not happen in the current parliament.

The strongest argument for staying in the EU is that in the presence of uncertainty it is best not to vote for change until all the facts are known. But then again, whether you vote no to staying in the existing EU, or yes to a highly devolved EU with a political integrated eurozone and a drastially decentralised fringe, is probably not going to make a lot of difference. My guess is that the debate over the in/out decision will generate massive noise, but when we look back on it with some detachment, we will conclude that it probably did not matter all that much.