Making social science accessible

22 Jun 2023

Economy

Jonathan Portes runs the rule over the economic impacts of Brexit. He takes stock, seven years after the referendum, of what we know and what we don’t know, about trade, immigration and investment. 

Seven years after the UK voted to leave the European Union, the British public appears to have made up its mind about the economic impacts of Brexit. Two-thirds think it has damaged the economy, while even among Leave voters only 1 in 5 think the impact has been positive. The vast majority of economists would agree (and many would add a resounding “we told you so”). But that does not mean that we fully understand how, and to what extent, Brexit has affected the UK economy. So what do and don’t we know?

First, trade. The most obvious and direct impact of Brexit was to reintroduce significant non-tariff barriers to trade with our largest trading partner, so it’s here that the impacts should be the most salient. And indeed the headline result is that the UK’s trade performance has suffered considerably. The Office for Budget Responsibility notes that the UK’s “trade openness” (trade as a proportion of GDP) has fallen significantly, and considerably more than other advanced economies, just as they and others predicted.

But beyond this headline things quickly become murky. ONS trade data suggests that, rather than seeing – as simple trade models of the impact of Brexit would imply – a sharp fall in our trade with the EU in both goods and services, goods trade has been weak across the board, while services trade has held up well. There are plausible, but as yet unproven, explanations for this. On the one hand, trade models fail to take full account of how Brexit has impacted the UK’s participation in global supply chains; on the other, strength in service exports reflects the UK’s strong position in high value sectors like consultancy where there are few barriers to trade and where the pandemic has actually helped normalise the remote delivery of services. To further complicate the issue, there are numerous anomalies in the data. So, while it’s reasonable to conclude that Brexit has damaged the UK’s trade performance, it’s not as simple as just saying more trade barriers mean less trade.

Second, immigration. Again, the obvious and direct impact of Brexit was to end free movement, and there’s no doubt that has restricted labour supply – net immigration from the EU, which peaked at over 200,000 a year at the time of the referendum, is now negative. That in turn has had, as predicted, some negative impacts both on specific sectors and the flexibility of the UK labour market as a whole. Those of us who suggested the impact would mostly be higher prices and reduced output in the affected sectors, rather than sharply higher wages, have so far largely been proved right.

However, what was not predicted was the sharp rise in immigration from outside the EU, both for work and study, which – in numerical terms at least – has more than offset the reduction in EU migration. This has been driven by a number of factors, especially the relative liberalism of the post-Brexit system, refugee flows, and growth in international students. While not all are strictly “Brexit impacts”,  this shift in both the nature and national origin of migrants is very much consistent with the stated objectives of the new system. From this perspective, the short-term economic damage seen in sectors currently undergoing a painful adjustment process to the end of free movement will be more than offset by the longer term benefits of shifting towards more selective, higher-skilled migration. While it’s too soon to tell whether these will materialise, again the picture is much more nuanced than simply observing that Brexit has reduced migration from the EU.

Finally, investment. The relatively low level of business investment in the UK pre-dated Brexit, but both aggregate data and survey evidence strongly suggest that Brexit is at least in part responsible for the particularly poor performance since 2016, with investment perhaps 10% lower than it would otherwise have been: that in turn might translate to a reduction in productivity, and hence output, of a little over 1% of GDP. One key question here is whether this reduction reflects, at least in part, Brexit-related uncertainty, in which case some catch-up might be expected.

So, taking all this together, what’s the bottom line? First, the public is right. Brexit has damaged the UK economy. But, inevitably, the mechanisms and hence the impacts have been considerably more complex than economists could incorporate in macroeconomic or trade models, with their inevitably simplifying assumptions.   To simplify hugely, however, it would be reasonable to say that the impact on trade overall has been broadly consistent with predictions so far, that on immigration much less negative (and perhaps even positive) and on investment somewhat worse.

What does this mean for growth overall?  In an earlier post, I discussed modelling by John Springford of the Centre for European Reform, and the critique by Graham Gudgin and Saite Lu. Both produced quantitative estimates which, taken literally, imply that Brexit has already cost the UK over 5 per cent of GDP.  As I said there, I think that a substantial part but by no means all of the ‘underperformance’ shown in their models – which, as Gudgin and others point out, is at least in part shared by some other large European countries – is unlikely to be the result of Brexit.

So, what is a reasonable estimate? Well, here’s one I prepared earlier. In 2019, Thomas Sampson (LSE) and I modelled the impact of a potential “hard Brexit” more or less along the lines of the actual Trade and Cooperation Agreement, combined with a relatively “liberal” migration policy.  This suggested that the negative impact would be between roughly 2 and 6 per cent of GDP, with the large range reflecting uncertainty about productivity impacts. So far, the picture painted above seems broadly consistent with our analysis.

Can we narrow down the range? Given the UK’s poor investment performance, my judgement is that the upper end of that range seems more plausible, and – very roughly – perhaps half that impact has materialised so far, with the rest still to come though. My central view is therefore that the best estimate of the negative impact of Brexit on UK GDP to date is 2-3 per cent of GDP. But, as the discussion above shows, the debate is far from over.

By Jonathan Portes, Senior Fellow, UK in a Changing Europe. 

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