Brexit: Four scenarios for trade talks and UK markets

If negotiations break down, it’s likely to be over state aid.

Brussels wants the UK to maintain some alignment on EU state aid rules in exchange for tariff-free access to the European market. Britain wants full-scope to support industries in the post-virus recovery. There’s also reportedly a view in Westminster that the costs of 'no deal' have already been registered over recent weeks, and that the economic damage would be hidden by the wider Covid-19 shock.

Economically, 'no trade deal’ doesn’t look substantially different from the scenario above, given that both would see a substantial decrease in market access. Tariffs will raise additional costs in some specific industries but for the bulk of goods, the real costs come from customs clearance and the potential delays, which also exist under a free-trade agreement.

Politically though, there are some differences. A broad free-trade deal could be coupled with unilateral measures to cushion the blow at the start of 2021. That’s unlikely to happen if talks break down and an agreement isn’t reached. In the longer term, trading on WTO terms is unlikely to prove sustainable, but starting from a point of political tension makes it tricky for both sides to return to the table, either for trade or wider cooperation.

It’s looking less and less likely by the day, but there’s still time for both sides to agree to an extension of the transition period.

That would give businesses more time to prepare for the forthcoming changes, and if an extension were to be agreed, that might be how Boris Johnson frames the decision. To be clear though, this is only postponing the inevitable economic hit. But crucially it would reduce the risk of disruption coinciding with another outbreak of Covid-19 over the winter.

This is undoubtedly a wildcard scenario - one that currently looks fairly unlikely. Most EU lawyers are adamant that once June deadline has passed, the opportunity to end the transition period is gone.

But with the UK set to opt against an extension this month, there’s an emerging debate on whether the situation could be fudged later in the autumn if a deal appears to be in sight. The Institute for Government has recently looked into this, and their conclusion is that the decision to extend the transition period would require a whole new agreement, that would be both time-consuming and legally complex to agree. That’s unlikely to be practical given the time available, even if the political will exists.

So as we said above, probably the best outcome we can expect is a collection of unilateral actions designed to help firms adjust initially. Financial services equivalence is a good example, but clearly none of these measures will replicate the current level of access.