Why Europe wants a hard Brexit to hurt

Britain’s European partners are uniting around a very tough position on the forthcoming Brexit negotiations. At the same time, Theresa May is starting to rule out options that could leave Britain closely integrated with the continental economies. Both her government and the 27 are being driven by politics rather than economic self-interest. This will harm trade and investment and therefore leave Britain poorer.

May has announced that she will invoke the article 50 exit procedure before the end of March, while also rejecting the jurisdiction of the European court of justice. Together with her promise to restrict the right of EU citizens to work in Britain, this precludes staying in the single market with which Britain does almost half its trade.This means the UK will have to negotiate access to the single market, sector by sector, through a free trade agreement (FTA). British manufacturers may not suffer too much, since FTAs (such as the recent EU-Canada deal) eliminate tariffs on goods, although the UK’s likely decision to also leave the EU customs union will create hassle on borders for importers and exporters. The problem with such an agreement is that it would do little to open up markets in services such as finance, construction or aviation. That would require the removal of regulatory barriers – which is what the European single market is all about.

The British economy is about 80% services. The glummest faces that I saw at the Conservative conference in Birmingham were those of the bankers. They noted that ministers failed to speak out on the importance of their sector. They are becoming resigned to losing “passporting” – the rule that allows a UK-regulated firm to do business across the EU – and are preparing to shift operations out of London. Some bankers reckon that this exodus will deprive the Treasury of about £10bn in taxes a year.

British officials hope to win a much better deal than the Canadians; after all, Britain has a bigger economy and the 27 would benefit from it thriving. They expect a “Canada-plus” FTA, covering some services as well as goods. That may be possible. The problem, however, is that the 27 other governments are forging a very hard line on Brexit.

Article 50 was written to put a country leaving the EU at a disadvantage. Once a government activates the article, it has just two years to negotiate the exit settlement. The two years may be extended by unanimity, but most of the 27 want Britain out before the June 2019 European elections and the conclusion of the next round of EU budget negotiations at about the same time. A separate negotiation will be needed for the future economic relationship, in the form of an FTA, but that could take five years or longer to complete and would then need ratification in each of the national parliaments (and there are, confusingly, 45 in the EU). So the UK will need an interim deal to provide cover in the years between leaving the EU and the entry into force of the FTA.

But the clock will be ticking during the negotiation of the divorce settlement and the interim deal. And if the talks break down without agreement, the UK will be on its own with only World Trade Organisation rules – which would mean 10% tariffs on UK exports of cars and more than 50% on some meats, and provide no access for services.

Because the cards are stacked against the UK, the prime minister has asked for “pre-negotiations” before invoking article 50: she wants to know what her partners might give her, including in an interim deal. But the 27 are refusing informal talks lest clever British diplomacy undermines their unity.

On recent visits to Berlin, Paris and Brussels, I was struck by the uncompromising line on the “indivisibility” of the four freedoms – of labour, capital, goods and services. Key policy-makers say the UK cannot be allowed the benefits of membership, such as participation in the single market, without accepting the responsibilities, such as budget payments and free movement (Switzerland and Norway accept both).

British negotiators need to understand why the 27 are so obdurate on this point. The Germans and others worry that if the British win a special status, other countries – inside or outside the EU – would ask for equivalent deals. And that would potentially destabilise the union.

But the biggest driver of the tough line on the four freedoms is fear of populism. In Paris, mainstream politicians do not want Marine Le Pen to be able to say: “Look at the Brits, they are doing fine outside the EU, let’s follow them there.” Similar views colour thinking in The Hague, Rome and other capitals: the British must be seen to pay a price for leaving.

The British need to worry about the European parliament, with which they have long had antagonistic relations, and which believes in the mantra of the four freedoms. It must approve both the article 50 agreement and the FTA. If by some feat of brilliant diplomacy, Britain were to win a deal combining single-market membership with limits on free movement, MEPs would throw it out.

Many Brexiters claim that the toughness of the 27 is merely an opening stance, and that, when talks commence, economic self-interest will push them to soften. But that may be wishful thinking. One top German official told me that a bad deal for Britain would divert investments to Germany and thus benefit his country.

And although German industrialists would like to see Britain closely integrated with the European economies, Theresa May should not assume that they drive German policy. They have spent the past two years lobbying against EU sanctions on Russia, without any impact. In any case, an FTA between the EU and the UK, removing tariffs on goods, would suit German industry. It would not be so good for the service-dependent UK economy.

Many Conservatives hope that in the end Angela Merkel will look after the UK. It is true that she is likely to remain chancellor after next September’s general election. And she certainly regrets Brexit and wishes Britain well. But her main responsibility, as the EU’s unofficial leader, is to keep the 27 together, and that means working closely with the French to do so. For Merkel, the interests of the EU come first. She believes that maintaining the institutional integrity of the EU, and the link between the four freedoms, is in Europe’s and therefore Germany’s interest.

One reason that British politicians are over-optimistic about the kind of deal they can achieve is their misreading of continental debates on migration. They tend to assume that because the British dislike EU migration, other Europeans must think similarly. Therefore, they argue, the 27 will soon come round to Britain’s viewpoint and want to limit free movement.

However, in most EU countries the big issue is inflows of people from outside, not inside the EU. In Germany, for example, mainstream politicians do not see intra-EU migration as a big problem. So the 27 are not going to allow the British to combine single-market membership with controls on EU migration.

Because article 50 puts the British government in a weak position, it cannot hope for a half-decent deal without a lot of goodwill from EU partners. If British ministers thump the table and issue threats, they will lose goodwill. The anti-immigrant tone of the Conservative party conference will have done nothing to enhance the UK’s reputation.

Charles Grant is director of the Centre for European Reform.