There’s been great consternation and nervous wringing of hands in the City over Brexit, all accompanied by some pretty dire predictions as to its impact for the financial industry. Before the EU referendum accountant PwC, for instance, saw 100,000 jobs disappearing across the sector from any bitter parting of ways. And since its seismic outcome TheCityUK, a lobby group which represents most of the big players in the Square Mile, has warned of £38bn in lost revenue and 70,000 jobs vanishing through the UK’s divorce from the EU.
But the City’s blue funk over Brexit has left Patrick Minford, Margaret Thatcher’s economics guru, “stunned” and not a little irritated because, as far as he is concerned, the UK’s financial industry should, in fact, welcome Brexit – and a full-blooded one at that – with open arms and look forward to the long term fillip it will give the sector. In sharp contrast to the many and varied doom-laden predictions for the City’s prospects, Minford, professor of applied economics at Cardiff Business School, believes a hard Brexit will actually result in the financial sector expanding by 10% more over the next couple of decades than it would have done had the UK stayed in the EU. More broadly, his own economic model for a post- hard Brexit UK economy forecasts that by 2020 output overall will rise by 2% and that Britain will be 5% more competitive on global markets and enjoy a 1.5% rise in real wages.
The key reason why the City in particular needs to be rather more optimistic about Brexit is, says Minford, down to “comparative advantage”, a long established and widely accepted economics concept that describes how economies allocate resources in response to the performance of their industrial sectors in the course of global trading. In explaining its impact in the context of the EU and Brexit, he says: “What has happened up to now is that the EU has been highly protectionist towards its two pet areas, both heavily represented on the continent: food, courtesy of France, and manufacturing because of Germany. These two leading countries of the EU have pushed the region’s policy towards highly protectionist measures for the two sectors because they are key for them. And our consumers have paid the bill, our economy has paid the bill, because those protectionist policies have dragged into more prominence parts of our own economy that were not so promising.
“Moving out of the EU will lead our manufacturing industry to be leaner, more competitive; it will be focused much more on high-tech products and we’ll get rid of a lot of the metal bashing that is still in there. Farming will become more competitive, more productive. The end result of that realignment will be resources moving to other parts of the economy that are relatively more competitive, by comparative advantage. And that means predominantly the City.
“What the City seems to be unware of is that it is resources that determines its size, not the market. The City has gotten to where it is by being a focus for huge talents – lawyers, bright investment leaders, accountants and so on. All that came together in the City as a resource space after the 1986 Big Bang, after we organised our economy. And the City – which was pretty sleepy before Big Bang – opened up to the world. That is what created the City. It was a resource transfusion into this small area of the UK. And it then went on from there to create its pre-eminence as a world market. That was the order of causality. And what Brexit will do is strengthen the City because it’ll take away this incubus of it having to support an excessively pampered continental agricultural industry and an equally excessively pampered manufacturing industry.”
While the Brexit vote itself shocked and surprised many in the City and government, the big focus now is the precise terms for disengagement from the EU. And here the level of access to the EU’s single market post-Brexit has fast become the subject of heated debate, disagreements and intense lobbying. Amidst all the noise from axes grinding, however, Minford, interviewed by Fusionwire before the Conservative Party conference in early October, is characteristically ruthless in his assessment of the negotiating choices available to Prime Minister Theresa May: she doesn’t have any. Because for him it is patently obvious that the one and only course of action is a hard Brexit. May provided strong hints at the conference that she is veering towards a hard Brexit and Minford believes two key factors are pushing her relentlessly in that direction. The first is immigration to the UK: “It is a big red line now and Theresa May has been very clear it has to be brought under control – she was, after all, home secretary so you know that’s coming from inside her. At the same time there’s another big red line on the continent, which is there has to be free migration for any single-market deal, or anything approaching a single-market or trade deal with the UK. Any deal has to have free migration, because Eastern European countries are going to veto anything that doesn’t have that.
“I think the May government will come to pretty rapidly understand from their discussions and what they’re hearing that there’s no convergence of these two red lines, realise the only course of action is to leave the single market. And then they’ll focus on the shape of our relationship outside the single market. Then it will be down to the nuts and bolts of that relationship, bolting them down tightly. A lot of it is quite straightforward, non-controversial stuff, for instance customs agreements with the commission’s customs authority and our own customs authority, mutual recognition agreements, equivalence. I don’t think all that will take that long, once people really take onboard the reality of the situation.
“The big thing that’s taking time and energy at the moment is the sort of relentless backward-looking, “Can’t we stay in the single market?” And that’s got to go. And I think it’ll go quite quickly because it’s now pretty obvious that is not viable. Once you recognise those two red lines are never going to meet then a lot of hand wringing that is going on…with lobby groups and others, including from within Whitehall, fighting rearguard battles, pushing single market solutions… it all kind of dissolves, gives you clarity of purpose.”
The second big reason why Minford believes May must go for hard Brexit is the need for “optimality”, an economic state where national resources are allocated in the most efficient manner: “Optimality is the only thing that makes economic sense. The single market doesn’t make any economic sense. It’s thoroughly suboptimal. It’s protectionist, regulationist, it’s migrationist. It’s everything-ist except free trade. Free trade opens up this world of free markets and dynamos of comparative advantage and obviously that is best for the British economy – it has always thrived in that sort of program.”
“So for all those reasons I can’t see any deal on Brexit. Also, any deal that keeps us in the single market is suboptimal. That’s a harder thing for people to grasp, because obviously producers don’t care about that. They want to keep all of their privileges. At the moment there’s a lot of producer policies popping up; producer lobby groups roaming Whitehall, bending minister’s ears, saying “I want this, I want that…by the way I’ll look after you when you retire.” All that sort of stuff lobbyists do. And that will have to be brought to an end, and I think it will come to an end quite quickly, because of these obvious points which make any deal unfeasible.”
Hard Brexit Express
He strongly advises May to press on fast with the divorce and remove policy uncertainty: “The City has got to be given the policy environment it will operate in as quickly as possible. Also, we’ve got to find out sharpish what sort of response there will be from the EU countries towards our policy of leaving the EU and leaving the single market. Will they be protectionist? If so, City people ought to be aware of that ASAP so they can react to it, move into other markets.
“It is possible they might adopt a protectionist stance against us but it would not be in their own interests. It would also be against markets, Bank of International Settlements policy and it would be against what the Americans will be arguing for: a straightforward equivalent regulative regime, no tricks. They really would be setting their cap against the world if they choose to try and finagle things. I don’t think they will in the end, despite all their rhetoric, because it’s also bad for their own consumers, their own businesses, in terms of financial competitiveness – it would be self-harm. But they could be irrational in the short run, do all sorts of things that they’ll later regret. We need to know about all that as fast as possible. If they’re protectionist, trade will be diverted away from Europe to the world. The City will be just as prosperous as before, in fact, as I’ve argued, it will be expanded because it’s this enormously dynamic space.”
Minford is certain that once everybody acknowledges the reality of a hard Brexit a potential trading solution that has so far attracted considerable opprobrium will come to the fore. He is championing a unilateral free trade declaration by the UK under rules set for international trade by the World Trade Organisation (WTO). Under these rules the EU must levy the same barriers against the UK as against other non-EU countries such as Japan and the US. Minford has sought to address criticisms directed at the WTO option, notably in a recent paper for think tank Politea.
One criticism of the WTO option is that it is dangerous because the EU could deny the UK the piece of paper certifying that UK products satisfy EU product rules, called mutual recognition agreements, even as other countries like Japan, the US and China enjoy being party to them. If the EU chose to go down that route then it would, insists Minford, amount to an “absolute denial of market access by the EU to UK products”.
He adds: “Clearly outside the EU the UK would reach an agreement on mutual recognition of standards, just like these other countries. Any refusal by the EU to reach such an agreement while doing so with all these other countries would be discriminatory under WTO rules and therefore actionable in the WTO courts, just like any other discriminatory actions. And the UK would win because it would be plain discrimination by the EU.”
A number of City firms, meanwhile, have flagged their worries about what the EU might do post- hard Brexit in the way of financial protectionism, which Minford concedes is not so actively policed by the WTO. Euro-bond clearing has been mentioned by some firms as something that might be denied to the City. Institutions also fear the EU might deny them the financial passport that allows them to conduct business across the 28 member states without seeking country-by-country regulatory approval. Another big concern is the EU might argue that, post-Brexit, there was no longer ‘equivalence’ of regulations with the UK so its wholesale firms could not sell into EU financial centres.
Minford believes such worries are misplaced: “All these feared actions by the EU are discriminative policies with respect to financial trade which operates no differently in theory from any other sort of trade. All the arguments about EU protection as self-harm with no long-run effect on UK output of these financial services apply here too just as for goods trade. There would be some short run transition costs all round to UK and EU firms, which will act to discourage the EU to undertake such actions. But the key long run, dominant costs are for the EU and nil for the UK.”
Red lines rule
Not surprisingly considering his bullish stance on Brexit, Minford has been mightily disappointed by the position adopted by many institutions and high profile executives in the run up to the referendum and since. “Of course the banks don’t like it, they have vested interests. And they’re brutal, they lobby, they go for the jugular. I don’t particularly respect their actions over all this. And I think the British people discounted them heavily for those reasons during the referendum campaign.
“The banks must know they will very likely get equivalence, and even if they don’t, they are in the financial capital of the world and it will increase in size thanks to Brexit. They can open up new markets, there’s always other markets for them. That’s inconvenient for them, of course, because they’ve got to put in the marketing effort. And they also know they will be under pressure because if they don’t open up new markets, someone else will. So they don’t like it. Do we care? Not really, because this is about what is in the national interest. We care about the UK. The UK.
“Another thing that surprised me about the actions of banks and other leading institutions during the campaign is that they suddenly seemed to forget how hostile to finance the EU regulators are and their previous complaints about the financial transaction tax, the burdens of EU rules on bonus caps, the attitude of continental regulators and commissioners towards Anglo-Saxon finance. They conveniently forgot all that. And I thought, “How can you do that? Because even from your narrow viewpoint, even though you think you’re great lobbyists, surely you must be worried that something might get away from you?”
“They think they’ve got the financial transactions tax cornered. They think they’ve got the bonus caps cornered. But there’s gonna be something else, always is with the EU. So I think they were crazy on that, especially as the two big things post-Brexit are that the City will benefit from comparative advantage and it will benefit from UK-based regulation, which is, after all, the most experienced regulation in the world thanks to the hundreds of years of history of it being regulated by the Bank of England and financial authorities that have been very pro-business.”
Despite indications that Theresa May is tilting in favour of a hard Brexit it’s clear that she has a massive task ahead in navigating politically to that position. Does Minford think she can deliver what he so adamantly believes is best for the UK? He says: “While I don’t think Theresa May is particularly into economics – it’s not really her main specialty or area of understanding – she does have a kind of visceral understanding of free markets. She, after all, models herself after Mrs. Thatcher so she must be pretty free market. She’s got a few ideas about industrial strategy, which might be a bit iffy, but I think she’s fairly free market. So once she’s focused on the free trade, free market idea, I think she’ll be enthusiastic about a clean break from the EU. But I think what will really make her focus on what is needed is the sheer, brute analysis of those two red lines. There is no alternative, so we’ve got to think of something that is outside the single market.
“And I think that viewpoint is gaining traction. I know there’s a rearguard action in Whitehall, a rearguard action within the City and all over industry that’s saying “Hey, let’s have a Norwegian option.” But everybody knows that’s not gonna work. It’s not gonna fly because of these red lines. And once that’s understood, the brute politics of that forces people to think about the merits of different strategies. Do you keep current trade barriers? Are you going to be protectionist outside the single market? Do you go for some sort of tit-for-tat policy? No. They’ll look at all that and say: no. The right thing to do is be open, go for free markets, rely on the WTO, the BIS, the international legal frameworks to keep the EU in some sort of order. I am sure that’s the way forward for the City, and I think it’s the way forward for manufacturers too.”
Read Part 2 of the Fusionwire interview with Patrick Minford by clicking here