No-deal Brexit: economic implications for Scotland

Section 1 - Overview

The terms of trade between countries within the EU have eased considerably over the last 40 years or more. The removal of tariffs on the trade of goods within the EU was abolished in 1977 and the completion of the single market in 1992 enabled the free movement of goods, services, people and capital. Alongside the common external tariff and the expansion of the EU, this has been a key driver of investment in Scotland and the UK.

A No Deal Brexit essentially brings these arrangements to an immediate end and the UK becomes a third country with regard to EU market access. This represents an immediate terms-of-trade shock for the Scottish (and UK) economy. Previous economic analysis by the Scottish Government has set out the long term implications that leaving the EU and single market could have on Scotland's economy.^[6]

This analysis, summarised in Box 1, assumed that post Brexit, there would be a new negotiated relationship between the EU and the UK. However, there is an increasing risk that the UK will leave the EU at the end of March 2019 with no deal and no period of transition.

Such an event would represent a serious economic risk to the Scottish economy. There is no uniform definition for what would happen under a No Deal Brexit. However, it is broadly accepted that such an outcome could lead to:

• The introduction of customs and border checks, and compliance with rules of origin procedures, impairing companies' ability to quickly and efficiently export to the EU.
• The adoption of World Trade Organisation (WTO) trading arrangements, resulting in the UK market being subject to EU common external tariffs which will impact the export of goods (agriculture).
• New licencing requirements, resulting in some companies having to pause EU trade until appropriate accreditation is received.
• Workers' ability to seamlessly move between the UK and the EU, and vice-versa, being impaired.
• Companies' supply chains being disrupted as a result of increased costs and potential delays to the delivery of inputs.

The remainder of this paper illustrates the potential channels through which a No Deal Brexit could impact the Scottish economy over the next 12 - 24 months and sets out the potential scale of such impacts.

Section 2 outlines two scenarios for how a No Deal Brexit could occur, and the transmission channels through which such an outcome could impact on the economy.

Section 3 summarises recent economic developments in Scotland, and outlines the impact that previous economic shocks have had on the Scottish and UK economies.

Section 4 provides an illustration of the potential impact that a No Deal Brexit could have on key Scottish macroeconomic variables.

Section 5 extends this analysis to consider the potential sectoral and regional implications of such an outcome.

Box 1 - Long Term Implications of Brexit on Scotland's Economy

The Scottish Government published analysis of the long term implications that different trading relationships with the EU could have on Scotland's economy in the report: Scotland's place in Europe: people, jobs and investment^[7].

The three alternative scenarios to EU membership examined were:

• World Trade Organisation style relationship;
• Free Trade Agreement: outside the Single Market and Customs Union;
• Membership of the European Economic Area (EEA).

The analysis focussed on six economic areas that are impacted by the type of relationship the UK has with the EU: (i) volume of trade in goods and services, (ii) levels of trade tariffs with the EU, (iii) Foreign Direct Investment (FDI) flows, (iv) productivity growth, (v) net migration; and (vi) the UK/Scotland's net contributions to the EU budget.

The modelling found that each scenario resulted in a permanent decrease in GDP relative to continued full EU membership. The magnitude increases the looser the relationship with the EU becomes. The key results from the modelling are summarised in the table below.

Figure 6 - Headline Macroeconomic Indicators by 2030 relative to a baseline of Full EU Membership

Source: Scottish Government Global Econometric Model (SGGEM)