Saturday 7 November 2009

Bad but the EEA is the reason why this is not scary

Ok! So, Tony barber has the following thing to say: "If Cameron - or, more likely, William Hague, his Rottweiler foreign secretary - causes the relationship to deteriorate too much, then it is certain that calls will mount in mainland Europe for the UK’s departure from the EU. And, of course, there will be many in the Tory party - and the UK Independence party and elsewhere - who will say, “You know what? Why not?” Now I've put forth this idea at least twice, but I'm not particularly happy to get confirmation. I maintain, that if this were to actually take place, that half witted eminence would find himself at the end of a very uncomfortable political and economic environment. But as a UK graduate and a fan of the country, I believe it would be an enormous (but bearable) loss to the EU. And this is where I move on to the next step, and believe that sounding the alarms is unwarranted. The UK may hurl uninformed and bigot insults at the EU, however it can do very little to stop the EU except from withdrawing its contributions to the EU budget (which since Thatcher are not enormous). Otherwise the number of fields on which it holds a veto power is very limited. This is actually where the opt outs from the UK are useful. The EU can't impose its rules on it, but it is also unable to veto those proposed rules. On the other hand, the EU can do a lot of damage. Most of it would be indirect and even passive. Some at least theoretical could be direct and malicious in intent. Lets see: The first category implies by its mere existence the EU could damage the UK, if that country were to leave the union. How? Two interconnected reasons: financial markets and trade. The UK is enormously dependent on the financial sector, whose agentstend to be quite sensitive and fond of the EU (bigger markets=more money!!). If the UK left the EU (to become unassociated with any other European integration project than the OECD and the OSCE)it will be exposed to suddenly having to pay tariffs on exports to the EU. Don't get me wrong, I have no illusion that the EU would lose a lot from it. But in this, as in many other things, size matters and as it stands the EU is a giant in comparison to which the UK is small. Not tiny, not minuscule, not meaningless, but small enough that it would suffer a lot as exports and imports would decrease. Where as Europe would suffer a little bump, the UK would fall down a ravine. As the it loses access to the EU investors will start abandoning it, as products manufactured in the UK no longer have access to the rest of the EU market and are thus more expensive. Who would benefit? Probably Sweden, Finland, Ireland and Denmark who would split the chunk of market share that UK firms would loose, and Paris and Frankfurt who could then become the uncontested centers of European finance. In conclusion to this discussion, this is a situation that can be quite easily understood in the following manner: if, Y=C+I+G+X-M and Y=C+S+T, where Y is the GDP, C is consumption, I is investment, G is government expenditure, X is value of exports, M is value of imports, S is national savings, and T is government revenues, then I-S + T-G = X-M, If the UK leaves the EU, it automatically means that "X" decreases and "I" decreases, which implies, under the "crazy" assumption that the British will not suddenly want to tighten their belts and consume less, that in order to maintain present levels of consumption the UK government will have to start spending more (G increases) without forcefully raising taxes. Conclusion? If the UK leaves the EU, it is forced to run a deficit. Given its present fiscal situation I don't believe that is not quite advised. And remmember, this is all without the EU moving as much as a malignous finger. Imagine if the EU was to become vicious about this: That's unlikely scenario number 2. EU governments and the ECB could do 2 things. First they could start selling UK Treasury bonds, thus causing a decrease of the credibility of the pound. Secondly they could start selling as manny pounds as they hold. Both would be bad, in conjunction ,and with the caveat associated with lack of quantitative data, I would estimate it would be lethal for the UK. But then again, this is not only an extremely unlikely scenario. It is one which could jeopardise the EU. A trauma for the UK, the back days of the George Soros created monetary crisis are still a vivid memory for the Brits. However this was caused by bad governance which brought about an inevitable event. The close pegg of the pound to the Deutchmark, with open financial markets and no capital controls, was according to the "unholy trinity" of exchange rate agreements, doomed to fail. Germany stopped helping the UK buying pounds because otherwise it would be sunk with the it. What I am proposing here, simple though it may sound is pure evilness in terms of economics and completely abhorrent to the consensus typical of the concerns and approaches of the EU. So really I cannot contemplate a reality where Scenario 2 comes into being. But then again, my imagination is limited while the realm of possibility is infinite with decreasing probability. It would take the coincidence of an enormous amount of human stupidity for matters to reach this climax. This really is an apocalyptic vision as far as economics is concerned. In consequence I propose that if the UK is to make too much of a fuss, the other members of the EU ought to ask it to leave the area. In so doing they should stir some much needed debate at home which at least should highlight the arguments above. If the government responsible for this antagonizing mess is not booted out of office and the UK actually choses to pursue this line of action, then a much less complicated alternative, that in my opinion is becoming much more optimal for all parts concerned, would be for the UK to leave the EU and join the EEA. The EEA is the European Economic Area, heir to the European Free Trade Agreement, and has such illustrious members as Norway, Lichtenstein and Iceland and the other 27 members of the EU, who set the rules of economic activity. Basically non EU members of the EEA have to abide by the rules in order to get access to other European markets, but do not have a word in determining those rules. Everybody gets the economic benefits, the UK does not have to follow any "Foreign" or "European" encroachment on its (nominal political) sovereignty rules while the rest are able to happily pursue political integration. Finally, Spain will still receive its fair share of drunk British tourists. Why would I still prefer the UK to stay in the EU? Because despite its most childish of attitudes towards the project, there is a place for the UK, as long as it is a constructive and honest partner. Skepticism is not a bad thing and the EU is a huge undertaking one which benefits from the occasional slowdown and brainstorming which such a partner could stir. However it is a fragile project and it is dangerous to undermine it with ignorance and nationalist slur. Either way I still wonder where this will all have led to in 10 years time...

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