Don’t blame Brexit for our economic woes
On a range of metrics - from trade to inflation and the financial sector - the downsides of leaving the EU have been vastly overstated
The sixth anniversary of the Brexit referendum prompted another wave of warnings about the economic costs. Indeed, if you believe the latest headlines, leaving the EU has been an economic disaster and is one of the main reasons why the public finances are in such a mess.
The aim seems to be to persuade us that the UK cannot prosper outside the EU and should at least rejoin the Single Market, either formally, or following the Swiss model of ad hoc agreements that could amount to the same thing.
Several of the usual suspects in the media are involved. However, one of the low points was the claim by the former Bank of England governor, Mark Carney, that the UK economy had shrunk from 90 per cent of the size of the Germany economy to less than 70 per cent since 2016.
Even economists who are known to be sceptical about Brexit denounced this as ‘nonsense’, but Carney followed up by implausibly blaming the latest increase in interest rates on Brexit. In his view the departure from the EU had "slowed the pace at which the [UK] economy can grow".
It was to examine, and where necessary correct, such claims that we recently published a detailed report on the BriefingsforBritain website. This carefully describes the evidence and methods used in a range of studies and articles and shows how the UK compares with other countries for changes since 2016 in GDP, trade, inflation, exchange rates and the financial sector.
The hard evidence is that leaving the EU has had remarkably little impact on the UK economy. Between the first quarter of 2016 (the quarter before the referendum) and the third quarter of 2022, OECD data show that the UK economy grew by a total of 6.7pc. This was a little behind France (7.4pc), but ahead of Spain (6.6pc), Germany (6.2pc) and Italy (4.9pc). UK exports to the EU have recovered to long-term trend levels and the City of London has been little impacted.
This, of course, contradicts the Carney claim, which was based on data at prevailing market exchange rates and therefore reflected the fall in the pound since 2015. But the net effect of a weaker currency on the economy is uncertain and it is wrong anyway to assume that sterling would not have weakened regardless of the outcome of the referendum. Sterling already looked overvalued in 2015 – with the UK running a huge current account deficit – and the retreat in the effective exchange rate in 2016 was only to a little below the average for 2009 to 2013.
Another persistent belief is that the vote to leave the EU prompted a collapse in investment which has left it far below its trend rate. The studies that make this claim are mostly based on a simple extrapolation of the growth in investment between 2009 and 2016 and the implausible assumption that this growth would have persisted indefinitely. In fact the growth in investment during these years was a strong, but inevitably temporary, rebound in investment from the depths of the global
financial crisis.
Taking a longer view, UK business investment is only a little below its historic trend, and some of the gap can be explained by lower investment in North Sea oil and gas which is clearly unrelated to Brexit.
Foreign direct investment (FDI) into the UK has also held up well since 2016, in contrast to predictions that it would slump. In particular, greenfield FDI into the UK rose by a third between 2016 and 2021 and was the highest of any large European economy in every year in this period.
There is little evidence either that Brexit has contributed to labour shortages (at least, not permanently). UK employment has failed to recover to pre-Covid levels and this helps to explain the relatively weak growth of the UK economy since 2019. But this mainly reflects an increase in long-term sickness. The failure of many EU migrants to return to the UK can be attributed to the pandemic too, which has had a similar impact on the migrant workforce in other European countries, notably Germany, where vacancy rates are similar.
This leaves two other channels by which Brexit might have ‘wrecked’ the UK economy. One is inflation. However, UK inflation has been similar to that in the US and EU, including food price inflation. The other is trade. Far from collapsing as some claim, UK trade with the EU has fully recovered after some initial disruption.
The views of the Office for Budget Responsibility (OBR) have been widely cited here. It would be odd to deny that the increase in trade frictions between the UK and EU has had any negative impact. However, it is not clear that there has been a significant drop in trade intensity, at least in the latest data, or that the drop that has happened is primarily due to Brexit. It is certainly a huge leap to assume, as the OBR does, that this is a permanent hit which will reduce the long-term productivity of the UK by as much as 4 per cent.
In particular, there has not been a big difference between the performance of UK exports to the EU and those to the rest of the world. What’s more, until the energy crisis, the UK’s trade balance with the EU was actually improving as exports held up better than imports.
It is worth noting too that the OBR’s 4pc assumption is based on an average of outside studies, rather than original work. The evidence for a strong link between changes in trade intensity and in productivity in an economy like the UK, which is already relatively open and developed, is also weak.
The lack of evidence of significant economic harms from Brexit is particularly important because it was always likely that most costs would be upfront and relatively visible. In contrast, the main upside of Brexit was always the increased freedom to develop distinctive economic policies, whose benefits would take longer to come through.
Success or failure will depend on how effective these policies prove to be. But it would be wrong to backtrack now on the basis of an anti-Brexit campaign built on such flimsy foundations.
Dr Graham Gudgin, is Research Associate at the CBR, University of Cambridge and Julian Jessop is a Fellow at the Institute of Economic Affairs
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