Tuesday, 22 August 2017

Tariffs, Rules of Origin, Cumulation & Anti-Brexit scare stories

Another day, another Brexit scare story. Today, I saw a "Proffessor of European Politics" (we can guess which side of the Brexit debate he is on) retweet an article from Bloomberg press (a famously anti-Brexit outlet) worrying that British cars may not have enough British content to qualify for tariff-free trade.
Current trade pacts generally require exporters to prove that 50 to 60 percent of a product’s components are from the originating country to avoid tariffs. But U.K. cars are now just 44 percent British-made on average, according to the Automotive Council.
Of course, this assumes anti-Brexit scare stories that the EU will not offer Britain a Free Trade agreement (FTA) are false. We also have to ignore Remain telling us that "tariffs are not important, it's non-tariff barriers that matter" and conclude that Remain think tariffs are important after all.  But crucially, the article fails to understand  a key element of trade agreements and rules of origin - that of "cumulation".

Typically the EU's trade agreements with third countries include "bi-lateral cumulation" - which means that components from each party to the trade agreement count towards the meeting the minimum "originating" content threshold. In the EU-South Korea FTA, EU + South Korea content is considered local in meeting the minimum "originating" threshold (55% for cars). So if Britain and EU conclude an FTA with bi-lateral cumulation, EU content is added to Britain's 44% to see if the minimum threshold (probably 60%) is met.

In fact, it is more likely that Britain would remain part of the Pan European Mediteranean (PEM) Cumulation Zone as part of any Free Trade agreement with the EU. The PEM convention provides "diagonal cumulation" across the EU, all EFTA states, the Faroe Islands, Moldova, various Balkan and Mediterranean African countries. This could be thought of as multi-lateral cumulation rather than bi-lateral cumulation in that content from multiple parties to the agreement count towards  "originating" content threshold - encouraging complex and distributed supply chains spanning the cumulation zone.

There is also a question over what happens with the various EU-third country FTA's. Britain will likely want to grand-father the existing FTAs into new UK-third country bi-lateral FTAs. However, that would mean UK bi-lateral cumulation with South Korea for example would only allow UK+South Korea content to count as "originating" - EU sourced content would not count towards the threshold. Moreover, UK content would not count as "originating" in EU-South Korea trade, wit the possible consequence that European and South Korean manufacturers will move supply chains away from Britain.

However, the recent announcement on a future EU-Japan FTA provides the solution in discussing "extended cumulation". What this means is that where the EU and Japan have FTAs with a common third country, content sourced from that third country also counts as "originating" in meeting the minimum content threshold. If the UK seals FTA's with EU and Japan which include "extended cumulation", then UK+EU+Japan content will count as originating in all trade the UK has with EU or Japan. On that basis, the UK should seek to include "extended cumulation" when grand-fathering existing EU FTAs, (e.g. a UK-South Korea FTA based on EU-South Korea FTA)

Of course the other way of attacking the "minimum originating content threshold" problem is to ensure British cars have a higher British-made content. It is worth noting the phrase "UK cars are now just 44 percent British made..." in the Bloomberg article, suggesting we have experienced decline over a period of time. In fact concerted and successful efforts have been made to increase the British-made content of British cars from a percentage in the low 30's at the turn of the century. The car industry, notably Nissan, are also lobbying the government for further funding to grow the UK supply chain.

But of course, if Remain complaints that tariffs don't matter are true, the easy solution is just to pay the tariffs and avoid rules of origin altogether. We could then source 90% of a car from China, India or anywhere else in the world, stick a British badge on it, export it to the EU and face a tariff of 10% (which is within the margin of £-€ exchange rate fluctuations).

It is worth noting that EU tariffs in most industrial sectors are much lower than the 10% tariff for finished cars. So complaints from Remain supporters that tariffs are unimportant in industrial goods are broadly correct - and given the hassle rules of origin provide, the value of a tariff-free trade agreement is limited. Ironically, in this respect,  Remain supporters align with Brexit economists proposing Unilateral Free Trade !

But no matter how inconsistent their stance, no matter what mitigation's, solutions or facts are provided - it seems the anti-Brexit crowd will not stop trying to find something to scare us with.

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