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Of cars and tariffs, and Brexit fantasies

Saturday, March 18, 2017 8:02
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“The Germans won’t want tariffs on their car exports to the UK”, said my father the other day.

I have to agree. No-one likes tariffs, especially when they are used to having none. But it was his next comment that made me pause. My father’s idea is that the EU will allow the UK to have tariff-free access to the EU’s markets after Brexit in order to placate the powerful German car manufacturing lobby. He’s not alone in this view: it has been repeatedly stated by Brexit promoters, both during the Leave campaign and since the vote last June.

The obvious rejoinder is that the EU (ex-UK) is 27 countries, not one, and although Germany is powerful it does not call the shots with regard to trade. Although a qualified majority vote is sufficient to allow the UK to leave the EU, a new free trade deal between the UK and the EU post Brexit would require the agreement of all 27 members, and in some cases sub-sovereign agreement too. The recent trade deal between the EU and Canada was nearly derailed by Wallonia, a sub-sovereign of Belgium.

Nor could there be a deal specifically between Germany and the UK regarding car exports. The UK is leaving the EU, but Germany is not. And members of the EU are not allowed to negotiate their own third-country trade deals. If it tried to enter into a separate agreement with the UK, Germany would be breaking EU treaties. However powerful its car manufacturing lobby is, undermining the EU is not in Germany’s interests. The car manufacturers know this. To my knowledge, they have never suggested that Germany should negotiate directly with the UK, nor are they ever likely to do so. That is a Brexiteer fantasy.

Of course, Germany does sell a lot of cars to the UK. But the UK certainly isn’t the destination for “most of” its car exports, as some Brexiteers have asserted. Full Fact, debunking Louise Mensch, gives us the figures:

Germany sells about 14% of all the passenger cars it makes domestically to the UK, a little over one in seven. (That makes up about 18% of the passenger cars it exports, a little under one in five.)

So – assuming the UK did impose a tariff of some amount on car imports from the EU – 18% of German car exports would suddenly become more expensive (unless German manufacturers absorbed the tariff as a hit to profits). UK consumers might not like this price increase. But just look at German cars sold in the UK. Mercedes, Audi, BMW…..they are luxury cars. Even the Volkswagen Golf is a status symbol. If British people want cheap runarounds, they don’t buy German. They buy Japanese or American cars manufactured in the UK. German cars already command higher prices than these: it is hard to see that British purchasers of German cars are suddenly going to exhibit extreme price sensitivity because of an import tariff. Top-of-the-range luxury marques might even benefit from a price rise, since they are Veblen goods. And some German cars are manufactured in the UK – Minis and Rolls Royces, for example: these would not incur the UK’s tariff at all if sold in the UK, though they would incur EU tariffs if exported to the EU.

But where do the rest of Germany’s car exports go? Well, a lot of them go to the rest of the EU. In general, the rest of the EU is a much bigger destination for German exports than the UK. And the rest are exported to the rest of the world. According to Eurostat, in 2015 exports of new and used cars made up 11% of the EU’s total exports. Of those, over half came from Germany.  Interestingly, the UK is the EU’s second largest exporter of cars, at 12% of total car exports. This contribution to EU exports will of course be lost post-Brexit. The EU’s trade surplus in cars versus the rest of the world (exports exceed imports by a considerable amount) will therefore fall somewhat. But Germany’s trade surplus in cars versus the rest of the world will actually increase, since it is a sizeable net exporter to the UK. The chances of its UK car exports collapsing sufficiently to eliminate this effect is vanishingly small.

The largest export market for EU car exports is the USA, which in 2015 took 26% of EU cars. The US imports more German cars than the UK does. The EU has no free trade agreement with the USA, so sales of these cars incur the US’s WTO “most favoured nation” tariffs, which are about 2.5%. The second most important export market for EU-manufactured cars is China, which also has no free trade agreement with the EU. Clearly, not having a free trade agreement is not a great obstacle for German car exporters. There is no particular reason to suppose that the UK imposing tariffs on imports of German cars – or Italian, French and Swedish cars, for that matter – would be a major obstacle either. Admittedly, grandfathering EU WTO tariffs, which is how the UK is likely to do tariffs in the short term, will cause some pain, since the EU’s tariffs are rather high. But given the relative price inelasticity of German cars in the UK market, the pain is likely to be limited and short-lived. So Germany is not likely to take fright at the prospect of UK import tariffs. German manufacturers may moan, but the response from the German government is likely to be along the lines of “if you can cope with tariffs elsewhere, you can cope with UK tariffs”.

Some have suggested that threatening the EU with a trade war – “if you impose tariffs on our Nissan exports we will impose bigger ones on your Volkswagen exports” – might secure tariff-free access. This is foolish in the extreme. The UK has far, far too much to lose.

When it leaves the EU, the UK will face the EU’s WTO “most favoured nation” tariff of 10% on its entire car exports to the EU. In 2015, that was 57% of its total car exports. And British car exports, with few exceptions, do not carry the “luxury” premium of many German marques. It is British car manufacturers, not German ones, who have the most to lose from Brexit. It is British car manufacturers who have lobbied most heavily for UK trade with EU to continue to be tariff-free. And in any trade war over car exports, it is the UK that would suffer most. Ratcheting up tariffs on EU car imports could reasonably be seen by the EU as unfair competition and met with retaliatory action. In a trade war, those that have the greatest exposure suffer the most.

Sterling weakness, if it continues, would also raise the UK price of imported German cars. If the combination of depreciation effects with new import tariffs raised the price enough, German exports to the UK would fall. But just as Brexiteers like to assume that the UK can readily substitute cheaper rest-of-world destinations for the expensive EU after Brexit, so too can Germany. Germany’s engineering is respected worldwide. If the UK made exports difficult, Germany would simply seek markets elsewhere. It can well afford the short-term hit to its net exports: it has already weathered worse in the Eurozone crisis. In contrast, even with the assistance of a debauched currency, UK exporters to the EU might find it difficult to find new markets. 57% of total car exports is an awful lot to relocate to lower-tariff destinations.

It doesn’t take much fact checking and common sense to debunk most Brexiteer fantasies. This is simply the latest in a long line of myths, legends and outright lies that crumble when exposed to the harsh light of reality. Sadly, though, in this age of fake news and the dominance of opinion, facts and sense are massively devalued goods. The Brexiteers will discover in due course the folly of their ideas. But by then, it will be too late.

Related reading:

Game theory in Brexitland

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