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The Looming Brexit Cliff – What It Means For South Africa

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27 July 2020 – On 30 June 2020, the United Kingdom and the European Union passed a final threshold. Although the UK formally left the EU on 31 January in terms of the Withdrawal Agreement between the EU and UK, that agreement provided for a transition phase until 31 December this year which could be extended for a further period if both parties agreed to an extension by 30 June. 

One of the objectives of the transition phase was to allow the parties time to conclude a Free Trade Agreement. Although there have been a series of scheduled talks, not much progress has been made in getting to an agreement. Negotiating trade agreements is famously complex, politically and technically, and typically takes years of negotiation.

There are many very difficult issues that remain unresolved but it would appear three principal matters are holding up progress, namely resolving the Northern Ireland Protocol (to prevent a hard border between the Republic of Ireland and Northern Ireland – at present, the Withdrawal Agreement places Northern Ireland within the EU’s customs union and effectively establishes an EU customs border in UK territory); level playing fields as regards EU requirements (standards, state-aid of domestic companies, mutual recognition of certification and permissible divergence) and access by EU countries to UK fishing waters.

The prospect of the UK leaving the EU at the end of the year with no deal is a pretty sound working assumption. And it is going to be massively disruptive. The UK is the EU’s second or third-largest economy. Almost half of all UK product exports are to other EU countries and more than half of the UK’s imports are from the EU. The disruptions will not be limited to Europe but also to any country trading with either of them.

Whether the UK and the EU can negotiate a free trade agreement is of secondary importance. The UK government’s approach under successive Conservative Party governments (three since the 2016 Brexit referendum) has been that the UK would leave the EU customs union – to enable the country to enter into its own trade agreements with other countries; and the single market – to enable it to “take back control” of its legislative and regulatory powers.

Discussions surrounding international trade and trade agreements tend to focus on tariffs and tariff-rate quotas (TRQs – the quantity of goods that can be imported at a lower or zero tariff, before a higher tariff applies). Global trade is, however, not only about tariffs and TRQs but about how easily things can be moved around and delivered to customers. Containerisation of shipping has had a far bigger impact on global trade flows than any trade agreements could have done on their own.

Under World Trade Organisation (WTO) rules, the basic principle when dealing with tariffs is that: every member must treat every other country equally (non-discrimination principle). As such, every WTO member must decide what import tariffs it applies on every category, sub-category, sub-sub category etc of product lines and that the WTO-based import tariff schedule applies to every exporter, irrespective of the source country. The main way to secure special arrangements between countries and to deviate from these WTO tariffs applicable to all WTO members is through a free trade agreement (FTA) between countries. But for a free trade agreement to be WTO compliant, it must cover substantively all trade in goods between the two countries, not just selected goods.

But a free trade agreement is just the first step. If a free trade agreement is in place, then the importing country needs to be assured that the product in question actually comes from the exporting country concerned (and was not rerouted from another country). This means there have to be ways of proving compliance with “rules of origin”. In addition, importing countries require additional regulation of issues covering safety and security; health and the environment; and consumer protection regulations, before an item is allowed in. In trade law, all of these regulations, the paperwork to comply with them and enforcement practices are known as “technical barriers to trade”.

In the transition phase, the UK continues to operate in Europe as it has since the Maastricht Treaty became effective in 1993: effectively establishing borderless trade within the EU.

To borrow a term from psychology, technical barriers to trade are the passive-aggressive side of trade law. One could negotiate tariffs to zero and have no tariff-rate quotas (TRQs) but unless these technical barriers to trade are sorted out, increasing trade between countries cannot reach their potential. An example: wine imports into the EU must be accompanied by a VI-1 form which details a full laboratory analysis, giving not only alcohol and acidity but dry extract and a breakdown of acids by type.

Technical barriers to trade are far more important in the everyday operations of trading across borders than tariffs and tariff quotas. The EU is the world’s biggest wine producer and the VI-1 form also serves as a means of reducing competition from producers outside the EU even as tariffs and TRQs appear to open the EU’s market to foreign wine producers. Countries that don’t have domestic wine producers wouldn’t require this kind of formality.

In the transition phase, the UK continues to operate in Europe as it has since the Maastricht Treaty became effective in 1993: effectively establishing borderless trade within the EU.

On 9 July, the European Commission published a paper on the changes that businesses, both EU and UK-based should expect to see whether a free trade agreement could be agreed or otherwise. Starting from 1 January 2021, the UK would be treated as any other country and be subject to the normal customs formalities, checks and controls; taxation rules for import and export of goods (tariffs, VAT, excise taxes); and the certification and authorisations of products, establishment requirements, labelling and marking. All of these, whether on imports or exports, are the unavoidable consequence of leaving the EU.

The institute noted that the computer systems currently used are woefully inadequate and cannot be simply replaced with a new IT system. The UK government is in the process of recruiting 50,000 customs officials but all of these would have had no previous experience.

The massive increase in paperwork, the bureaucracy to check and move that paperwork along and the physical infrastructure to support all of this cannot be overstated. The EU’s European Council proposed a €5-billion fund to help mitigate the expected disruptions.

A few days later, the British government issued its own communication on border planning including grant commitments to support the customs intermediary sector such as freight forwarders, customs clearance agents, hauliers, shippers, bonded warehouse facilities and so on. This was followed up with the publication of the UK’s Border Operating Model, a detailed document on likely processes to be followed from next year. Notably, there is to be some relaxation of some customs formalities for certain imports for another six months. 

The Border Operating Model document’s 206 pages is an impressive piece of work, technically, describing as it does, the likely step-by-step requirements, for importing from the EU and exporting out of the UK. Still, within the numerous flow charts, it is an alarming document. Very few of the processes that will need to be followed on either side of the English Channel are actually in place yet. The multiple shortcomings are described in a paper produced by the Institute for Government, a UK based think tank.

The Institute for Government points out that over 180,000 traders in the UK who have had the benefits of frictionless trade with the EU will now need to make customs declarations for the first time. To have a smooth-running system, the UK will have to orchestrate activities across over 30 government departments and public bodies, and more than 100 local authorities. 

The institute noted that the computer systems currently used are woefully inadequate and cannot be simply replaced with a new IT system. The UK government is in the process of recruiting 50,000 customs officials but all of these would have had no previous experience.

Moreover, everything depends on the preparedness of private sector organisations. While public bodies collect duties and conduct checks, a complex web of private sector operators such as port operators, customs clearance agents and freight forwarders need to be coordinated. Just the introduction of customs declarations alone could incur additional costs of £4-billion a year.

South African traders might be spared some of this disruption. South Africa, along with its customs union partners, Namibia, Botswana, Lesotho and Eswatini and Mozambique, (SACU+M) is one of a select group of countries with which the UK has finalised continuity agreements. What this means is that the same trade deal that SACU+M had with the EU is replicated with adjustments on quotas reflecting the approximate historical trade flows between SACU+M countries and the UK.

One estimate is that new documentary checks could add up to three hours,  and the inspection of goods could add a further five. Delays of that nature in ports that have previously been free-flowing could have huge knock-on effects for the whole UK and EU trading system.

There is an irony here. One of the stated purposes of Brexit was to allow the UK to negotiate its own unique trade deals with other countries, yet the deals that the UK has negotiated with countries that have existing free trade agreements with the EU are just a continuation of the terms negotiated with the EU.

This is not to say there won’t be significant disruption in South African UK trade. Take the example of South African exporters of perishable goods, particularly agricultural products, which form an important part of South Africa’s export trade with the UK. 

Today, an exporter of apples, table grapes, citrus or other perishable products might have one supply agreement with a large UK supermarket chain, say, Tesco, as well as another with the German supermarket chain, say, Lidl. Existing logistics might well be that the produce enters the EU via the port of Rotterdam, in the Netherlands, where all customs, sanitary and phytosanitary and other formalities are completed. In Rotterdam, the cold chain is maintained by specialist distributors who split the boxes between those destined for Tesco’s warehouses in the UK and those of Lidl in Germany. Once cleared in Rotterdam, no other formalities are required. The produce can be put on trucks and be routed through Dover on ferries or through the Channel Tunnel via France.

From 1 January 2021, these arrangements will not be possible anymore. If the South African exporter wants to use the logistics of the Rotterdam based distributor, it will need to be sure that the produce destined for Tesco does not enter the EU and be subject to EU tariffs and controls. Indeed, the exporter might want to avoid Rotterdam for its UK-destined products entirely. Primarily, the exporter would not want to have its produce stuck in Rotterdam in an endless queue along with other EU/UK trade which can’t leave the port, either because of inevitable snarl-ups with EU customs procedures or, more likely, with UK customs procedures.

One estimate is that new documentary checks could add up to three hours,  and the inspection of goods could add a further five. Delays of that nature in ports that have previously been free-flowing could have huge knock-on effects for the whole UK and EU trading system.

South African exporters might want to consider completely different arrangements such as splitting consignments in Cape Town and shipping out separately to the UK and the EU. This would, however, involve a whole new set of logistical arrangements and associated costs. Shipping UK-destined produce to Liverpool on the west coast of England might be one option to avoid the certain logjam at the UK’s EU facing ports. But does Liverpool have the capacity, facilities and logistical infrastructure? What happens if other exporters use the same strategy? More importantly, what documentation is needed? Will the UK replicate the EU’s common customs regime defining the process and formalities such as import-export procedures, data requirements and risk criteria? Which systems will be used?

While the UK carved out the zero and low tariff quotas in its trade deal with SACU+M, South African exporters could exploit market opportunities in the rest of the EU since the quotas for South African exports in the free trade agreement with the EU remain in place.

Given this uncertainty, what are the implications for insurance? Could one get insurance for the risk of fruit spoiling while it waits to get processed or for the additional fees charged by shipping lines for waiting outside port?

Even after the UK leaves, the EU as a block remains South Africa’s most important trade relationship. The UK, on its own, is South Africa’s second-biggest export destination after China.

Our exporters will need to immediately develop plans to minimise the almost certain disruptions to existing logistical arrangements.

For all this, there are potential upsides. South Africa should press the UK to reduce technical barriers to trade for South African exporters. If the UK is no longer a participant in the EU’s common agricultural policies that protect EU farmers, why retain the cumbersome VI-1 form for South African wines?

While the UK carved out the zero and low tariff quotas in its trade deal with SACU+M, South African exporters could exploit market opportunities in the rest of the EU since the quotas for South African exports in the free trade agreement with the EU remain in place.

How about something more entrepreneurial? The South African freight forwarding sector has lots of experience getting goods into and out of the EU. Freight forwarding is a relentless enterprise, and the industry in South Africa is experiencing a serious Covid-19 downturn. But it has exactly the skills and experience that the UK freight forwarding sector will be needing. Much of the preparatory work in this value chain can be done remotely and South Africa has the advantage of being in the same time zone. This could be an excellent business process outsourcing opportunity. Source (Daily Maverick)