What Theresa May’s Love of Cars Might Mean for Brexit

October 31, 2016 5:00 PM

Manufacturing matters disproportionately to many politicians, and no trophy plant is valued more highly than one producing cars. Many US state governments have lavished large—and completely legal as state aid rules do not exist in the United States—subsidies on auto producers over the years to lure them into manufacturing in their jurisdictions. British Prime Minister Theresa May appears to be wooing the auto industry as well; according to press reports, she has offered Nissan and Toyota guarantees1 that their current trading conditions with the rest of the European Union will not be affected by Brexit.

That May was quick to grant such guarantees to these two car companies is not hard to understand, as both have manufacturing plants in other EU countries—Spain, France, the Czech Republic, and Poland—where the manufacture of new models could be transferred with relative ease. And May surely needs to shore up the short-term economic case for Brexit by ensuring high profile manufacturers remain committed to the United Kingdom.

The question remains, however: How can the UK government credibly issue such a promise before Brexit negotiations have even started? One interpretation is that May is intent on maintaining the legal and trade status quo for the UK-based car industry after Brexit to ensure that she would never have to use any UK government money to repay Japan’s car manufacturers for any losses. For this status quo to be possible, the UK government will need a post-Brexit deal with the European Union that allows it to remain inside the European customs union in the auto sector (or perhaps the entire goods sector), or at least a zero-tariff free trade agreement without any rules for where auto parts are produced or other regulatory interference in the auto sector’s complex supply chains. At the very least, May must try to secure a five- to seven-year transitional agreement with the European Union, including internal market access in such goods sectors for as long as Nissan, Toyota, and other car manufacturers need to recoup their investments.

But will the European Union agree? Given that the United Kingdom ran a roughly €40 billion trade deficit with the rest of the European Union in the auto industry2 in 2015, London would be right to assume other countries and regions in the European Union might also have a keen interest in striking such a deal. Promoting a key manufacturing sector would be in line with May’s call at the conservative party conference for a new “industrial strategy” for Britain—even if it would be quite novel and ironic for a nationalist government to explicitly promote a key “national industry” that is entirely foreign owned. But at this point, if she wants to promote manufacturing in the United Kingdom, May can’t be too picky.

It would be extraordinary if May’s government decided to prioritize one wholly foreign-owned industry (cars) in the Brexit negotiations at the expense of other UK sectors where the country has a far greater revealed comparative advantage, such as pharmaceuticals or financial services. And it would be particularly extraordinary to do so without an explicit electoral mandate, solely via Theresa May’s expansionary interpretation of what Brexit means.

By showing her hand to Japan’s carmakers, May might have given away some concrete evidence about the kind of post-Brexit deal she envisions for Britain. If Brexit negotiations do end up erecting new trade barriers for UK auto producers, it might prove quite difficult for the UK government to live up to its promises. But by exiting the European Union, the United Kingdom will no longer be subject to EU rules on state aid that prohibit governments from supporting favored industries or companies—as May proposes to do for Nissan and Toyota. This strategy could backfire, as EU members like Spain, France, and the Czech Republic—which could be passed over for new Japanese auto investments because of such post-Brexit UK government subsidies—would likely retaliate by making the general Brexit negotiations even more difficult.

However, even outside the European Union, explicit UK government promises to car producers to make up for any external tariff barriers they face would run afoul of World Trade Organization (WTO) rules against export subsidies and be certain to result in a host of WTO members launching trade cases against the United Kingdom.3

Such a lengthy WTO dispute settlement process would take years to resolve, so it would be unlikely that the United Kingdom would face any authorized retaliation from most WTO members within the timeframe of Theresa May’s premiership—or the time period required for either Nissan or Toyota to earn the required return on their additional investments in the United Kingdom. Yet at the same time, the European Union—as the target market for post-Brexit subsidized UK auto exports—could in accordance with WTO rules immediately slap a countervailing duty tariff on such UK-produced cars, annulling the financial benefits enjoyed by Nissan, Toyota, or other UK car producers of Theresa May’s promises.

So, with few real options to lavish favors in the car industry if Brexit negotiations turns sour, it appears that we are heading for at least free trade in cars post-Brexit.

Notes

1. According to Reuters, Ford has also requested to be granted preferred treatment.

2. Defined here as autos and auto parts, HS category 87—vehicles other than railway or tramway rolling stock, and parts thereof.

3. I am indebted to my colleagues Chad Bown and Jeff Schott for explaining these issues to me.

Comments

David Collie

I do not think that a free trade agreement that covered cars would be consistent with Article XXIV of the GATT as a free trade agreement has to cover substantially all trade in goods. The Canada-US Auto Pact with zero tariffs on trade in cars between the two countries was found to be inconsistent with Article XXIV, see: https://www.wto.org/english/tratop_e/dispu_e/cases_e/ds139_e.htm

Jacob Funk Kirk...

David,

Correct - a purely "free trade in cars" deal betwen the EU and UK would surely not be be compatible with Article XXIV, restricting Theresa May's room for maneuver even more. If she wants to give Nissan and Toyota (and other car producers) what she apparently promised, she'll have to agree to free trade in a lot more, too. What is not clear to me though is, if her aims are merely to secure zero tariffs in the auto sector temporarily during a lengthy transition period of say 5-7y (or say the life time of a new car model built in the UK), whether such a transitional agreement would be permitted. In any case, it is hard to avoid the impression that UK government policy towards global car producers are made up on the fly by people with limited knowledge of how the international trading system works. In the end, the letter to Nissan may end up being worth as little to the Japanese firm as the Irish government's tax ruling to Apple.

 

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