European Union: Brexit: UK/EU Jump Into The Unknown - What's Ahead?

This is the fifth in an ongoing series of blog posts by Foley & Lardner LLP on the implications of the June 23, 2016 voter referendum in the United Kingdom ("UK") to exit the European Union ("EU") ("Brexit").1

As might be self-evident, there is very little certain about "what's ahead" when one "jumps into the unknown." However, this article seeks to provide as much clarity as presently possible by outlining the current status and posing some of the more obvious questions about the implications of Brexit. As has been a recurring theme in all of the foregoing articles, Brexit means change and uncertainty. Thus it has been, is and will continue to be an essential priority to consider carefully how to identify and protect one's vital interests as Brexit moves forward. Literally, the games, which began after June 23, 2016, continue now in earnest.

Where do we stand today? On March 29, 2017, the UK gave notice under Article 50 of the Treaty of Lisbon that it is withdrawing from the EU. Pursuant to Article 50, the UK notification triggers a two (2) year period within which the UK and the EU are mandated to negotiate the terms of the withdrawal and their "future relationship." This period of negotiation or transition can be by unanimous agreement between the EU and the UK. Failing agreement on the terms of withdrawal and the future relationship during the period of negotiation, the UK will cease being a member of the EU.

Suffice to say, the run-up to the UK notice under Article 50 has been characterized by heated rhetoric, political rancor, lack of transparency and growing complexity on both sides of the Channel. Here are a few examples: The UK's approach to "Brexit" has shifted repeatedly since June 23, 2016 as speculation mounted whether the Brexit would be "soft," "hard" or "dirty" as the UK's position has been characterized by various commentators. The EU has as well sent mixed signals about its interest and/or willingness to compromise. Sabre-rattling within the UK (e.g., Scotland), in the EU (e.g., Belgium, France and the Netherlands) has complicated further the negotiation playing field. Further, some might say as well, that "officious" intermeddling from the United States (whether from Obama or Trump) has not necessarily been viewed by all constituencies as constructive.

Before trying to predict what lies ahead, it is useful to reiterate several basic principles that must be kept in mind. First, there will be no going back. While Article 50 does contemplate that a party can reapply for membership, the two sides have, politically speaking, already crossed that bridge. So, it is fair to assume that the UK and the EU will either agree on the terms of their divorce and their future relationship or at the end of the two-year notice period (and any extensions), the UK will cease being a member of the EU. In a sense, it's both that simple and that complex.

Thus, most attention and analysis has focused on the terms of a post-Brexit "future relationship" between the EU and the UK. As has been discussed here before and as it may be useful to reiterate, the EU evolved directly from the ashes of two great wars in the 20th century. Seeking to rise above centuries of war, conflict, suspicion, prejudice and isolation (political, economic and cultural), the future European Union began in 1951 to build an institutional basis on peace and economic prosperity could be established. Then, France, Germany, Italy, Belgium, the Netherlands and Luxembourg) signed a treaty seeking to merge perceived "essential interests," to create an "economic community" and to build "institutions which will give direction to a destiny henceforth shared." Numerous treaties followed and the membership in the European Union grew to 28, including the UK, which joined as a member in 1973.

Central to the integration developed through these treaties were a number of core principles, including:

  • The elimination as between member states of custom duties and quantitative restrictions on the import and export of goods and all measures having equivalent effect;
  • The establishment of a common customs tariff and a common commercial policy toward third countries towards third countries;
  • Institution of a system ensuring that competition in the common market is not distorted; and
  • The approximation [harmonization] of laws of the member states to the extent required for the proper functioning of the common market.

That integration process established four so-called essential and immutable "freedoms" – the free movement of people, goods services and capital within a common market.

These "four freedoms" – the free movement of people, goods, services and capital within a common market were both the bedrock on which the EU rested and the decision of the UK to exit the EU. Simply put, the Brexit vote represented the UK's rejection of the notion that it shared fundamental interests with the other EU members or that it wished to have its destiny shaped and controlled by the EU institutions that had been created. Brexit was a declaration of independence.

That said, as the parties are divorcing, they will both by the literal terms of Article 50 and the logic of their separation be establishing their "future relationship." Where do the UK and the EU/27 (as it is now becoming known) go from here? That is the unknown into which the UK and the EU/27 are jumping.

As is widely recognized, there are a number of potential models for the future relationship to which the parties negotiating under the Article 50 mandate can turn. These include scenarios in which the UK is 1) a member of the European Free Trade Association ("EFTA") (e.g., Switzerland), 2) a member of the European Economic Area ("EEA") (e.g., Norway, Iceland and Lichtenstein; 3) a member of a newly negotiated or already existing free trade customs union with the EU (e.g. Morocco, Tunisia, Israel and Turkey, etc.); 4) a member (albeit, a continuing one, of the World Trade Organization ("WTO") and the European Patent Convention ("EPC"); or 5) a variant of some or all of the above.

Since the June 26, 2016 vote, these potential models have been repeatedly studied and analyzed. These models produce very different outcomes and bump up against some inevitable and unavoidable realities. The Brexit decision for the UK was premised on several related goals or principles. First, the UK was no longer prepared to accept as a "basic freedom" the free movement of people from other EU member states within its territory. It wanted/wants to control its frontiers and regulate who can enter, live, work and receive benefits as a resident of the UK. It wanted/wants to assert/reassert its sovereignty to govern itself. It believed that it had ceded and was ceding independence to the European Court of Justice and to other European Union institutions (the Commission, the Council and the Parliament) as a member of the EU. On the other hand, as it negotiates with the UK on a future relationship, the EU/27 is constrained by its own internal struggles and challenges. As much as some in the EU/27 might be tempted to give ground in negotiating on key UK flash points (e.g., free movement of people, a supreme European court and central governmental institutions in Brussels), it has limited negotiating room if the EU expects to require adherence to these same four freedom principles and institutional governance structures of its members, post Brexit.

At the outset, one widely discussed alternative for the future relationship is UK membership in the European Economic Area ("EEA"), whose members are presently Norway, Iceland and Lichtenstein. The problem with that alternative is that it seemingly gains the UK very little in terms of the UK's stated Brexit goals and, of course, the current EEA members (who would have to consent) may well not want such a large elephant as the UK under their EEA tent. More importantly, EEA membership requires members to embrace the four freedoms (including the free movement of people), to contribute to the EU budget, albeit at a reduced rate, to abide by most EU regulation, while at the same time having little say or ability to influence the EU legislative process.2 At this juncture, the EEA model seems to be a non-starter.3

If the EEA is off the table, what are the other alternatives? Post Brexit, the UK could become a member of the European Free Trade Association ("EFTA") (like Switzerland). There are several clear impediments to an EFTA approach. The EFTA model would not guarantee free trade in financial services, a major economic prerogative for the UK. Further, the presence of an EFTA court might continue the sovereignty problems that the UK appears to have with an external judicial institution that it perceives today with the European Court of Justice.

A free trade customs union with the EU (like the ones currently in place – e.g. Morocco, Tunisia, Israel and Turkey, etc.) is another possible model that has been mentioned. However, such a customs union might well frustrate the UK's desire for an independent commercial policy, including the ability to negotiate free trade agreements with other countries (like that large neighbor of the UK to the west with whom the UK purports to have a "special relationship" and which seemingly at present is dangling the prospect of a potential free trade agreement with the United States in the UK's face.

Finally, the default option if there were no agreement on the UK's future relationship with the EU is UK's continuing membership in World Trade Organization ("WTO"). This option is clouded by the fact that, since it joined the EU in 1973, it has been the European Commission that has negotiated the UK's rights and obligations under the many WTO agreements covering goods, services, standards, intellectual property, etc. This is not a problem-free alternative as any analysis of requirements posed by quotas to be allocated, tariffs to be applied and standard-setting procedures make clear.

As was indicated above, it is not only the UK that faces challenges. The EU/27 has its own difficult challenges. It must confront with rising populist and nationalistic movements among its remaining members that, like the UK, seek greater autonomy, greater sovereignty and less, not more control and uniformity from Brussels. As immigration and economic pressures from the eastern and southern corners of the union intensify, the EU/27 negotiators need to play their cards very carefully in the forthcoming months and years. It is essential that the EU/27 not squander the economic, political and social values that have been achieved since these nation states sought to merger their essential interests in a destiny shared. There are the "usual suspects" outside the EU/27 (and the UK) which promote discord and disunion to their own respective advantages and interests.

Thus, in the final analysis, there is great uncertainty as the UK and the EU/27 jump into the unknown.4 In any event, as the terms of the Brexit "divorce" and the "future relationship" between the UK and the EU/27 are negotiated, it is essential for one to identify specifically how this process will affect them and to take effective action to seek to protect their interests.

Footnotes

1 Prior articles reviewed: 1) developments leading up to the Brexit vote, likely competition law as well as procedural implications; 2) risks/uncertainties for standardization and innovation; 3) possible alternative outcomes posed by Brexit – a hard landing, a soft landing or never-never land; and 4) deal-making to ease or complicate the process. Links to the prior four Brexit articles posted on the Foley & Lardner Automotive Blog are as follows:

https://www.autoindustrylawblog.com/2016/07/18/brexit-what-when-and-why/

https://www.foley.com/brexit–standards-and-innovation-what's-ahead-08-15-2016/

https://www.foley.com/brexit-hard-landingsoft-landing-or-down-the-rabbit-hole-whats-ahead-10-17-2016/.

https://www.foley.com/brexit-whats-ahead-let-the-games-begin-11-14-16

2 While estimates vary, of course, it is widely accepted that EEA member countries are required to and do incorporate hundreds of pieces of EU legislation each year over which they have little say, input or influence. That is not the kind of kind of loss of "sovereignty" that the June 23 Brexit voters envisioned as the result of exiting the EU.

3 On the other hand, the UK does, despite Brexit, continue to incorporate EU legislation into UK law. The EU Damages Directive, which was incorporated into the UK Competition Act on March 9, 2017, is the latest example. Moreover and as we have previously noted, whatever ultimate Brexit outcome may be, there will continue to be, when the UK exits, a substantial body of EU-generated (uniformed, harmonized) laws, regulations and standards. There are literally thousands of such laws, regulations, etc. that affect virtually every facet of UK life, particular UK business life. Getting rid of "foul-smelling" EU-tainted legislation is likely to be a lengthy and contentious process filled with much uncertainty and disruption and may make little sense given the continued scale-advantages that such uniformity may bring as UK exporters continue to do business in the EU/27.

4 However, some potential conflicts and concerns are already known and are on the table. First, there is the major question of the potential due-bill totaling billions of euros which the EU contends the UK must pay to clear its accounts as it departs. Second, there are the very difficult issues of how to deal with the thousands of EU citizens currently living, working and studying in the UK. Third, the notion of UK independence from the EU belies the continuing jurisdiction of the EU over activities in the UK that adversely affect competition in the EU/27 (e.g., EU cartel enforcement and the on-going EU investigation of potential illegal UK state aid given/promised to motor vehicle manufacturers to maintain production in the UK that was discussed in the previous blog post in November 2016). A much longer list could easily be enumerated.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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