How is Brexiting in times of Covid-19 different?
- First, demand remains low and volatile because of the renewed tight sanitary restrictions. In the short term, the “hard lockdown”, notably in the UK, will worsen the contraction of private consumption and investment. This should keep trade disruption low at least until Spring 2021, buying time for the UK and EU governments to pursue more infrastructure investments to reduce the time spent at the border. However, for UK exporters, Brexiting in times of Covid-19 could prove even harder because of the below-normal demand coupled with a +10% increase in non-tariff barriers. We forecast UK exporters to lose between EUR13.5bn and EUR27.3bn over the year (vs. EUR10bn for EU exporters in H2 2021) due to weak demand, higher bureaucracy and not much competitiveness from the sterling (-3% in 2021). This would translate into 0.6% to 1.1% annual loss in GDP. The top five hardest-hit sectors would be mineral and metal products, machinery and electrical equipment, transport equipment, chemicals and textiles.
- Second, the “rule of origin” is likely to require supply-chain changes for a sectors such as wood, electrical equipment, metals, chemicals, pharmaceuticals, computer and electronics, transport equipment (incl. automotive) and machinery and equipment, given their high dependency on foreign inputs. The good news is that the Covid-19 crisis has already pushed many companies to rethink their supply chains and look for more domestic suppliers. In our recent supply chain survey, the share of UK companies looking for domestic suppliers is higher compared to peers (35% vs. 17% in Italy). When asked about the reasons for considering changing the location of their suppliers, 35% of UK companies surveyed mentioned reducing delivery delays and better managing inventories among the top three reasons, vs. 21% on average in other countries.
- Third, the impact of the Covid-19 crisis on prices could alleviate some of the upside impact of Brexit on some of goods in 2021. For UK importers, the trade disruption has been delayed to July 2021, when we expect import prices of goods to rise by +2% to +5% due to the additional paperwork and longer transportation time. These costs might be reduced by (i) the mutual recognition of “Trusted Trader Schemes”, (ii) the infrastructure investments the UK government will make to facilitate customs checks and (iii) the low pressure on prices due to disrupted demand amid the Covid-19 crisis.
- Fourth, pushing further with “smart industry” in the UK would be hard in times of Covid-19. The incoming labor force was already impacted in 2020 by the sanitary restrictions and Brexit will accentuate this, notably for EU workers, given the need for work permits. The total number of EU workers going to the UK has fallen by -15% since the 2016 referendum. Future labor shortages will put upside pressures on wages and make the substitution with domestic suppliers difficult.
- Fifth, the Covid-19 crisis provides some leeway for policy support to absorb the negative impact from Brexit, but we expect GDP to remain -2% below pre-crisis levels at end-2022. We expect additional spending of around GBP100bn (or 5% of GDP) on (i) infrastructure at the border and (ii) a VAT cut to limit the loss of purchasing power and the rise in inflation starting in H2 2021. However, the renewed strict lockdown until mid-February is expected to keep the UK in recession in Q1 (-5.5% q/q) as the closure of schools for six weeks will cut GDP growth by more than -3pp, while the closure of non-essential shops and the hospitality sector could cost -2.6pp. Hence, we keep our below consensus forecast of +2.5% for GDP growth in 2021, followed by more than +7.0% in 2022.