EU, UK Approve Brexit Divorce Deal; Now Comes The Hard Part

After Spain withdrew its objections to the terms of the Brexit agreement after it received guarantees on the trade treatment of Gibraltar early on Saturday morning, today's emergency UK summit was merely a formality. And so, culminating a seemingly interminable two year period of back and forth negotiations, on Sunday the European Union, U.K. Prime Minister Theresa May and the leaders of the remaining EU members finally approved a deal on the UK’s departure from the EU during an emergency summit in Brussels.

And now comes the hard part: the agreement has to be endorsed – or more likely rejected – by British MPs.

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The agreement, which was earlier approved earlier by the UK government, consists of two key documents. The first, a 585-page withdrawal paper, will guide both sides all the way up to Britain’s departure from the bloc, which is set for March 29, 2019. This legally binding text covers the UK’s “divorce bill,” citizens' rights, and various measures ensuring there is no hard border between Northern Ireland and EU member state Ireland. Starting from March 2019, Britain will enter a transition period set to last until December 2020.

EC President Donald Tusk and British PM Theresa May attend a round table meeting at an EU summit in Brussels on Sunday

As part of the agreement, Britain has agreed to pay around $50 billion to the EU mainly to cover commitments it had made to the bloc’s budget. The U.K. will guarantee a broad swath of legal rights to the roughly 3 million EU citizens living in the U.K., and the EU will reciprocate with respect to an estimated 1.3 million U.K. citizens in its member states. The agreement also seeks to ensure that no physical border will re-emerge between Northern Ireland, which is part of the U.K., and the Republic of Ireland—an EU member.

The second, a non-binding document, is a political declaration that outlines aspirations for the future, including maintaining trade relationships, common foreign and defense policies, as well as close ties in law enforcement and criminal justice.

In a press conference following the endorsement, European Commission President Jean-Claude Juncker, Tusk, and EU Brexit negotiator Michel Barnier stressed that the deal is absolutely the best one possible, and that the EU will remain friends with the United Kingdom.

"This is the best deal possible, this is the only deal possible," Juncker said. That remark was echoed by Barnier, who also noted that the EU has "worked constructively with the UK, never against the UK, and the UK worked constructively with us."

However, Juncker said the biggest part of the work in the "tragic moment" of divorce still lies ahead. "Payments have to be made but the future understanding is one that has to be constructed."

British Prime Minister Theresa May held a press conference in which she again declared the deal was the best one available, while still coming across as trying to launch a last ditch attempt to safeguard the agreement. In doing so, the PM did not mince her words, stating that the UK can have a “bright future” with the deal or more time of “uncertainty” if it fails to pass through the British government.

Promising to make the case for the deal “with all my heart," May announced that British MPs will have their say on it before Christmas. That vote has been labelled by the UK PM as the “most significant” one that parliament has held in years.

To be sure, May has reasons to worry about the agreement as it had received a far more stern pushback from British politicians. Several parliamentarians resigned over the plan - from Brexit Secretary Dominic Raab to Work and Pensions Secretary Esther McVey. Former Foreign Secretary Boris Johnson also quit back in July, after previously referring to May's Brexit deal as "polishing a turd."  

Already this morning the Sunday Times reports that May is facing a fresh cabinet mutiny after "remain" ministers began secret talks behind her back to force her to adopt a new plan B for Brexit. Senior ministers are also in private discussions with the Democratic Unionist Party (DUP) to draw up an alternative Brexit blueprint in the event that her deal is voted down by parliament.

May met with EU officials earlier this week to secure their backing ahead of the summit. Back at home, she faces strong opposition to her Brexit deal, which she claims is the best available. She urged lawmakers to back the Brexit pact. "If people think there is another negotiation to be done, that is not the case,” she said in her press conference. “This is the only possible deal" she said.

In fact, as the WSJ notes, May now "faces the political fight of her life" to win backing of own Parliament, which is expected to vote on the deal in early December. However, dozens of her fellow Conservative party members, the SNP, and the DUP, as well as the opposition Labour Party, have all vowed to reject the deal. If May loses, she will be racing against the clock to renegotiate the pact—and secure its approval—before the U.K. is due to leave the bloc March 29.

In fact, as the Sunday Times writes, a majority of cabinet ministers believe she will lose the meaningful vote pencilled in for December 12 and are plotting to force her to change tack. Five remainer ministers — Philip Hammond, David Lidington, Amber Rudd, Greg Clark and David Gauke — have agreed they will try to get May to adopt a softer Brexit if she cannot get her plan through the Commons.

Anticipating such an outcome, EU leaders warned that if the British parliament votes down the agreement, better conditions won’t be offered.

If British politicians reject the agreement, the UK will have to leave the EU with no deal as the departure date cannot be altered. Other options proposed by MPs include holding another referendum or a snap general election if May becomes overwhelmed by motions of no-confidence.

Even if the Brexit deal wins parliamentary approval, the U.K. will next spring kick off negotiations—likely to last years—to hash out comprehensive new trade and security relations with the EU. That’s because when Britain voted to leave the EU, it effectively decided to unravel four decades of common decision making—on regulations covering everything from sharing information on criminals to food regulations and value-added taxes—that govern the U.K.’s relationship with its biggest trading partner.

As a result, less than four months from Britain’s departure from the EU, Brexit remains a leap into the unknown, with businesses, banks and households unsure how to prepare.

Already May has started a political offensive to sell the deal to her reticent lawmakers. On Sunday Mrs. May published a “letter to the nation” proclaiming the deal as “a new chapter in our national life” in an effort to rally the British people behind her.

She writes: “I want that to be a moment of renewal and reconciliation for our whole country. It must mark the point when we put aside the labels of ‘leave’ or ‘remain’ for good and we come together again as one people. To do that we need to get on with Brexit now by getting behind this deal. I will be campaigning with my heart and soul to win that vote.”

U.K. government officials have meanwhile planned a public relations blitz in the coming days to warn of the economic blow to the U.K. leaving the bloc with no deal at all.

Still, analysts expect Mrs. May to return to Brussels to seek further concessions if the Brexit agreement is voted down by Parliament.

According to the WSJ, European officials privately say the possibility of fresh talks hasn’t been discarded and some believe the negotiation period could be extended beyond March. A timeline of upcoming events is shown below:

The key date is March 30, when the U.K. will enter a standstill transition period until December 2020 where EU rules will continue to apply. That period is meant to give both sides time to hammer out new trading and security ties. The agreement, recognizing the difficulties of securing accords in such a short space of time, includes the possibility of extending the transition until as late as December 2022.

The promise to avoid a hard border with Ireland could mean that after the transition, the U.K. will stay inside the EU’s customs area for an indefinite period, eliminating the need to collect tariffs on cross-border trade in goods. That would be good news for businesses, says Ross Denton, an EU trade expert at law firm Baker McKenzie. “Staying in a customs union is a no-brainer for business,” he said.

For the future, U.K. and EU officials must fill in enormous gaps across a broad swath of issues, covering matters such as trade but also issues such as British access to European criminal databases, whether a U.K. customer’s data can be shared in the EU and a London banker’s ability to market French government bonds.

At the heart of the talks will lie a trade-off: to what extent is the U.K. willing to cede sovereignty to the EU in return for access to customers in its 27 member states? The closer Britain follows the EU’s rules, the fewer obstacles its firms will encounter in exporting to the country’s main trading partner.

Britain’s continued membership of the EU’s customs area and any future decisions to follow EU rules to ease trade with the bloc would complicate the U.K.’s desire to build a future outside the bloc,for example by striking its own trade deals with countries such as the U.S.—a priority of pro-Brexit campaigners.

The EU has ruled out “frictionless” access to the EU’s single market, which entails following the bloc’s rulebook in areas such as food safety, product standards and allowing free movement of labor from the EU, which will stop once the transition period has ended.

Indeed, Brussels has told the May government that while the U.K. remains inside the EU’s customs union—and if it wants a close future trade relationship—it must continue to follow the bloc’s rules on state aid, environmental, labor and social standards, something that is anathema to hard-line Brexiters.

“There are big areas of ambiguity,” says Stephen Adams, a trade expert at Global Counsel, a consulting firm.

In other areas, there is already agreement. The U.K. has agreed to protect the EU’s 3,000 geographical denominations on products like Champagne or Gorgonzola cheese.

As it stands, here's a chart of some of the most likely scenarios for the future trade deal, compared with what the UK has now.

Deals

The depth of cooperation will mostly rest on British willingness to accept EU courts’ interpretation of the bloc’s rules and laws in this field, something hard-line Brexiters oppose.

Even fishing, which accounts for 0.04% of the British economy, threatens to morph into fractious trade fight. Until now, EU fishing waters are effectively pooled, allowing boats from any EU country into another’s waters. After Brexit, British control of its territorial waters will be restored and it will control access to those waters.  The U.K. wants an annual agreement with the EU setting fishing quotas but has warned that will reduce EU fleets’ access.

Yet EU governments are challenging this with France and Spain pushing to make a future trade deal contingent on continued access to British waters along current lines. Britain’s fishing industry, while small, is politically vocal. Sunday’s agreement says the U.K. and EU should make best efforts to settle the issue by July 2020.

In short, the real fight for May only now begins, although as we showed previously, at least one bank is optimistic: as the following SocGen decision tree of all the possible upcoming permutations shows, the odds of a deal are as high as 75%. Whether that proves to be an overly optimistic assessment will be revealed in the coming weeks.

Outcomes

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