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Navigating the Potential Impact of Brexit on the
Chemicals and Allied Industries

 

Ian Butcher, Senior Advisor (Formerly SVP)

 
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September, 2016

Brexit Let’s start with the facts that we all know. Brexit stands for British exit from the European Union. In order to calm the rising Euroscepticism of his own party and of vocal rival parties, such as the UK Independence Party (UKIP), Prime Minister Cameron announced in January 2013 his intention to give U.K. voters the opportunity to decide in a referendum on whether the United Kingdom should be IN or OUT of the European Community. On June 23, 2016, the result was that the electorate voted to leave the EU by a narrow margin of 51.89% to 48.11%. In fact, the majority in England and Wales were in favor of leaving, while the majority in Scotland and Northern Ireland voted to remain. Cameron had taken a risky gamble on the referendum and had underestimated the strength of Brexit feeling in certain parts of the United Kingdom. He paid for this miscalculation with his own political career.

The Argument of the LEAVE Camp

In a generalized nutshell, the LEAVE arguments focused on the high cost of membership of the EU, the burden and complexity of EU legislation and bureaucracy, loss of sovereignty, the ability to better control immigration, negotiate its own trade deals, and be “better on our own” outside the EU community. Many did not share the EU vision of “ever closer union,” preferring the “common market”-type relationship they had signed up for in 1973. The REMAIN camp highlighted the economic benefits of membership, including better EU block trade deals with no trade barriers, that an exit would diminish the United Kingdom’s prosperity and influence in world and economic affairs, and even risk national security.

Theresa May, the new Prime Minister, has agreed that she will abide by the non-binding vote and, at some point, invoke Article 50, which would signal the exit of the United Kingdom from the EU. The United Kingdom already stepped down from the rotating six months “presidency” of the Council EU.

Opinions of the REMAINERS Camp

At this stage, I had better nail my own colors to the mast. I am a Brit who has lived and worked in Continental Europe most of my working life. I speak English and Danish at home, French at work and live in a Flemish-speaking part of Brussels. I have lived for the past 40 years in various European countries, so I am/was a passionate Remain supporter. However, for the purposes of this article, I have polled a number of C-level people both in the United States and Europe, plus some knowledgeable company economists, to get their views and temper my own. These names are provided at the end of this article.

To illustrate how Brexiters and remainers often view the same events differently: following the vote, the pound fell to a 31-year low against the dollar on the currency markets. The pound was down 10% against the dollar and the lowest since 2013 against the Euro. Remainers focused on the negative elements, such as chemical companies buying raw materials in dollars and Euros would face problems. For Brexiters, the fall in the pound meant that U.K. companies would be more competitive when selling their products outside the United Kingdom. Stock markets also fell fairly dramatically after Brexit, but have since worked their way back up to almost pre-Brexit levels. Brexiters point out that the FTSE100 and 250 (mainly smaller U.K. companies) are, in sterling, now at or above pre-Brexit levels. CEOs I talked to are actively considering increasing prices to U.K. companies because, when paid in pounds and converted to Euros, the exchange rate means that prices from U.K. customers have fallen.

In the Interest of Balance

In the interest of balance, Eurosceptics/Leave supporters claim a number of advantages of having left the EU. To name a few:

* Impositions of European Union bureaucracy are daily restrictions, with Britain supposedly ceding control to Brussels of immigration policy, of its legal system, and many other areas.

* Britain can negotiate new EU trade deals, taking its strong economic position in order to make bilateral trade agreements to China, India, and the United States without being bound by EU law or other coordinative efforts.

* The United Kingdom can stop spending +/-GBP 350 million on EU membership fees every week. This could be in the United Kingdom on economic stimulus, research, and new industries, as well as education, the National Health Service, or helping U.K. farmers.

* Wages may increase over time as there will be fewer immigrant workers to accept lower wages. Prices would also fall as the United Kingdom would be freer to purchase goods and foodstuffs from non-EU sources whose farmers are not subsidised and prices held artificially high by EU CAP funding.

* Regulation is perhaps the Eurosceptics’ biggest focus. When trying to show how much Britain might gain from leaving the EU, all the costs of EU regulations are summed up, asserting that there are no benefits from it and assume that, after a Brexit, the unnecessary regulations can be neglected. Leaving the EU could therefore return control over EU-regulated areas like employment, financial services, and health and safety regulations.

* On immigration, Britain could choose a more beneficial part than the current system, which offers an open door to all EU citizens and blocks non-EU immigrants who could potentially contribute more to the society. Britain could control its own immigration rather than being obliged to accept the key EU principle of free movement of people, as well as goods, capital, and services.

* Britain is just another member of the EU. Being outside the EU, Britain could use its strong economic position and negotiate better trade deals with international institutions, fostering free trade with important partners.

* Opponents of the EU argued that it is a dysfunctional economic entity. The EU failed to address the economic problems that had been developing since 2008, such as the 20% unemployment rate in southern Europe. The difference between the lives of southern Europeans and Germans—who enjoy 4.2% unemployment—is profound. Europe as a whole has stagnated economically, so why link the United Kingdom to such stagnation and dysfunction?

* Brexiters claim that the LEAVE vote was actually a protest aimed against the British political elite. Voters thought politicians, business leaders, and intellectuals had lost their right to control the system to "faceless and unelected" bureaucrats in Brussels.

What the Industry Experts Have to Say

Alan Barton, a Brit and a Remainer with many years of experience in Europe and the –United States, summarized his thoughts on Brexit through three main topics. To some extent, these were what other commentators I spoke to also mentioned as the key issues:

Uncertainty

Businesses like continuity and predictability. Brexit has caused much uncertainty and may take several years for the consequences to become clear. During this time, businesses may “sit on its hands,” wait and see, and look to other options that do not involve the United Kingdom.

Investment

Brexit will have a stalling impact on investment decisions in many industries until it becomes clear which way the wind is blowing. Lehigh Technologies itself has recently opened a facility in Barcelona, Spain. The decision was to have a facility in Continental Europe, the company being reluctant to invest in assets in the United Kingdom, geographically “on the edge” of Europe and now not in the EU. This may be a “microcosm” of other investment-type decisions. Barton also sees a slowdown in funding to start-ups emanating in the United Kingdom and focus turning to opportunities outside the country. This may also affect M&A with PE and trade buyers being reluctant to do significant deals in the United Kingdom until they can be sure what is happening.

People

Companies can currently hire the best and brightest, and individuals can move freely. This is a tremendous competitive advantage and could be diminished for Brits abroad and for EU nationals working in the United Kingdom. Barton talked about “passporting” where banks can send staff anywhere and their licenses to operate would still be good. Will this be affected? Will movement in the chemicals industry be affected?

The Flow of Human Resources

Figures vary, but currently about 4.5 million Brits live abroad, with some 1.2 million living in the EU. Some 309,000 in Spain, 255,000 in Ireland, 185,000 in France, and 103,000 in Germany. There are around 3.3 million EU citizens living in the United Kingdom, of which some 2.1 million are working. All of these “expats” (including me!) are worried about what will happen post-Brexit. Some living outside the United Kingdom are seeking non-U.K. nationality in order to be able to stay without any issues; likewise, EU workers in the United Kingdom are concerned about their long-term prospects. There are also 1,100 plus British officials employed by the European Commission (300 in the European Parliament, 83 in the Council, 73 U.K. members of the European Parliament MEPs, and more in other EU institutions throughout Europe) are currently in limbo about their employment situation and may well lose their jobs.

The End of R&D Programs?

Other commentators expressed concerns about R&D programs. Britain is a popular destination for the commissioning of research projects. The United Kingdom contributed nearly GBP 4.3 billion for EU research projects from 2007 to 2013, but received nearly GBP 7 billion back over the same period, according to official reports. The GBP 2.7 billion excess was equivalent to more than GBP 300 million in research funds a year. If Britain obtains an associated country status, the United Kingdom would still be able to receive EU funds, but lose its high level strategic influence on EU science policy and may not have a “seat at the table” when issues are being discussed. Some British research groups have already declined to take the lead in EU-funded research projects given the uncertainty of the United Kingdom’s future status. It has been said that the pharmaceutical and related industries will be ravaged by the EU vote, and it is feared that Britain’s influence and reputation as a center of innovation and research will be diminished. In any case, the United Kingdom’s attractiveness as an English-speaking manufacturing and research hub within the EU will be considerably lessened.

The Exodus of the U.K. Manufacturing and Industrial Sectors

One encouraging development is that GlaxoSmithKline—a vocal supporter of Remain—has decided not to relocate outside the United Kingdom and will invest GBP 275 million at three of its manufacturing sites. However, smaller drug developers are more concerned as they (currently) benefit from a common drug approval system, access to talent from across the EU, and a good EU funding pot. Many believe that these “perks” are under threat and have predicted an exodus of small and big pharma from the United Kingdom.

Chemicals and polymers find significant market outlets in the automotive sector. A poll of the Society of Motor Manufacturers and Traders found that 65% believe that Brexit would have a negative impact on their business and only 6% forecast a positive impact. Companies such as Nissan, Honda, and Toyota, which manufacture in Britain, are dependent on the single market for much of their business, and their long-term presence in Britain depends on whether Britain will face trade barriers with the EU in the future.

Another sector likely to be affected is agriculture. In 2015, British farmers received EUR 3.1 billion in subsidies from the EU Common Agricultural Policy (CAP). The CAP accounts for some 40% of the total EU budget of EUR 58 billion and has been highly criticized, even by supporters of the EU. Other funding is also available for wider rural development projects. Some 55% of U.K. farmers’ incomes is derived from the CAP. It is argued that without this income land prices could crash and many farmers could go out of business. Brexit supporters argue that monies not paid for EU membership could be used to substitute this loss of income by U.K.-funded subsidies. In any case, this event should have an impact (most likely negative) on the agrochemical sector as farmers will have less to spend on agrochemical products.

Renegotiation of Trade Deals

Economic growth in the EU countries has been relatively slow at 1.9% in 2015. The exiting of the world’s sixth largest economy (recently overtaken for fifth place by France) is a blow to the EU project. Alan Eastwood sees this as a needed push to reorient U.K. trade by seeking faster growth outside the EU in other parts of the world. The United Kingdom has a deficit on EU trade (in goods alone), but a surplus on non-EU destinations (actually a deficit in goods offset by a surplus in services). In any case, the United Kingdom will have to renegotiate a whole raft of trade deals over thousands of products and product groups, needing thousands of qualified trade negotiators (which it does not have). President Barack Obama said that Brexit would put Britain “at the back of the queue” when it came to trade negotiations. Majors like the United States prefer to deal with big blocs like the EU rather than individual countries. In any case, the United Kingdom has some 40 years of laws which refer to the EU. All of these will have to be reviewed and renegotiated. Eastwood commented that the Commission brought in a number of “misguided, but well intentioned” measures to fight climate change, which had a “disastrous” effect on Europe’s energy prices, especially for Energy energy-intensive industries, such as chemicals, and put the EU at a disadvantage compared with its major competitors.

Eastwood sees Registration-Evaluation-Authorization and Restriction of Chemicals (REACH), which entered into force in June 2007, as an “overly bureaucratic” system. Most of the work on registration will be completed by the time the United Kingdom leaves, so this will be a sunk cost. U.K. companies will still have to comply with REACH for any sales to the EU, but will no longer be bound for dispatches to third-party countries. Overall, Eastwood considers that “the United Kingdom will react well to the big shake-up, developing links with the wider world and allowing the United Kingdom to become less dependent on a stagnant EU market, pursuing more rational energy and environmental policies….need to invest in training our own people.”

Negotiation of a New Model

There is much speculation about how Britain will be treated by the EU in the divorce negotiations. Will they treat the United Kingdom roughly to “punish” the Brexiters and encourage any other EU country not to contemplate a similar exit (there are a number of anti-EU political parties in many of the EU member countries)? Or will it be all sweetness and light? Claude Junkers, the Commission President, recently appointed Michel Barnier as the Commission’s chief Brexit negotiator. Reactions have considered this appointment to be “provocative,” “Juncker’s revenge on Britain,” “alarm bells are ringing,” and “he is no friend of the City of London.” Fears are that the negotiations will indeed be tough.

There has been much speculation about which “model” the negotiations might adopt:

  • The Norwegian model, which allows access to the EU single market via membership of the European Economic Area (EEA) and the European Free Trade Association (EFTA)?
  • The Swiss model, which is a series of 100 plus bilateral agreements for different goods and services, no say in EU regulations, acceptance of free movement of people, and a contribution to EU funds?
  • The Canadian model, which does not give tariff-free access to the EU and Canada has to accept EU rules on exports?
  • The World Trade Organization (WTO) model?
  • The South Korean model?
  • The Turkish model?
  • Or a wholly new model?

Regrexit

As a basic industry selling globally into a myriad of end-use sectors, chemicals are bound to be affected by Brexit. For many companies outside the United Kingdom, it might be pretty much “business as usual.” However, with the shadow of uncertainty hanging over what will happen to and in the United Kingdom, this is likely to have a delaying effect on any investment and possibly recruitment decisions for several years. Certainly, many Brits are happy about the possibilities of the new situation, and a recent poll still shows a narrow preference for Leave. However, some Leavers seem to be seeing the enormity of what was decided and are having some regrets, similar to a bad hangover after a party, which has brought about the new term “Regrexit.”

My thanks go to the contributions of:

  • Alan E. Barton
    Chief Executive Officer
    Lehigh Technologies Inc.
  • Frank Coenen
    Chief Executive Officer
    ASK-Chemicals
  • Denis Hicks
    Former Huntsman Executive
  • Alan Eastwood
    Former Senior Planner Economist
    at ICI and Former Head of Economics
    at the Chemical Industries Association