The Brexit Deal Theresa May Should Aim For

This article first appeared on the Chatham House magazine, The World Today.

Theresa May, the new British prime minister, faces a central challenge in deciding the U.K.'s next steps toward the EU.

On the one hand, a clear majority of the British electorate voted in the June 23 referendum for Britain to leave the EU. She has no choice but to follow through on the result.

On the other, Leave supporters did not vote for a specific version of REIT. Alongside the many who were determined to free the country from the costs and constraints of EU membership, the majority included an anti-austerity and anti-globalization protest vote and those with a vision of a buccaneering "global Britain."

Distilling these diverse and sometimes divergent views over the coming months into a model of REIT that can be negotiated with the EU will be exceedingly difficult, especially when many prominent champions of REIT in Parliament and the media are demanding a rapid end to the U.K.'s EU membership and watching for any signs of retreat.

But for Britain to move out of its present institutional limbo and re-take control of its destiny, the prime minister and her party will need to overcome their and the country's internal differences and embark on a rapid and intense negotiation that establishes the framework for a sustainable future U.K.-EU relationship at the same time as securing Britain's withdrawal from the EU.

Reasons not to rush into the Article 50 process

At some point, May will have to trigger Article 50, the process laid out in the EU treaties by which the U.K. will formally negotiate its withdrawal from the EU with the other 27 member governments. It is important that the prime minister delays this process for as long as is feasible.

Once she does so, a two-year countdown begins, within which either a withdrawal agreement must be completed (unless, that is, the U.K. tried to rescind its withdrawal request at some point), or an extension to the negotiation must be unanimously agreed with the other 27 EU member states.

If the Article 50 negotiation ends without agreement on the terms of withdrawal and/or without some sort of a transitional arrangement for British access to the EU market, then the U.K. reverts automatically to a relationship with the EU governed by World Trade Organization (WTO) rules.

This would entail a range of potentially harmful new barriers to U.K. access to the EU market and a desperate rush to sign new agreements with third parties to compensate, but from a position of weakness. Taken together, these dynamics mean that, after invoking Article 50, U.K. negotiating leverage with the EU is greatly reduced.

Before she does so, therefore, the prime minister should have three priorities.

First, she should ensure the teams are in place and the preparatory work completed to manage the process of disentangling the U.K. from 40 years of deep economic and regulatory integration with the EU. This will be one of the most complex negotiations ever undertaken by British ministers and officials.

Topics to be resolved will include, among others, agreeing the rights of EU and U.K. citizens in each other's countries; closing out U.K. spending commitments to the EU budget; the transfer of regulatory responsibilities from EU agencies that play a role in U.K. domestic law, such as the European Medicines Agency, to British counterparts; re-drafting contracts drawn up under EU law; making new arrangements for continued U.K. access to the Single European Sky and the EU's internal energy market; the status of the U.K.'s commitments to U.N. environmental goals made via EU legislation; ensuring continued U.K. adherence to EU sanctions on Russia; adaptation of cross-border security arrangements, including continued mutual access to intelligence databases; the rights of U,K. and EU fishermen to fish in each other's waters; and establishing transitional safeguards on increased EU immigration to the U.K. or applications for U.K. citizenship.

Despite deep popular and political frustration with Britain across the EU, the U.K. will continue to have support for not rushing to invoke Article 50 among key EU leaders whose countries are long-standing U.K. allies and major trading partners, such as Germany and the Netherlands. They want as smooth a transition process as possible. And it is the member states and not the European Commission which will determine the negotiating mandate for the EU27.

Nevertheless, EU leaders currently appear determined to complete the negotiation before the European Parliamentary elections in the summer of 2019 and appointment of a new European Commission. This means that, from their perspective, the Article 50 process would need to start at the latest in early May 2017, possibly just after the French presidential elections.

Make it one negotiation

Second, and most importantly, Theresa May needs to have resolved as far as possible the internal contradictions behind the REIT vote so she can negotiate a framework for the ultimate U.K.-EU end state during the Article 50 process and not after it is concluded.

Trying to seek a two-step departure with a temporary transitional arrangement, as Damian Chalmers and Anand Menon have advocated, will prolong the economic uncertainty in the U.K. and the EU, risk deepening rather than easing popular and political differences about the end state and delay even further the U.K,'s ability to complete new trade agreements with third parties.

Completing the Article 50 process and leaving the EU will not suffice to enable serious negotiations about future British trade deals around the world. Countries outside the EU will need to know first what sort of agreement the U.K. has with the EU.

Otherwise, commitments that the U.K. might make could be overridden by the rules of origin or regulatory commitments the U.K. needs to make to the EU in order to preserve the best possible access to the EU single market, which is likely to continue to be the destination for nearly half of U.K. foreign trade.

The approach that would offer greatest certainty for all sides, therefore, would involve interlocking the Article 50 process of negotiating Britain's withdrawal with the process of determining the framework for its new relationship with the EU.

In fact, the government should not trigger Article 50 until EU governments have stated collectively that they will negotiate, in parallel, this framework and instructed the Commission accordingly. After all, Article 50 states that, "the Union shall negotiate and conclude an agreement with that State, setting out the arrangements for its withdrawal, taking into account of the framework for its future relationship with the Union."

The third objective for Theresa May should be not to complete the Article 50 process until the framework for the future U.K.-EU relationship has been agreed.

Specifically, the British government should aim to ensure that the European Council and the European Parliament formally approve the new framework, and its appropriate treaty base, after the conclusion of the Article 50 process, but before its withdrawal agreement formally comes into force.

This "shadow agreement," as Professor Derrick Wyatt has described it, would take further time to finalize and ratify, but could govern U.K.-EU relations until such time as ratifications were complete.

This would allow the U.K. to meet some of the main demands of REIT, including an end (or at least a reduction) to payments to the EU budget and to the free movement of labor and a start to framework negotiations on third party trade agreements. Britain could also forego having a new Commissioner and members of the new 2019 European Parliament.

Could these two processes be combined within such a tight timeline, even with extensive preparatory work and a delayed start to Article 50?

Clearly, this is a very different situation to February 2016, when the U.K. and EU heads of government signed a legally binding, forward-looking declaration as part of David Cameron's EU negotiations. Nevertheless, EU27 governments would have reasons to want to arrive again at an acceptable agreement with the U.K., not least since Britain's sudden transition to WTO status would risk deeply damaging the economies of both sides.

And closing the Article 50 negotiations without a clear sense of the future U.K.-EU relationship would make it far more difficult for EU27 members to resolve changes in their own EU inter-relationships.

For example, REIT will have significant effects on the distribution of net contributions into the EU budget, the division of fishing rights and responsibilities for meeting EU-wide climate change targets.

Moreover, many of the issues that must be resolved under the Article 50 negotiation on withdrawal could be concluded more easily if both sides at least agreed on what the framework for the new relationship between the U.K. and the EU will be.

What might the new U.K.-EU framework agreement look like?

Satisfying the main demands of the successful Leave campaign would appear to require, at a minimum, (1) that EU law no longer has supremacy over British law; (2) the ability for Parliament to impose controls over the movement of labor from the EU and to decide on future payments to the EU; and (3) the freedom for the U.K. to strike its own trade deals.

While membership of the European Economic Area (EEA—the 'Norway option') could be negotiated relatively quickly (although it would require the U.K. to join the European Free Trade Area first) and would continue to give Britain full, unfettered access to the single market in goods, services and capital, it would not appear to meet the popular or political mandate of the referendum result.

It would require Britain's labor market remaining fully open to EU workers. It would assume that the British parliament would adopt all new EU single market standards and regulations, without alteration and without a formal seat at the EU table in their design.

And Britain's capacity to strike bilateral trade deals with third parties would be extensively constrained by the need for U.K. imports to meet EU single market standards and its exports to the EU to meet the EU single market's "rules of origin."

Logically, therefore, the U.K. is more likely to seek a framework leading to some form of enhanced bilateral free trade and investment agreement with the EU, incorporating a strong regulatory dimension—a sort of Cross-Channel Trade and Investment Partnership or "CTIP."

Key elements might include:

• The U.K. leaving the EU customs union, but the U.K. and EU agreeing to keep tariffs on each other's exports at zero or as low as possible across all sectors, reflecting mutual benefit.

This would be especially important to sustain integrated supply chains in the automotive and chemical sectors, for example. Finding ways to avoid the need for physical border checks on U.K.-EU trade in goods would be a main challenge;

• The U.K. retaining most current EU regulations and standards, especially in key sectors such as financial services, so as to give its exported goods and services ready access to the EU single market.

This would not be difficult, given the U.K. already applies these regulations and standards, which it helped design in the first place. If the U.K. wished to apply its own new standards within the U.K. for non-traded goods and services after REIT (in the retail and hospitality sectors, for example), it could do so.

However, if differential British standards impinged on products or services for export, then British exporters would have to go to the expense of applying two sets of standards, one set for each market – U.K. and EU;

• The U.K. and EU27 agreeing a framework for the movement of people and workers into each other's jurisdictions but one which falls short of the present free movement arrangements. Proposed ideas have included allowing movement only where a job offer has already been made and providing limits on family reunions;
• The U.K. accepting to make payments to the EU in order to maintain its participation in pan-European scientific and educational programs and to EU regional support funds in order to help retain the most beneficial access to the single market;
• Establishing mechanisms for ongoing coordination between U.K. regulators and their EU counterparts across all sectors to ensure the mutual equivalence of regulations and their easy cross-certification.

This would help both sides sustain the most barrier-free mutual market access possible in the future, as existing regulations and standards are adapted or new ones are introduced for new sectors, such as digital services, bio-technology and energy efficient products. This could also serve as a precursor for U.K. participation in the regulatory dimensions of a Transatlantic Trade and Investment Partnership (TTIP).

The size of the U.K. domestic market, the innovative skills of its scientists and companies, and its regulatory expertise would make it a more influential contributor to bilateral standard-setting negotiations than Norway is within the EEA. But Britain would probably lack Norway's formal right to consultation, and establishing a mutually-acceptable dispute resolution mechanism on regulatory observance would be one of the thorniest elements in this agreement.

A CTIP based on these principles could satisfy the outcome of the referendum while minimizing the economic disruption of withdrawal. It might also be sufficiently flexible to accommodate some special arrangements for Scotland and Northern Ireland.

But, in order to pursue this approach, the U.K. would also need to begin immediately preparing to join the WTO as an individual member – a potentially complex process in and of itself, given that it would require the unanimous approval of all 163 other WTO members, some of which might seek to secure commercial or political advantage from the process.

On the other hand, under this approach, the U.K. could use the principle of continuity under international law to try to ensure that it preserves the benefits of the more than fifty trade deals that the EU currently has with third countries such as Canada, Mexico and South Korea, saving up any bilateral improvements for a future date. This principle worked well in helping manage the breakup of Czechoslovakia, for example, although this was a "velvet divorce" sought actively by both sides.

From the perspective of the U.K. national interest, leaving the EU, joining the WTO and completing a framework U.K.-EU agreement should ideally be undertaken as a simultaneous, cross-referenced, multi-layered negotiation, however difficult and complex this process would be.

Establishing credible structures for future U.K.-EU regulatory cooperation will be one of the most important elements to get right. This is where the main economic cost to the U.K. of REIT may be paid in the future.

New EU regulations and standards might be designed to favour EU companies. Investors may choose to target their investments and create jobs close to centers of political power in the EU, and not just in the most competitive European locations like the U.K.

The nature of the standards may also be more restrictive than would have been the case if the U.K. had been at the table, especially in the areas of financial and digital services. And concerns about future regulatory divergences between the U.K. and EU will lessen the U.K.'s attractiveness to foreign investors who would otherwise have seen the U.K. as a gateway to the larger EU market.

But the U.K. would not be starting from square one. There are huge mutual benefits to all concerned to make this process as quick and non-confrontational as possible. And the U.K.'s exclusion from the EU table and loss of influence over the terms of its future access to the EU market will likely be seen in Brussels and EU capitals as sufficient punishment for REIT.

With some political goodwill as well as huge effort by supporting officials, with legal agility and flexibility and with compromises on movement of people and U.K. payments to the EU, the two sides might be able to conclude a preliminary U.K.-EU framework agreement in parallel to the U.K.'s EU withdrawal agreement.

Although several more years would be needed to provide the full legal and regulatory certainty of a ratified final deal, the prize of succeeding in this joined-up approach will be an early return to political cooperation and economic certainty, which both sides desperately need sooner rather than later.

Perhaps the most difficult remaining decision for Theresa May will be on when and how to seek domestic approval for the new U.K.-EU framework deal. Under the approach outlined above, the logical moment would be after agreeing the deal but before the formal conclusion of the Article 50 process—in other words, while the U.K. remains an EU member.

Theoretically, the EU could extend the Article 50 process to accommodate this British timetable. But the prime minister could still have only a very narrow window to ensure that whatever form of national approval she chooses also gives the U.K.'s new relationship with the EU the necessary domestic legitimacy for the long-term.

Robin Niblett is director, Chatham House, The Royal Institution for International Affairs.