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Here are the E.U.’s four options for negotiating Brexit

- June 29, 2016

As the fog clears from the Brexit vote in the United Kingdom, governments in the remaining European Union states must reconsider their relationship with London.

As an E.U. member state, the U.K. has roughly the same regulations as the rest of the E.U. about such issues as workers’ rights, environmental standards and the like. Agreeing to common regulatory standards means, at least in theory, that businesses in any state face a more or less level playing field. That’s about to end.

Now imagine a few years have passed. Scotland has left the United Kingdom so that it can remain within the E.U. Given the current distribution of votes in the whole United Kingdom — Scotland usually sends parliamentarians who are not Conservative — and its current electoral system, Scottish secession would leave the U.K.’s Conservative Party permanently in the majority. The Labour Party would most likely move to the political right to remain competitive, moving the country’s politics rightward.

The European Union, in this situation, would have four choices.

1) The E.U. could offer Britain the ‘Norway’ option.

The first option would be some form of the “Norway” option: Require the British to adopt all E.U. legislation, including the free movement of labor, in exchange for access to the common market.

That may not be acceptable to the U.K. Many voters thought their vote would prevent future immigration. And a U.K. dominated by the Conservative Party’s positions would reject a great deal of E.U. regulation. Even Conservatives who supported the “Remain” camp, like David Cameron, have railed against European regulations that make it more expensive to do business.

On the other hand, being in a “common market” would mean no tariffs that would inhibit British businesses’ ability to compete on the continent. It would also mean that the ultimate legal authority to decide on conflicts under the common market would remain with the European Court of Justice. And for the British, at least the “free market” part of the “common market” would be appealing.

From the E.U.’s point of view, this approach has two problems.

First, it would be difficult for the E.U. to punish the U.K. if it did not comply with the common standards in the E.U.’s common market. It could, for example, ignore the quotas on how many fish its fishermen are allowed to catch. The E.U.’s main way to prevent the British from falling away from its standards would be to withdraw access to the common market. But the U.K. is, after all, a bigger, more powerful country than Norway and so could get away with more slippage from those E.U. standards, which the E.U. would have difficulty punishing. That is surely part of the reason why German Finance Minister Wolfgang Schäuble stated that the “Norwegian” option is off the negotiating table.

Second, and probably more important, a future British government would have to be willing to accept such a treaty in the first place. The Conservative Party that will probably be in power has wanted to leave the E.U. precisely to escape strict regulations – and so getting it to agree to adopt those policies after all might be difficult.

2) The E.U. could change its own regulations and standards to compete better with Britain.

Forces within the European Union could use the specter of U.K. competition to make the European Union more efficient economically, lowering some of the standards businesses do not like.

But many different E.U. governments, with extremely different political and economic points of view and interests, would have to agree. Heads of government had a difficult time addressing the euro crisis. It is hard to envision the European Union taking strong action to become friendlier to business, despite the rhetoric coming from Brussels, Berlin and Paris that the E.U. will use the crisis as an opportunity to improve the efficiency of how it works. Labor and environmental standards will also certainly be lower in the rump United Kingdom than in the European Union.

3) The E.U. could treat the U.K. like any other trading partner.

The final option is to treat the United Kingdom like any other non-European trading partner. We do not live in the 1930s; no prohibitive tariffs block trade. The United States and China are important E.U. trade partners and have never been in the European Union.

Of course, there are some barriers that inhibit competition between the European Union and other parts of the world. As Hollywood knows all too well, the French continue to protect their media companies through laws that require a minimum amount of domestic and/or E.U. content. This protects its industry from U.S. competition.

And many European voters want to keep at least some of these barriers to trade in place. For instance, many German voters are nervous about the Transatlantic Trade and Investment Partnership (TTIP) negotiations between the E.U. and the United States, with only 18 percent in a recent poll agreeing that the potential trade agreement is a good thing. That’s precisely because they fear that TTIP will lower current European standards and provide U.S. firms with a greater competitive advantage.

4) The E.U. could come up with a new trans-channel approach for the U.K. — a ‘Canadian’ option.

Henrik Enderlein has argued that some sort of associate partnership, which could also be extended to other “outs” like Turkey, could follow. Consistent with this point of view, Boris Johnson, a leader of the “Leave” camp, has argued for a “Canadian solution” whereby the E.U. would have the same sort of relationship with London that it has with Ottawa.

Canada and the E.U. recently agreed to what’s called the Comprehensive Economic and Trade Agreement (CETA), which resembles TTIP and is currently awaiting a formal signature and ratification on both sides. The proponents of the trade pact argue that it abolishes most tariffs between the two. It also, however, preserves labor rights, and it does not grant free mobility of labor (under which any Canadian could live in any E.U. country).

If they chose this model, the E.U. and the U.K. could negotiate their trade relationship chapter by chapter, with each side protecting whatever it considers essential. And note that all national parliaments need to ratify such an agreement. This means that individual country lobbies, such as farmers in France, may try to include specific protections that would benefit them.

The upshot of this model, which could be called the TCIP (Trans-Channel Investment Partnership), is that the E.U. and the U.K. will compete and will selectively use trade barriers to block one another.

For instance, for years London has dominated the E.U.’s financial services market. That is almost certainly about to end – because other financial centers like Dublin, Frankfurt, Paris  and (if Scotland secedes) Edinburgh would thrive if they could shut London out of their market. The way to do this is to deny London banks a so-called passport. Currently, a bank that has the right to operate in one member state can operate is all of the others. British banks that no longer possess such a  “bank passport,”  because they are based outside a future E.U., will have to apply separately to the authorities of each member state. This will put them at a significant competitive disadvantage to banks based in Frankfurt or Paris. It will encourage U.S. banks to relocate some services from London to the continent.

That last approach would be the easiest for both European and British governments to take. If it is, the E.U. will treat the British as serious economic competitors in the years to come. We have yet to see whether the switch from economic cooperation to more competition will spill over to other policy areas, such as in security and defense.

Mark Hallerberg is professor of public management and political economy at the Hertie Shool of Governance. Find him on Twitter @mhallerberg.