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«July 2013 Review of the Balance of Competences between the United Kingdom and the European Union The Single Market © Crown copyright 2013 You may ...»

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• In the movement of goods, of financial services, and capital and payments, a range of EU-wide standards and an array of regulation and legislation mean that it is practical to treat the EU as one single market. Many major firms, for example in the car industry, aerospace, banking, or insurance, do exactly that. Indeed, in such areas production has become fragmented across European supply chains, with many final goods made up of inputs from many different sources, and increasingly with services bundled into the final product7.

• But in other areas markets are still essentially national, with the Treaty regulating both the conditions which prevail on that market, for example, through competition policy, and the interaction of that market with others, for example, through sustaining, or not, the barriers which impede access by other Member States’ firms or individuals to that market. This is particularly true of the network industries – energy, telecoms, transport – or areas where EU regulation has not kept up with technical developments, for example the Digital Single Market. It is also true of much of free movement of persons, the freedom of establishment, and services more broadly.

3.9 What is the impact of this integration on economic growth? It is not easy to get a single

authoritative view. The analytical task is formidable, because:

• The Single Market has continuously evolved in order to address the continual rise in new barriers to its operation and in technological developments;

• The additional impact of EU-level policies is difficult to isolate from wider developments, for example the general movement towards trade liberalisation, changing patterns of supply internationally, or enlargement of the EU. Longer-term impacts on GDP and growth, through, for example the effect on innovation and changing market structures, are particularly difficult to determine;

• It is not always easy to determine the correct counterfactual or baseline against which comparisons should be made.

Europe Economics (2013), p43 4 Further details may be found in State of Single Market Integration 2013: COM(2012)752 5 Europe Economics (2013), p36 6 For a fuller discussion of the issues this raises, see for example: Baldwin, Trade and Industrialisation after 7 Globalisation’s Second Unbundling”, NBER Working Paper 17716 2011; or the joint WTO/OECD work on Trade in Value Added, at http://www.oecd.org/industry/ind/measuringtradeinvalue-addedanoecd-wtojointinitiative.htm 38 Review of the Balance of Competences between the United Kingdom and the European Union: The Single Market 3.10 Nevertheless, despite these difficulties, serious attempts have been made to assess the impact of the creation of the Single Market or some of its constituent parts. The various studies have different objectives, use varying methodologies, including the range of uncertainty around central estimates, and cover different time periods or geographical areas. Most but not all of these studies suggest that the GDP of both the EU and the UK is appreciably greater than it otherwise would be, thanks to economic integration through the Single Market. The studies are discussed in more detail in Appendix 1, with a summary

table on page 72; but the main points are:

• The Cecchini Report8 from 1988, was one of the first ex ante estimates. It suggested that the Single Market 1992 programme could increase GDP by 4.25-6.5%, with Baldwin’s subsequent study from 19899 suggesting these estimates might be on the low side because they did not take into account likely dynamic effects on productivity;

• However, later ex post studies suggested that the outcome, while positive, had been less significant. Monti and Buchan10, in 1996, found that the Single Market had increased output by 1.1-1.5% by 1994. The most commonly cited study, by Ilzkovitz, Dierx, Kavocs & Sousa in 200711, suggests that in 2006, EU GDP was 2.2% higher than it would have been in the absence of the Single Market, with an additional 2.75 million jobs created, and a 0.5% boost to total factor productivity. In 2008, Boltho and Eichengreen12 concluded that, looking at the whole period since the creation of the original Common Market i.e. a longer period than other studies, EU GDP was 5% higher than it would otherwise have been;

• The work of the team led by Minford13, at Cardiff, took a different approach, estimating the costs of trade diversion, and looking at the wider costs of EU membership associated with the Single Market, such as regulation and the Common Agricultural Policy (CAP). It argued that the UK was 2-3% worse off because of EU membership.

These figures are also drawn on by Congdon in his report How much does the EU cost Britain?14 which concluded that overall the UK was 10% worse off because of EU membership, mainly because of the high cost of regulation (see the next section for a fuller discussion of this point).

3.11 These and other studies also emphasise the potential for significant future gains, either through better enforcement or through deepening the Single Market in existing and in new

areas. For example:

• The 2007 study notes that future action could double the potential impact, through full implementation of existing directives and tackling remaining barriers;

Cecchini, P., M. Catinat & A. Jacquemin (1988) The European Challenge 1992: The benefits of a Single Market, 8 for the Commission of the European Communities Baldwin, R. (1989), On the Growth Effects of 1992, NBER Working Paper No. 3119, published in Economic 9 Policy, 9, p248-81 European Commission (1996), The Impact and Effectiveness of the Single Market – Communication from the 10 Commission to the European Parliament and Council, 30 October 1996 Ilzkovitz, F., A. Dierx, V. Kavocs & N. Sousa (2007) Steps towards a deeper economic integration: the Internal 11 Market in the 21st Century – a contribution to the Single Market Review (European Commission – DG ECFIN;

European Economy No. 271) Boltho, A. & B. Eichengreen (2008) – The Economic Impact of European Integration (CEPR Discussion Paper 12 No. 6820) Minford, P., V. Mahambare & E. Nowell (2005), Should Britain Leave the EU – An Economic Analysis of a 13

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• Deeper and more consistent implementation of the Services Directive could deliver a gain of 0.4-0.8% of GDP through moving the worst performers up to the average, and 1.8-2.6% of GDP through moving Member States up to an average of the five best performing countries15;

• Poor implementation and application of EU legislation in areas such as taxation, services and public procurement may have dampened EU GDP by around 0.8%16;

• EU GDP could increase by 27 billion euros to 55 billion euros per annum (or 0.22% to 0.44% of GDP) if the EU becomes as competitive in telecoms markets as the current best-performing Member State. This could increase further if the potential gains from economies of scale are included17.

• Full energy market opening in the EU15 could increase cross-border trade electricity by 31% leading to an increase in output of 3% and a reduction in prices by up to 13%.18 Given the importance of infrastructure/network industries across all aspects of the economy, reduction of the costs of these inputs can have significant knock-on effects, leading to more efficient allocation of available resources.

3.12 One other important area in assessing the economic benefits of the Single Market is Foreign Direct Investment (FDI). This is universally accepted to be important for longterm economic growth. Outward investment enables firms to take advantage of new opportunities, increasing their productivity and profitability. Inward investors tend to be of higher productivity, improve competition, and enable extra knowledge and skills transfers.

3.13 The UK is the world’s second largest foreign investor, second only to the US19, and has a stock of outward FDI of just over £1.1 trillion in 2011, a record high and having risen by around 75% since 2002. It is also a major recipient of inward investment, with a stock of around £775bn at the end of 2011. These figures are however dwarfed by portfolio and other investment, which is 10-15 times as large.20 In 2011, almost half of the UK’s stock of FDI came from other EU Member States (48%), with just over a further quarter coming from the US (27%)21.

3.14 Investment from outside the EU is particularly significant to the UK, compared to other EU Member States. The UK is the top destination for firms looking to establish their European headquarters: half of all European headquarters of non-EU firms are based in the UK, and the UK hosts more headquarters of non-EU firms than Germany, France, Switzerland and the Netherlands put together.

Monteagudo, J., A. Rutkowski, & D. Lorenzani (June 2012), The Economic Impact of the Services Directive – 15 A first assessment following implementation, European Commission, European Economy – DG Economic and Financial Affairs, Economic Paper No. 456 Delivering a Stronger Single Market, Nordic Innovation Report 2012:12, June 2012 (by Copenhagen Economics) Ecorys (2011), Steps towards a truly Integrated Market for e-communications in the run up to 2020 Copenhagen Economics (2006), The potential gains from full market opening in Network Industries ONS (2013) Foreign Direct Investment involving UK companies

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ONS (2013) Foreign Direct Investment involving UK companies 40 Review of the Balance of Competences between the United Kingdom and the European Union: The Single Market Japanese inward investment to the UK The UK has most Japanese affiliates established since 1980, with 248 affiliates operating in 2010, followed by Germany (146), France (133), Czech Republic (94) and Poland (80). Most of this is in car and motorcycle manufacture, machinery and electronics.

Ernst & Young recently confirmed that the UK was still the number one destination in Europe for FDI overall and for Japanese FDI in particular, accounting for 22% of Japanese projects.

The stock of inward FDI from Japan into the UK at the end of 2011 was worth £31.4 billion, up from £27.6 billion at the end of 2010, around 4% of the total investment stock in the UK.

3.15 The UK’s membership of the EU and the Single Market is plainly significant to investment decisions, though of course the broader economic and legal environment and the English language also play an important role. The CBI, British-American Business, the US Chamber of Commerce, Vodafone, and the Bioindustry Association highlight the importance of the UK’s presence in the Single Market for attracting foreign investment22.

This seems to be particularly so in areas where EU markets are deeply integrated, in goods, for example, where companies are looking to establish regional manufacturing hubs or in financial services, when many companies located in the UK are foreign-owned, benefiting from access to 28 markets via the EU passport for financial services23. One older study suggests that if the UK were not part of the Single Market it could lead to lower FDI and hence lower productivity growth and GDP24, though the evidence base is limited.

Also Open Europe (June 2012), Trading places: is EU membership still the best option for UK trade?; Fresh Start Group (July 2012), Options For Change – Green Paper: Renegotiating the UK’s relationship with the EU Evidence submitted by City of London Corporation, TheCityUK

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3.16 To conclude, there is already significant and growing integration, though it varies from sector to sector. Most studies suggest that the GDP of both the EU and the UK are appreciably greater than they otherwise would be thanks to economic integration through the Single Market. Finally, studies also suggest that the potential future gains from further deepening integration are at least as great again.

The impact on UK firms and economic actors 3.17 This macro-level picture will, of course, impact upon UK firms and economic actors in different ways. Consumers have been some of the greatest beneficiaries of the Single Market, as increased competition has reduced prices and increased choice. This increased openness and competition will see some firms prosper because of the greater opportunities, while others will be unable to compete and will eventually cease trading.

All UK businesses, just like others across the EU, also have to deal with the regulatory and process consequences of Single Market rules.

3.18 Assessing the overall impact of the opportunities against the burdens is not straightforward. One particular difficulty is the need to make a judgement about how much the UK would itself have regulated if there was no EU-level regulation. That is inherently unknowable, but in such circumstances the likely outcome would be rules developed independently at the nation-state level across Europe, supplemented in some areas by a global framework, either negotiated within international bodies such as the G20 or OECD, or through extra-territorial dominance of one national standard in practice. UK firms could then face divergent regulatory standards with significant transaction costs if they sought to export across Europe. However, it is also argued by some that UK firms might find national regulation easier to manage because it would be “invented here” and closer to familiar practices; and that regulation on a continental scale is inherently more likely to be onerous, because compliance may need to be more complicated in order to bring into line the wide range of national systems and practices. Open Europe argue, for example, that UK national regulation is 2.5 times more cost-effective than EU legislation25.

3.19 Overall, there is a clear view from the evidence submitted that UK firms gain from the Single Market in terms of access to EU markets. Most accept that a degree of Europewide regulation is essential in getting this to happen. To take one example, TheCityUK26 notes that the EU framework for financial services has had a “very marked and highly positive effect” on major UK financial services businesses and their clients.

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