Brexit, Trade Flows and Trade Diversion

A year into Brexit and we might expect that we would have some clarity regarding the impact of Brexit on Ireland’s international trade. There is some. But it’s difficult to draw many firm conclusions.

It’s even more difficult to conclude what might be the impact of Brexit in terms of diverting trade.

 

Brexit, Free Trade and Economic Welfare

It’s important at the outset to be clear about what is meant by trade diversion. The EU is founded on the idea of free trade between members with common external barriers to non-members.

The economic benefits of free trade between countries at similar stages of development have been long known and unequivocal.

The reasoning is simple. Goods, and services, are not necessarily produced in the same place where they are consumed. This can be for a myriad of reasons.

Some regions will be more competitive – more efficient – in the production of certain goods. Nowhere is more efficient at producing everything.

Free trade enables consumers to live where they choose and buy the goods from where they are produced most efficiently, after allowing for all transport and transactions costs.

Any regulation that inhibits this freedom reduces the ability of consumers to obtain best value, and therefore reduces their economic welfare. Regulations include everything from discriminatory taxes to quality requirements to national borders. This is why national borders are not allowed to interfere in the free flow of goods and services in the EU.

So Brexit, which involves an important reduction in the economic area of Europe to which the free trade rules apply, will reduce economic welfare. There is no reliable research to suggest otherwise.

 

Brexit means that a national border – the border around the UK, excluding Northern Ireland for now – can interfere with the flow of goods in a way that has not been possible before now.  Costs arise as a result.

Of course, who will bear that cost is a different matter and is at the centre of the political negotiations that have surrounded the process.

 

Costs of Trade Diversion

Obviously, any disruption to trade as a result of Brexit will be potentially costly. However, it is important not to mix up changes to freight flows with changes to the pattern of trade.

The former arises if there is a change in the preferred transit route. There will be a cost implied as this will mean that, as a result of Brexit, the previously preferred route is no longer considered the best option.

Not only must new routes be planned and developed, but what was previous only the 2^nd best route is now favoured. And not because it has become any cheaper.

However, the economic case for free trade, and therefore an important economic cost of Brexit, arises not as a result of changes in transport patterns, but as a result of changes in trade patters.

This means that new regulations cause purchasers to change to alternative sources as the previously efficient producers have not lost competitiveness. This loss arise simply as a result of the new regulations.

If this happens as a result of Brexit it is trade divergence, and it is a potentially very important issue.

 

Irish-UK Trade

Brexit is obviously of particular concern for Ireland. The UK is a major trading partner for physical goods and there is a land border on the island.

Britain is also the geographically closest market for exports, and source of imports.

The table shows the distribution of Ireland’s trade with different regions.

	Exports		Imports
	2020	2021	2020	2021
EU27	39.6%	37.2%	34.9%	33.4%
UK	9.1%	11.0%	23.1%	18.8%
USA	31.2%	31.8%	15.5%	17.4%
Rest of the world	20.1%	20.1%	26.5%	30.4%

The UK accounts for about 10% of Ireland’s exports and about 20% of Ireland imports.  In 2021 it’s portion of exports rose, while its portion of imports fell.

This is likely because these data refer to a period before Britain introduced import controls. As a result, we have not seen the full impact of Brexit.

However, the importance of the UK for Irish trade flows goes  further. Britain has served as a transit route for Irish goods flowing to and from the rest of the EU for many years. This is commonly known as the landbridge.

 

Decline of the Landbridge

So what can we conclude after 1 year of Brexit?

One area where expectations of changes are proving true appears to be the decline of the UK landbridge. The landbridge always existed as a pragmatic solution to cut costs and minimise time. It was simply a cheaper and faster route between Ireland and the Continent than direct ferries.

According to research published by the Irish Maritime Development Office in 2018, truck journeys between Irish and Continental ports using the landbridge took less that 20 hours on average. In contrast, direct RoRo services typically took up to 40 hours while direct LoLo services took up to 60 hours.

As a result, an estimated 38% of unitised exports to continental ports at that time, amounting to some 3 million tonnes per annum, used the landbridge.

Of course there was a downside and transiting England presented its own risks of road delays and the reliance on additional ferry schedules.

 

The earliest sign of change was the growth in direct routes that was seen in 2021. In the first year following Brexit the number of direct routes between Ireland and the continent grew from less than a dozen to well over 40.

It seems that transporters expected that the benefits of not crossing out of the EU at any point of the transit were sufficient to outweigh the longer times taken.

This clearly had an impact on receiving ports in the UK, especially those ports located mostly in Wales.

However, the impact was also seen in Dublin Port where the decline of the landbridge route has had what has been described as a dramatic fall in truck movements across the Irish sea.

RoRo traffic through the port fell by 9% in 2021, amounting to 99,000 fewer trucks moving through the port.

However, LoLo movements increased by 10.2%, amounting to 43,000 more containers. This increase resulted from new direct routes to the continent.

Overall, the volume of freight flows with Britain that passed through the port declined by 214,000 tonnes while the volume with continental ports rose by 158,000 tonnes.

Notably, this change happened before the UK introduced import controls, although the EU has introduced measures.

This means that the change is not a result of goods moving between Ireland and Britain becoming more expensive as a result of excise duties.

So it cannot be thought of as trade diversion. British consumers are not being put off buying goods from Ireland. It was simply trade flows to the continent being diverted around the UK by going directly to the continent in order to avoid possible customs delays.

 

Cross Border Trade Flows

The long term impact on trade flows across the border with Northern Ireland may be a lot more difficult to define.

Recent statistical releases have made some headlines. These showed that trade flows across the border rose at a notable rate in 2021.

The data show that the value of goods moving from Northern Ireland to the Republic rose to almost €4 billion in 2021, an increase of 65% over 2020. Flows in the opposite direction were up by 54% to €3.7 billion.

Some impact from COVID on the 2020 figure cannot be ruled out, but these are dramatic increases. The impact of the protocol on trade between Northern Ireland and Britain is one possible causal factor.

Another possibility is that Northern Ireland may be used as a way to move trade goods between the EU and UK without going through the required customs checks.

However, there are many uncertainties. Concerns have been raised in relation to the reliability of some of the data and previously published CSO data on these flows for the years 2016 to 2020 were greatly revised in 2021.

It is known that published CSO data had underestimated trade flows across the border as some of this trade had previously been classified as moving between the Republic and Britain.

Similar concerns about the data have also been raised in relation to reading too much into the available statistics on trade between Northern Ireland and the rest of the UK.

But, even if the statistics were reliable, the difficulty is in identifying how much of the change is due to changes in where goods are produced and consumed, and how much is due to changes in the routes through which they are transported.

 

Changes in Freight Flows Might Not Indicate Trade Diversion

These data only show changes in trade flows. Businesses will react to changes in conditions such as inevitably arises with Brexit.

These changes can grab the headlines and make good copy as the costs are easy to see.

But, from the point of view of the economic impact of Brexit, it is not the route to market that transporters identify as the most cost efficient that matters. Rather, it is the impact that Brexit might have on the connections between producers and markets.

In other words, it is the impact of Brexit on where the products that consumers purchase were produced that matters, not how they got from producers to consumers.

The potential for Brexit to divert trade is real with cross border and intra-EU trade replacing cross-Irish Sea trade.  New customs checks and duties on flows between the UK and EU can make it more commercially optimal to buy goods that are produced less efficiently in the home regions, or in 3^rd areas.

This is what is meant by trade diversion: where regulations alter the relative efficiency of different producers. And this is where the real economic costs arise.

So far, the evidence only really shows that transporters have seen the need to revise routes.  This impact of Brexit on its own imposes costs.

If these new costs only affect the routes taken and not the origins of the goods that are consumed then the costs will be relatively small.

The danger is that Brexit has the potential to induce real changes in trade patterns causing trade diversion.