Any bridge across the chasm? The UK-EU stand-off on state aid

Last week saw the publication of the UK’s draft legal texts for a final future relationship agreement (or, rather, set of agreements) with the EU. The chasm between the parties is wide, including on the issues of state aid and procurement. Is there any hope for a compromise?

The starting point for any settlement negotiation is to try to work out what the real interests and concerns of the parties are, and whether there is a way in which the other side can meet those concerns and interests without sacrificing its own. You also need to look at the inconsistencies and anomalies in each party’s position, and each needs to have an honest assessment of its strengths and weaknesses, at least in private.

The EU’s position is best understood when it is appreciated that there is a dramatic asymmetry between the position of the UK outside (but next to) the EU, and that of member states. Both state aid control and fair and open procurement are in the structure of the EU treaties: they are fundamental aspects of the regime binding all member states. The state aid regime limits members’ ability to (for example) offer large bungs to footloose multinationals in return for locating in their territory, or to subsidise their widget exports so as to undercut other member states’ widget industries. The procurement regime requires countries to run open and fair procedures that stop them favouring local but less cost-effective firms.

But—critically—compliance with those regimes does not just benefit other member states—it also (incidentally but inevitably) helps a neighbouring state that has a huge volume of trade with the EU. If Germany cannot freely subsidise its car exports, that benefits UK car manufacturers as well as French ones: and if France has to operate fair and open procurement procedures, that benefits UK companies (or at least UK-owned companies operating in France) as well as German-owned ones. In contrast, after the end of transition, the UK will—subject to the Northern Ireland protocol—be able to subsidise as it likes and, subject to the WTO’s less far-reaching General Procurement Agreement (GPA) rules, be able to run procurement procedures that are less strict about fairness and openness.

Put another way, the reason why the UK is not loudly demanding that the EU avoid subsidising industries that compete with UK industry and open its procurement markets to UK business beyond the obligations of the GPA—a key UK demand in its negotiations with the US—is that the UK can freeride on EU law: and that ability to freeride while refusing to accept any of its obligations is obviously intolerable for the EU (that is to say, an impossible sell to its voters). Unless the UK can address those concerns, it cannot hope for an agreement: and in a low-trust environment, “address” must mean “address by legally-binding and enforceable commitments” rather than insisting the EU should just “trust us.”

On the UK government side, there is a strong belief that the UK needs to be free to redesign its rules on subsidies and public procurement. That is partly an abstract belief in “sovereignty”: but it is partly a belief that there are serious problems with the current regimes. That belief cannot be dismissed as irrational. The EU’s state aid rules apply to all sorts of measures that don’t obviously affect neighbouring countries, often require sometimes slow and intrusive commission approval before obviously justifiable projects can proceed, and can be maddeningly formalistic, complex and draconian. EU public procurement laws likewise impose sets of formal rules, have created a small industry of litigation, and can with some fairness be criticised as having entrenched the position of a small coterie of large contractors with the experience and resources to navigate them. There is little doubt that the UK could do better (which is not to say that it will do better—though it is rather easier for the UK to adjust its rules than it is for the EU). So the EU’s insistence that the UK remain strictly bound by EU rules in those areas—without any say over the content of them—is a non-starter: and it may be noted here that the EU’s demand that the Court of Justice have directly binding jurisdiction in the area of state aid is not a demand imposed on any other European country, even ones hoping to join the EU (even the three in the European Economic Area have their own court, with their own judges, as the final arbiter).

Each side is therefore making demands in these areas that it is impossible for the other to accept given its red lines: red lines that are not just key interests but also questions of principle.

What are the weaknesses in the parties’ positions? Here, it is rather easier to point to the UK. As is well known, and inevitable given the difference in size and relative trade flows, the main consequences of no deal would fall on the UK: high tariffs on agricultural and automotive exports to (and imports from) the EU, disrupting its supply chains and damaging its own consumers; not getting any stable regime for the supply of UK financial and legal services to the EU (right down to difficulties in business travel); serious problems in aviation and freight haulage; disruption to individuals’ lives (loss of the European Health Insurance Card) and so on.

Further, as I have pointed out elsewhere, the Northern Ireland protocol leaves—in a highly unsatisfactory way—the UK partly within the EU state aid regime anyway, which means that no deal entails leaving the UK anti-subsidy regime in an obscure mess in which the commission and Court of Justice will still be wielding considerable powers, no doubt to the fury of Brexiters when they realise what the current government has already signed up to. (These concerns were shared by the recent House of Lords EU Committee in its letter to the Business department of 2nd April, on which I commented here.) That said, it is not in the EU’s interest, at a time of enormous disruption in trade and the wider economy, to have a complete rupture in arrangements that affect its own citizens with personal and business interests in the UK.

What manoeuvring room do the two sides have? For the UK, it is important to remember that the Conservative Party is in favour of retaining domestic procurement and anti-subsidy regimes: indeed, as I explained here, the proposal to replace a regime based on the concept of state aid with one based on the WTO concept of “subsidy” doesn’t actually in itself change very much. Scrapping or removing the teeth from both regimes would not only store up problems in negotiating trade deals with other partners, but also cause domestic problems (there would be little, then, to stop the Scottish government from, to take not entirely fanciful examples, subsidising Scottish milk producers sending cheap milk down south or excluding English companies from government procurement). On the EU side, its interests lie in reality, not form: as long as the UK retains genuine and effective anti-subsidy and procurement regimes that give EU companies equal access to procurement opportunities, and protects them against subsidised UK competition without the EU having to go through the complex and unreliable rigmarole of imposing protective tariffs on subsidised UK exports, it does not matter whether the UK adopts different substantive rules, procedures and provisions as to exactly what happens if the rules are breached.

What that all points to as a possible solution is that the UK commit to retain domestic regimes that are as effective as the EU rules in maintaining access to UK procurement markets and protecting industry from UK subsidies. “Effective” would need to be spelt out as meaning that the UK regimes would be enforceable by private actors (and, in the case of state aid, by an independent authority) and have real consequences if breached: and there would have to be a binding arbitration mechanism to deal with complaints that the UK regime was not meeting that standard, as well as an requirement to consult with the EU about changes in the regime. Importantly, such an obligation of effectiveness could be framed symmetrically so that it applied to the EU as well as the UK (though the EU state aid and procurement regimes would mean that compliance would be in fact automatic): that would have the advantage in giving the UK at least some opportunity to express concerns about developments in the EU regimes that have the potential adversely to affect the UK—a key strategic interest also rightly identified in the House of Lords committee’s recent letter.

Such a solution would meet the UK interest in being able to design better regimes in both areas, while meeting the EU’s concern that it could end up facing new barriers to its industry’s ability to bid for UK contracts and new competition from subsidised UK producers without being able adequately to protect itself. The solution would need to be fleshed out and would require time and energy to think through and pin down in acceptable legal text. But with a will, it could be done. Whether there is that will—and whether the refusal to extend transition leaves time to do it—are different questions entirely.