Brexit: Everyone Loses, but Britain Loses the Most

Abstract

This paper examines 12 economic simulation models that estimate the impact of Brexit. We provide their range of results and explain their associated assumptions and methodologies (macroeconometric models, computable general equilibrium [CGE] models, or mixed approaches). CGE models simulate the operation of market economies, solving for changes in equilibrium prices and quantities (production, employment, demand, and international trade) for all sectors in the economy. Macroeconometric models focus on economic aggregates and macro shocks, such as interest rates, the exchange rate, inflation, risk, uncertainty, and government expenditure/revenue. Most of the studies find adverse effects for the UK and the EU-27. The UK's GDP losses from a hard Brexit (reversion to World Trade Organization rules due to a lack of UK-EU agreement) range from –1.2 to –4.5 percent in most of the models analyzed. A soft Brexit (e.g., Norway arrangement, which seems in line with the nonbinding text of the political declaration of November 14, 2018 on the future EU-UK relationship) has about half the negative impact of a hard Brexit. Only two of the models derive gains for the UK after Brexit because they are based on unrealistic assumptions. We analyze more deeply a CGE model that includes productivity and firms' selection effects within manufacturing sectors à la Melitz (2003) and the operations of foreign multinationals in services. Based on this latest model, we provide a complete overview and explanation of the likely economic impact of Brexit on a wide range of macroeconomic variables, namely GDP, wages, private consumption, capital remuneration, aggregate exports, aggregate imports, and the consumer price index.

Keywords: Economic Methodology, Economic Simulation, Foreign Trade, Multinationals, Foreign Direct Investment, European Economy

JEL Classification: B41, F17, F14, C63, F23, F21