Just over nine months after voting to leave the EU, the UK has formally initiated the withdrawal process by notifying the European Commission of its intention to leave under Article 50 of the Treaty of the Functioning of the European Union. The mandated period for negotiation of a withdrawal agreement is two years from notification (although this can be extended if all other Member States agree). The government's position is that the UK will not seek to remain in the Single Market or the Customs Union.

While it is currently unclear whether the withdrawal agreement will deal with the UK's future relationship with the EU, the government has set out an ambitious agenda, including the conclusion of a free trade and customs agreement with the EU as part of the exit negotiations. If the UK fails to achieve these aims and exits the EU without an agreement on future trading arrangements, then it will have to fall back on the trading terms of the World Trade Organisation (WTO) agreements. These, however, fall short as a satisfactory solution.

What is the WTO?

The WTO is an intergovernmental organisation that regulates international trade and currently has 164 members. Members have both trading privileges and obligations.

The WTO is a rules-based regime of member-negotiated agreements covering goods, services and intellectual property rights. These agreements:

  • set out the principles of liberalisation and the permitted exceptions;
  • include individual countries' commitments to lower tariffs and other trade barriers, and to open service markets;
  • set procedures for settling disputes;
  • prescribe special treatment for developing countries; and
  • require governments to make their trade policies transparent through notification and reporting.

The WTO has two governing bodies: the Ministerial Conference and the General Council. The Ministerial Conference is comprised of representatives of all members and is the highest governing body. It meets every two years. The General Council is also comprised of all members and meets "as appropriate" to conduct the organisation's business between Ministerial Conference meetings. Decisions are taken by consensus and members are expected to engage in trade rounds to extend their commitments to reduce trade barriers.

The UK's membership of the WTO

The UK is a member of the WTO both through the EU, and in its own right. Therefore, it has all of the generic rights and obligations set out in the multilateral agreements, even when it leaves the EU.

EU members of the WTO may grant more beneficial trading rights between themselves than they do to other WTO members. This is because the EU is a single customs union with a single trade policy and tariff.

The EU acts on behalf of all Member States at WTO level. This means that EU members have shared EU schedules of market access concessions and commitments that they comply with (as opposed to other WTO members whhich each have their own).

The EU-negotiated WTO agreements are not to be confused with the separate, unrelated free trade agreements (FTAs) which the EU negotiates on behalf of Members with non-EU countries. These tend to develop a deeper set of trade disciplines and go wider in respect of trade integration than the WTO agreements have managed to achieve.

What are the agreements administered by the WTO?

There a number of multilateral agreements (to which all WTO members are parties) and a couple of plurilateral agreements (to which only some WTO members are parties).

The three "pillar" multilateral agreements are:

  • the General Agreement on Tariffs and Trade (GATT) (to reduce trade barriers on goods);
  • the General Agreement on Trade in Services (GATS) (to reduce trade barriers on services); and
  • the Agreement on Trade-Related Aspects of Intellectual Property Rights (TRIPS) (sets minimum intellectual property protection and enforcement standards for every member).

Two of these pillars, GATT and GATS, set out the bulk of the UK’s current international trading obligations. Although the UK’s participation in these agreements will not change following the UK's departure from the EU, their application to the UK will.

The General Agreement on Tariffs and Trade

The primary purpose of GATT is to increase international trade of goods, which it does by requiring its members to reduce or eliminate certain trade barriers when dealing with goods from other members. Each country’s trade concessions are listed comprehensively in the Schedule of Concessions. WTO members can change their schedules, but only after negotiation with trading partners, which could lead to compensation for the loss of trade. The general rule is that non-tariff barriers, such as quotas and subsidies are prohibited under GATT, but where these are permitted, the Schedule of Concessions also lists these comprehensively. The UK as an EU Member State, shares the common EU schedule. However upon its departure from the EU, the UK will need to negotiate its own Schedule of Concessions.

There are specific rules around transit charges and regulations, anti-dumping measures, countervailing duties on subsidised imports, marks of origin, valuation of imports, import and export fees, and publishing information on trade measures.

However, GATT has two core principles to enable each signatory to derive the same benefits, and to avoid intra- and international trade favouritism.

  • The "Most Favoured Nation" (MFN) principle requires members not to discriminate between imported products from members. Therefore any trade concessions granted to one member must be applied immediately and without condition to all other members. Broadly speaking, if the EU offers Australia a trade concession under GATT, it must also offer that same trade concession to the United States and Japan.
  • The "National Treatment" principle requires members not to use internal measures (such as internal taxes or regulations) to discriminate between domestic goods and imported goods from WTO members. It means that once imported goods enter the country, they are treated the same as locally produced goods.

WTO members cannot opt-out of these principles and derogation is only permitted in specified circumstances set out in GATT. These exemptions include:

  • where there is a Regional Trade Agreement in place such as a customs union (for example, the European Union) or FTA, there is a right to depart from MFN in respect of trading partners within the customs union or free trade area;
  • to promote the establishment of an infant industry or to protect its balance-of-payments for countries in an early stage of development;
  • where necessary for national security; and
  • where necessary to protect public morals, human, animal, or plant life or health, provided it is not applied arbitrarily, unjustifiably, or as a disguised restriction on international trade.

The General Agreement on Trade in Services

GATS is to services what GATT is to goods; an agreement to reduce tariffs and non-tariff barriers to international trade in services. Like GATT, MFN and National Treatment are cornerstones of GATS. Unlike GATT, however, where exemptions to MFN and National Treatment are found only in the provisions of the agreement itself, members are free to negotiate limitations to both MFN and National Treatment, on a per-service basis.

The Schedule of Commitments (which, like GATT is a comprehensive list of trade concessions) includes any limitations on the applicability of National Treatment for specified services or any part thereof. For instance, the EU Schedule of Commitments contains the following National Treatment exemption in respect of Insurance Services:

Denmark: The general agent of an insurance branch will need to have resided in Denmark for the last two years. The Ministry of Labour may grant exemption.

Spain, Italy: Residence requirements for actuarial profession.

Each member also has an MFN exemptions list, called the Annex on Article II Exemptions (Annex). The Annex describes each member’s permitted favourable treatment, as well as the measure that the derogation from MFN seeks to counter, and the timeframe of such derogation. For instance, the EU Annex includes the following exemption in relation to Financial Services:

Description of measure indicating its inconsistency with Article II: Measure granting favourable tax treatment (off-shore regime) in Italy to service suppliers trading with the countries to which the measure applies.

Countries to which the measure applies: States in Central, Eastern and South-Eastern Europe, and all Members of the Commonwealth of Independent States.

Intended Duration: 10 years.

Conditions creating the need for the exemption: The need to aid the countries concerned in their transition to a market economy.

To determine the extent to which MFN and National Treatment apply under GATS, therefore, a very careful reading of the Schedule of Specific Commitments, and each member’s Annex is necessary. EU Member States share the same Schedule of Specific Commitments and Annex under GATS. So the UK will need to negotiate its own schedule in the wake of Brexit. There are also exemptions similar to those under GATT.

Breaking the rules

If there is a suspected breach of the rules, the WTO's dispute resolution procedure is available for the affected member to bring a claim (note that it is not possible for a business or sector to do this, it must be brought by the government). This involves consultation between the parties, a panel decision and, if necessary, an appellate body review. If a decision is made in favour of the complainant then a recommendation will be made that the derogation is remedied. If this is not implemented within “a reasonable period of time”, the complainant can suspend concessions commensurate to the damage caused by the breach, and may receive compensation.

At the time of writing, there are 160 matters in the consultations stage (63 of which have been in that stage since before 2000), 64 matters being heard by the panel or in panel composition stage, and six matters before the appellate body.

What does all of this mean in the context of Brexit?

In a hard Brexit situation, where the UK leaves the EU without a negotiated FTA with the EU, there will be the tariffs on products going between the EU and the UK. There will also be restrictions on the provision of services that were not previously a concern. The UK and EU will not be able to treat each other more favourably than they do other WTO members. This is going to cause huge difficulties for companies on both sides of the channel that currently have a hand in each pocket in terms of how they do business, for example, where supply chains pass through both EU countries and the UK.

The UK will potentially need to engage in substantial negotiations with other WTO members to secure its own schedule of goods tariffs under GATT, and services tariffs, limitations, and exemptions under GATS while also negotiating separate FTAs. If FTAs take a long time to negotiate, WTO rounds take even longer; the Doha Round which commenced in 2001, has not yet resulted in a signed agreement on trade barrier reductions.

In respect of its WTO schedules, there are two options for the UK: rectification (where the scope of the concessions are not altered) and modification (which implies a substantive change of a concession).

Rectification has been used in the past by GATT contracting parties which declared independence and acquired autonomy in matters covered by GATT. These countries were able to succeed to the GATT on condition they submitted new schedules that replicated the schedules that already applied to their territory. The difference for the UK is that it is already a member of the WTO, even though it currently lacks autonomy in the conduct of its external trade relations. However, if the UK were to submit the current EU schedules in its own name as rectifications, objections to re-certification may be limited.

While it is easy to identify an obligation in respect of a duty of no more than X percent on imports of a given product, or to allow commercial presence in a given services sector, this will be more tricky in terms of what share the UK takes of the EU's tariff quotas (there are no rules for dividing these) and subsidies (although the EU is currently not using all of its permitted subsidy amounts, so this will be easier to negotiate).

Ultimately, while all WTO members are supposed to agree to modifications to schedules, there is an absolute right for members to amend or withdraw concessions, provided they follow the proper process to compensate affected members.

It is far too early to speculate how the UK, the EU, and the rest of the WTO will act in the years to come, or whether the WTO will provide any kind of significant ballast in rough waters, but there are clearly enormous challenges ahead Brexit is not the only issue. The Trump administration has declared that it will not be bound by WTO rulings, seeing them as an affront to US Sovereignty and believing instead that its goals can be accomplished through bilateral negotiations. This return to protectionism with a threatened trade war between the USA and China, coupled with the slow moving negotiation mechanism that is the WTO, and the ripples of Brexit, suggest that globalisation, long considered an unstoppable force, may face stronger resistance in the next few years than it has done for many decades.