The economic and financial costs and benefits of the UK’s EU membership Contents

4The long-term risks of staying in the EU and the Government’s renegotiations


101.In a speech in January 2013, the Prime Minister argued that the EU needed “fundamental, far-reaching change”. It was in this speech that he first announced his intention to seek a “new settlement” for the UK in the EU and to hold a referendum in the following Parliament, where voters would decide “to stay in the EU on these new terms or come out altogether”.94 The intended terms of this new settlement changed over time, but gained their final expression in a letter from the Prime Minister to Donald Tusk, President of the European Council, dated 10 November 2015.95 The final results of the renegotiation (henceforth the settlement) were set out in the conclusions of the European Council summit of 18-19 February.96 The settlement covers four broad areas:

102.Economic governance. The settlement contains a set of principles intended to ensure that further economic integration of the Eurozone does not unfairly prejudice the interests of non-Eurozone countries. It also establishes a procedural mechanism intended to ensure that the principles are respected.

103.Competitiveness and red tape. The settlement restates previous pledges and commitments to “enhance competitiveness”, “fully implement and strengthen the internal market” and take “concrete steps towards better regulation”. Specific targets for burden reduction are to be established in “key sectors” and “where feasible”. A separate declaration of the European Commission states that the existing body of EU law will be reviewed for compliance with the principles of subsidiarity and proportionality.

104.Migration and free movement. The settlement proposes amending EU legislation to enable in-work benefits to be restricted for recently-arrived migrants, and for child benefit paid in respect of children living in other EU Member States to be indexed to reflect ”conditions” in those countries. Other measures are proposed in the settlement to tackle the “abuse” of free movement.

105.Sovereignty. The settlement acknowledges that the UK has a “specific situation” in relation to the EU, that it will not be committed to further political integration, and that the concept of “ever closer union” will not apply to it. It also establishes a ‘red card’ procedure under which 55 per cent of national parliaments (currently the parliaments of 16 Member States) will be able to combine to prevent further discussion in the Council, of EU legislative proposals, where they believe power should lie with national legislatures in accordance with the principle of subsidiarity.

106.The Committee’s overall view of the settlement and its impact on the case for membership is as follows:

If there is a vote to remain, the principles contained in the economic governance part of the ‘new settlement’ with the EU will be important in ensuring that the UK’s interests, and the integrity of the single market, are protected as the Eurozone pursues further integration. These do improve the protections afforded to the UK in the EU, and hence, to that extent, the economic case for membership. But this falls short of the ambitions expressed in the Prime Minister’s Bloomberg speech of January 2013.

107.The Committee took a particular interest in the economic governance part of the settlement, and sought the views of the Bank of England on whether it provided the Bank with the flexibility it needed to safeguard the UK’s financial stability. The assurances sought by the Committee reflected concerns raised by the Bank in its October 2015 paper, EU membership and the Bank of England, that the pursuit of further harmonisation of financial regulation in the Eurozone could compromise the Bank’s ability to ensure financial stability in the UK.

108.The Committee also took evidence on the restrictions on in-work and child benefits. In particular, it considered the extent to which they addressed the Prime Minister’s concerns, expressed in his letter to Mr Tusk, about the “scale and speed” of EU immigration, and how far they might contribute to the Government’s target of reducing migration to the ‘tens of thousands’.

109.The economic governance and welfare parts of the settlement are discussed in turn below.

Economic governance and the risks of further Eurozone integration

110.Most legislative acts are now approved in the Council of Ministers by a weighted voting system known as qualified majority voting (QMV). The Eurozone has an inbuilt qualified majority, meaning that, acting together, its members can approve legislation, even if it is opposed by other Member States. Discussing EU financial regulation in a speech in January 2014, the Chancellor noted that this led to a “very real risk that badly thought-through legislation will be imposed on the UK”.97

111.Two factors compound this risk. First, the Eurozone crisis has exposed the need for those countries that have adopted the single currency to pursue further financial and fiscal integration, including a banking union with single resolution and supervisory mechanisms. The extent of regulatory harmonisation necessary to ensure the single market functions properly is likely to be less than that required to ensure the stability of the single currency.

112.Secondly, the size and national economic importance of the UK’s financial services industry is unique among EU Member States. The result is that other non-Eurozone members cannot always be relied upon as natural allies in opposing legislation to which the UK objects. As Dr Robin Niblett, Director of Chatham House, put it: “non-Eurozone members, apart from us, are generally wanting to be included somehow in the broader banking union structures; they have a different outlook [ … ] they are not exporters of financial services the way we are; they do not have the City of London based within them”.98

113.The potential problems from this situation were identified in the Bank of England’s October 2015 report on EU membership, which highlighted the importance of “clear principles to safeguard the interests of non-euro-area Member States”. Without these, the Bank warned that the future development of EU financial regulation might impair its ability to address “the specific financial stability challenges in the world’s largest international financial centre”, and weaken the integrity of the single market.99

114.In this context, a central objective of the Government’s renegotiations was to secure safeguards to protect the integrity of the single market and the interests of non-Eurozone members. The UK’s settlement establishes a set of principles, upheld by a procedural mechanism to raise concerns about their being breached. The principles include: recognition that the EU has more than one currency; that a greater degree of harmonisation of financial regulation may be required for countries inside the euro area than for those outside it; and that, for non-Eurozone countries, institutional responsibility for ensuring financial stability lies with their own authorities.100

115.Some of the principles are framed in a symmetrical way, placing obligations on both Eurozone and non-Eurozone members; for instance, just as legislative acts linked to the functioning of the euro area must “respect the competences, rights and obligations of Member States whose currency is not the euro”, so those same Member States “shall not impede the implementation of legal acts directly linked to the functioning of the euro area and shall refrain from measures which could jeopardise the attainment of the objectives of economic and monetary union”. Others are carefully nuanced; for instance, the clarification that, for non-Eurozone countries financial stability and supervision is a matter for their own authorities is “without prejudice [ … ] to the existing powers of the Union to take action that is necessary to respond to threats to financial stability”.

116.The procedural mechanism allows for any Member State not participating in banking union to raise an objection in ECOFIN if it is concerned that a legislative measure agreed by QMV breaches the principles. The President of the Council (i.e. the finance minister of the country holding the six-month rotating Presidency) must then “undertake any initiative necessary to facilitate a wider basis of agreement in the Council”. The Council Decision describing the mechanism states that “a discussion in the European Council [i.e. among Heads of State or Government] on the issue, before it returns to the Council for decision, may constitute such an initiative”.101

117.The Government’s paper setting out the implications of the settlement states that the procedural mechanism allows it “unilaterally [to] take the UK’s concerns to the Heads of State or Government in the European Council” if it believes the principles are not being respected.102 Sir Jon Cunliffe was asked whether the claim in the Government’s paper was consistent with the text of the procedural mechanism. He said that “there is no legal right” for the UK to take its concerns to the European Council.103 However, he made clear that in practice, a discussion at the European Council would be likely if that was what the UK wanted:

I would have thought, if a Member State brought a breach of this agreement to the Council, the ECOFIN, and if it was not resolved at the ECOFIN and the President of the ECOFIN decided not to refer this to the European Council, and that Member State then went to the President of the European Council and said, “This for me is a fundamental breach”, I am pretty sure that that would be discussed at the European Council, if only because a Member State could bring that to the European Court of Justice.104

118.The Committee sought written evidence from the Bank as to whether the settlement satisfied the concerns raised in their October 2015 Report. In a letter to the Committee Chairman, the Governor wrote that “the settlement addresses the issues the Bank identified as being important, given the likely need for further integration of the euro area, to maintaining its ability to achieve its objectives”.105 In oral evidence to the Committee, Sir Jon Cunliffe described the settlement as “significant and material” and “quite powerful”.106

119.The pursuit of further economic and financial integration within the Eurozone, including the development of a banking union, could threaten the UK’s influence over how single market regulation develops, its access to EU financial markets, and the flexibility of its financial regulators to respond to risks. It is the single most significant risk to continued membership, and the Government was right to make it a focus of their renegotiation.

120.The settlement that the Government has negotiated establishes a set of ‘principles’ intended to safeguard the interests of countries outside the euro, and a procedural mechanism to uphold them. The Bank of England’s judgement that, taken together, these address its concerns about regulatory flexibility and the integrity of the single market should be taken seriously. But the language of those principles confers obligations on the UK as well as rights. In particular, the UK has now fully signed up to the logic that monetary union requires a fiscal and banking union, and it has agreed not to impede these developments in relation to Eurozone members only, so long as the principles are respected.

121.There clearly remains scope for conflict between those countries outside the euro and banking union, and those within it, and a risk that the principles will not be properly respected or correctly interpreted. Protection against this will be provided in part by the ECJ, but also through the procedural mechanism that allows the UK to raise objections about legislative measures that breach the principles in ECOFIN. This mechanism does not allow the UK to veto or delay measures that it considers to be in breach of the principles; nor even, as Sir Jon Cunliffe made clear, does it give it a formal right to have its concerns discussed by Heads of State and Government in the European Council. In saying that the UK is “unilaterally” able to raise such concerns at the European Council, the Government has somewhat overstated its case. Nonetheless, the mechanism would appear to have a degree of political importance, and a request by the UK to discuss concerns at European Council level would, as Sir Jon suggests, in practice be hard to reject, even if the text of the settlement falls short of saying so.

122.With or without the principles and the enigmatic procedural mechanism that is supposed to uphold them, ensuring the UK’s rights in the single market are respected, and its authority to act to mitigate financial stability risks are maintained, will be an enduring challenge. This challenge will only become greater as other countries join the banking union and the euro. In this context, it is worth remembering that only the UK and Denmark have Treaty-based opt-outs from joining the single currency. The settlement that the Government has negotiated may have mitigated the risks to UK interests of Eurozone integration, but it has not expunged them.

123.The settlement states that the “substance” of the principles will be incorporated into the Treaties when they are next revised. If the UK stays in the EU, these Treaty negotiations will present an opportunity to seek to place on a more solid footing the safeguards it has secured. The Government of the day will also have to guard vigorously against any encroachment of Union competence into the financial stability policy of non-Eurozone countries; given the size, diversity and importance of the UK financial services industry, it is vital that the UK’s regulatory scope for unilateral action is maintained.

124.Treaty change also provides an opportunity for the Government to address a number of other shortcomings of the economic settlement, in particular the UK’s exemption from ‘ever closer union’. It may, however, be some time–and probably several years–before such an opportunity arises.

Migration and welfare

125.In a speech on 10 November 2015, the same day that he wrote to Donald Tusk setting out the Government’s renegotiation objectives, the Prime Minister said that he wanted “to reduce the current very high level of migration from within the EU into the UK”. He went on to say that this would be achieved in part by seeking changes that reduced the “pull factor” of the UK’s welfare system:

we have proposed that people coming to Britain from the EU must live here and contribute for 4 years before they qualify for in work benefits or social housing. And that we should end the practice of sending child benefit overseas.107

126.In evidence to the Committee, the Chancellor was asked about the extent to which these restrictions would limit inward migration from the EU and contribute to the Government’s target to reduce migration to the “tens of thousands”. He said:

Our assessment is that that would be an effective mechanism for making the UK less attractive to people coming to this country to claim more generous benefits and that being their primary motive. There is quite a lot of evidence that, for some migrants, that is the principal draw. [ … ] there is of course also non-EU migration and things like the family route, but this would help a lot in delivering the target.108

127.In support of his argument that the restrictions would have an effect on migration, the Chancellor cited Open Europe analysis, published in November 2014, that demonstrated a “financial incentive” for workers in Spain, Poland and Bulgaria to migrate to the UK, because what they could expect to earn on the minimum wage in their own country was less than what could be earned in the UK, taking into account the national minimum wage and in-work benefit entitlement. On this basis, Open Europe advocated a policy similar to that which the Government sought in its negotiations; there should be a “qualification period” for access to in-work benefits and other parts of the welfare system.109

128.The Chancellor was also asked whether the introduction of the national living wage (announced in the July 2015 Budget), which will result in the minimum wage for over 25s rising at a faster rate, reaching £9 per hour by 2020, might offset any effects from the proposed in-work benefit restrictions. He said that he “[did] not think that the national living wage is fundamentally going to change the attractiveness of the UK to overseas workers”.110 In evidence to the Committee on the Autumn Statement 2015, Sir Stephen Nickell, member of the Budget Responsibility Committee, disagreed with the Chancellor about the impact of the proposed in-work benefit restrictions. He said that, in his view, they would have “not much” impact on inward EU migration.111

129.The settlement that emerged on 19 February differed from the Prime Minister’s demands. Instead of an outright four-year ban on in-work benefits for EU migrants, new migrants will qualify for them on a “graduated” basis over a period of four years. And instead of a ban on child benefit paid in respect of children living in migrants’ home countries, the value of benefits paid will reflect “conditions” in the country in question.112

130.In support of proposed restrictions, both the Prime Minister and the Chancellor made use of a figure of 40 per cent to refer to the proportion of EEA migrants supported by the “UK benefits system”.113 In an effort to verify that figure, and to determine what proportion of migrants might be affected by the in-work benefits restrictions, the Committee obtained, through correspondence with HMRC, the following numbers:

131.The figures indicate that, were the in-work benefit restrictions in force in 2013/14, 11 per cent of EU migrants would have been living in households that might have been affected by them. This is consistent with work by the Oxford University Migration Observatory, which concluded that, based on publicly-available data, “roughly 10-20 per cent of recently arrived EU adults were receiving tax credits in early 2014”.116

132. Outside the EU, the UK would be able to impose controls on EU migration. Michael Dougan, Professor of European Law at Liverpool Law School, said that “In principle, after withdrawal, the UK will no longer be bound by any free movement”.117 However, as discussed in Chapter 5, doing so could have implications for the access it is able to secure to EU goods and services markets. Boris Johnson told the Committee that, on leaving, “we would take back control over our borders”,118 adding that “both of those would be locked off–free movement and budgetary contributions–but it would be massively in the interests of our partners to do a deal based on free trade in goods and services, and I am sure that is what we would achieve”.119

133.In written evidence to the Committee, the Civil Engineering Contractors Association (CECA) said that Brexit and new migration controls could risk the loss of key skills.120

134.A variety of studies have suggested that EU immigration has had a net positive fiscal impact.121

135.Some campaigners for Brexit have said that Brexit would lead to a reduction in immigration. Others have said that a reduction in EU immigration following Brexit will allow for a corresponding increase in non-EU immigration. These positions are apparently contradictory.

136.Other things being equal, the changes to in-work and child benefits that the Government has negotiated will at best lead to a modest reduction in inward migration from the EU and fall in welfare spending. These changes would also be more consistent with the principle that one should not be able to draw down from the benefit system before one has contributed to it. Other things are not, however, equal. The introduction of the national living wage may significantly offset any effect from these measures by increasing the UK’s attractiveness to migrants. It is inconsistent to claim that migrants are attracted by higher wages when paid by the state in the form of tax credits, but not when paid by employers in the form of the national living wage.

137.So far, free movement has been a non-negotiable part of the single market and EU membership. Just as Boris Johnson and others are almost certainly mistaken to think that the UK could retain unfettered access to EU goods and services markets while ending free movement after leaving the EU, so the Prime Minister was almost certainly mistaken–as is indicated by the contents of the new settlement–to have concluded at the outset of the negotiations that he could succeed in substantially restricting free movement while remaining in the EU. The present situation, in which non-EU migration is increasingly having restrictions placed upon it–in pursuit of an arbitrary target that it is not within the Government’s control to meet–is economically distortive, and is likely to carry a cost, although over the past decade non EU migration has shown no clear declining trend.

94 Prime Minister, EU speech at Bloomberg, 23 January 2013

95 Letter from the Prime Minister to Donald Tusk, 10 November 2015

96 European Council, Conclusions of meeting on 18-19 February (EUCO 1/16)

97 Chancellor of the Exchequer, speech at Open Europe Conference, 15 January 2014

98 Q142

99 Bank of England, EU membership and the Bank of England, October 2015, p7

100 European Council, Conclusions of meeting on 18-19 February (EUCO 1/16), Annex I, Section A

101 European Council, Conclusions of meeting on 18-19 February (EUCO 1/16), Annex II

102 Cabinet Office, The best of both worlds: the United Kingdom’s special status in a reformed European Union, February 2016, Para 2.31

103 Q1027

104 Q1010

105 Letter from Dr Mark Carney to Rt Hon Andrew Tyrie MP, 7 March 2016

106 Q1029. Sir Jon clarified in subsequent correspondence with the Committee Chairman that this latter remark referred to the settlement as a whole, and not to the procedural mechanism specifically (letter from Sir Jon Cunliffe to Rt Hon Andrew Tyrie MP, 8 April 2016)

107 Prime Minister, speech on Europe at Chatham House, 10 November 2015

108 Q383

109 Open Europe, Reforming EU migrants’ access to benefits, November 2014

110 Q347

111 Oral evidence from Sir Stephen Nickell to the Treasury Committee on Spending Review and Autumn Statement 2015, Q135

112 European Council, Conclusions of meeting on 18-19 February (EUCO 1/16), Annex I, Section D

113 See, for instance, Prime Minister, speech on Europe at Chatham House, 10 November 2015

114 Letter from Lin Homer to Rt Hon Andrew Tyrie MP, 4 February 2016

115 Office for National Statistics, Note on the difference between National Insurance number registrations and the estimate of long-term international migration: 2016, 12 May 2016, Annex 3

116 Oxford University Migration Observatory, Migration, welfare benefits and EU membership, 4 May 2016

117 Q182

118 Q1270

119 Q1351

120 EUK0006

121 See for instance, Dustmann, Frattini, (2014) The fiscal effect of immigration to the UK, The Economic Journal

© Parliamentary copyright 2015

27 May 2016