The impact of Brexit on the automotive sector Contents

5Trade opportunities post-Brexit

37.We were keen to explore with car manufacturers the potential advantages to be gained outside the customs union, with the potential for new and bespoke free trade agreements (FTAs) with emerging markets. At present, 56 per cent of UK vehicle exports go to the EU; some 6 per cent to China and 14 per cent to the US.103 In terms of value, Figure 1 (below) indicates how reliant on European trade the UK is and how much our trade with other countries will have to increase to offset any drop in sales to Europe. The EU signed an FTA with South Korea in 2009 (after two years’ negotiations),104 with Japan in July 2017 (after four years’ negotiations), and is in the process of negotiating deals with China and India.105

Figure 1: UK car exports main destinations106

Souce: HMRC UK Trade info

38.It is expected that 90 per cent of global economic growth in the next two decades will come from outside Europe.107 On this basis, Ministers have argued that that it is likely that an increasing proportion of UK trade will be with non-EU countries and that departure from the customs union is necessary to secure trade deals to take advantage of this growth.108 Industry forecasts for the automotive sector reflect this global forecast, with the Chinese market estimated to grow by 32 per cent in 2015–23, whilst mature markets do not expand at all (see Figure 2). A successful outcome of Brexit for the automotive sector would see any contraction in the volume of trade with the EU more than compensated by an increase in trade with other countries.

Figure 2: Estimated future sales growth

39.Membership of the EU has not been a barrier to expansion into overseas markets, either for volume manufacturers or for premium producers.109 The barriers are more economic and geographic. We heard that the UK tends to produce for the European market close by and caters for European tastes.110 The SMMT could not envisage a UK-based manufacturer trying to compete with the best-selling vehicle in the US—a Ford pickup truck—given the logistics that support manufacturing close to the market.111 Even accepting this, there is scope for improving UK exports at present, and the SMMT agreed that there are “substantial global trade opportunities for the UK”, albeit requiring Government assistance to obtain market access.112 Germany, for example, is responsible for 52 per cent of all EU automotive exports to China, compared to the UK’s 29 per cent.113 Aston Martin saw China as the biggest opportunity for increased exports in an otherwise “mature” global market,114 and it announced £600m investment to increase its presence in China as part of the Prime Minister’s trade mission there in January 2018.115 Whilst free trade agreements should be helpful, in the automotive sector they are by no means a requirement for improved export performance in emerging markets.

40.The diverse nature of the UK automotive sector was reflected by the differing strength of concerns over tariff and non-tariff barriers. For those companies, such as Jaguar Land Rover (JLR), who sell mainly outside the EU, the additional costs of non-tariff barriers may be less of a concern compared to those who sell predominantly to EU countries. In addition to JLR, there are a small number of UK-manufactured luxury vehicles with global recognition, which can expect growing sales in emerging markets, but export volumes of Aston Martins, Bentleys and Rolls-Royces are on an entirely different scale than the volume manufacturers.116 If the greatest opportunity for expansion into emerging markets is for premium products, it would take an unrealistic increase in volumes to make up for the reduction in sales of mass market vehicles to Europe resulting from the imposition of tariff or non-tariff barriers (see Figure 3 below). Mike Hawes considered that “substituting the large market of the EU with others would be very difficult.”117 We have seen no analysis that contradicts this assessment.

41.The economics of mass market car manufacturing point towards locating manufacture close to the region of sales or where labour costs are relatively low.118 The anticipated increase in demand for vehicles in an emerging market such as India is more likely to create jobs there than at UK-based plants. The UK cannot expect an expansion of trade overseas to outweigh the loss of trade to Europe arising from a hard Brexit. As most volume manufacturers in the UK are global and foreign-owned, any new bilateral trade deals secured by the Government are unlikely to lead directly to a significant increase in investment and jobs in the UK automotive sector. In its negotiations, we recommend that the Government prioritises continued friction-free access to the single market in automotives over securing the freedom to secure new trade deals with third countries.

Figure 3: Sales of UK built cars in 2016

Source: SMMT, Brexit papers. NB, the combined total of vehicles built in the UK by all other makes, including Bentley, Rolls-Royce, Aston Martin, Lotus and Morgan was less than 30,000.119

Free trade deals and rules of origin

42.The priority on trade deals for the industry is the rolling over of existing EU trade deals so the UK can continue to enjoy their enhanced trading arrangements.120 The Government has announced its objective of establishing “continuity arrangements” for these agreements.121 This is not necessarily a straightforward matter, due to the rules of origin provisions in these and other trade deals. Typically, an EU FTA will require 60 per cent of the content of a product to be locally sourced to be included under the terms of the agreement.122 Were this provision to be simply rolled over in a UK-South Korea deal, UK manufactured vehicles would not contain sufficient UK content to qualify.123 At present their typical UK content for rules of origin purposes amounts to no more than 20–25 per cent of the vehicle.124 Unless the terms of existing FTAs are altered, the UK would not benefit from the tariff-free access that they provide. The Government will therefore need to renegotiate every existing EU FTA and reach agreement on a new threshold for rules of origin, or agree that, for the purposes of the agreement, EU content can count as UK and vice versa.125

UK supply chains

43.The other option is for the UK to develop its own supply chains rapidly, generating jobs, reducing reliance on imported components and delivering a high enough proportion of domestic content to take advantage of new trade deals.126 This is a challenging task in the automotive sector. One tier 2 supplier did identify some opportunities for such “reshoring”, although these would be diluted by any new tariffs and the weakness of sterling.127 Tier one suppliers import 70 per cent of components from the EU, largely because of the location of raw materials and the economics of volume production resulting in specialist companies serving the European market.128 The Government is supporting the industry’s efforts to increase the value of UK content in the supply chain and has provided £16m of match-funding to supply companies in the automotive sector deal.129 The aim is to increase the value of UK content in domestically produced vehicles to 50 per cent by 2022. It has increased from 36% in 2011 to 44% in 2017,130 but, as mentioned above, for rules of origin and trade deal purposes, the current level is 20–25%. The greater the future level of border friction, the higher the incentive is for the UK to increase the proportion of components manufactured domestically, but this is also likely to increase the cost, compared to existing specialist suppliers, at least in the short term.

44.Witnesses described the development of a UK supply chain in time to take advantage of trade deals as “a very difficult thing to envisage happening”.131 We agree. The measures announced so far by Government and industry are insufficient to address the issue. We welcome the Government plans to improve the UK content of supply chains, but this is not going to deliver what is needed in the short to medium term. The Government should therefore prepare the ground to negotiate new trade deals which allow for a lower than usual threshold for domestic content in vehicles or ideally to be able to continue to include EU content for FTAs with other countries in the future. In negotiating the roll-over of existing EU FTAs to the UK, the Government should seek to secure the necessary amendments to allow UK content to count as EU content for rules of origin purposes in the automotive sector. Without such provisions, the business case for locating volume manufacturing of vehicles for export in the UK would be flimsy at best and non-existent at worst.

103 Figures from Statistica for 2016

104 It came into force on a provisional basis in 2011 and was ratified in December 2015.

105 SMMT (BRA0005). Negotiations with India began in 2007, and with China (on an “Investment Agreement”) in 2013.

106 Germany included as the UK’s largest EU trading partner on automotives but included in EU total

107 Department for International Trade, Preparing for our future trade policy, October 2017

108 Department for International Trade, Preparing for our future trade policy, October 2017; Rt Hon Boris Johnson MP, Foreign Secretary, speech, 14 February 2018

109 Q21 [Hawes], Q22 [Wilson]

110 Q21 [Hawes]

112 SMMT (BRA0005)

113 Bruegel, blog post, 29 charts that explain Brexit, 28 March 2017

114 Q22 [Wilson]

115 The Business Desk news, 31 January 2018

116 Sales of Bentleys in 2016 were around 11,000, Rolls-Royces 4,000. See Figure 3.

118 For example, GM has announced that it is shifting production of the Ford Focus from the US to China in 2019, for sale in China and importing into the US. New York Post, July 2 2017.

119 Figures on other makes from SMMT News release, 26 January 2017

120 The EU concluded trade agreements with South Korea in 2009 and Japan in July 2017. London Electric Vehicle Company (BRA0001), Honda Motors Europe (BRA0008). SMMT (BRA0005)

121 Department for International Trade, Single Departmental Plan, January 2018

122 That is 60 per cent from all EU countries cumulatively. Professor David Bailey and Professor Lisa De Propris (BRA0003). For the NAFTA, the figure is 65 per cent and President Trump has expressed a desire to increase this figure.

123 The FTA with South Korea includes a requirement for regulatory convergence, with either UNECE or EU standards.

124 Q54 [Hawes]. This reflects the fact that many UK-supplied components themselves contain components produced elsewhere.

125 This “diagonal cumulation” rule has been used in a pan-Euro-Mediterranean system, provided that an FTA is in place with all contracting parties. Neighbouring countries may also join if they have an FTA in place with one of the contracting parties. See European Commission website for further detail.

126 The Legatum Institute in The Brexit Inflection Point, has argued that supply chains will “re-orientate” over time.

127 Q96, [Sterne], Professor David Bailey and Professor Lisa De Propris (BRA0003)

128 Q96 [Sterne] [Saunders]; Q104 [Saunders]

129 HM Government, Automotive sector deal, 10 January 2018

130 HM Government, Automotive sector report, published on Exiting the European Union Committee website

131 Q59 [Wilson]

28 February 2018