By Alicia García-Herrero and Jianwei Xu
Over the past decades the UK economy has become a party to global production chains in a number of sectors. Benefiting from tremendous investment by many of the world’s major multinational corporations, the UK has become an export leader, especially for automobiles and pharmaceutical products. We ask whether the UK’s engagement in European supply chains might be at risk once the UK exits the EU.
Admittedly, measuring the impact of Brexit on the supply chain is not easy, in particular because we still do not have enough information about the future economic relationship between the EU and the UK.
If the UK continues to be part of the EU single market, we would expect no major changes in UK participation in European supply chains. However, if the current zero-tariff rate for all trade in services and goods is no longer maintained and the mobility of labour and capital is hampered (what is generally described as a hard Brexit), the UK’s participation in European supply chains would undoubtedly be affected.
We first describe how to measure the European supply chain, in manufacturing and in services. We then assess the extent to which the UK is involved, breaking down our analysis by sector, both for manufacturing and services. Finally we draw conclusions about how the UK’s participation in the European supply chain might be affected sector by sector.
We find that the UK’s automobile sector and related services, especially transport and storage, could be severely affected. However, another important sector – pharmaceuticals – should suffer less, because the expected increase in tariffs outside a trade agreement with EU would be negligible.
The UK’s most important service sector within the European production chain, research and development, might also be negatively affected. A hard Brexit could be especially damaging, because company headquarters could move out of the UK. The wholesale and retail service sectors and the transportation and storage sector will also confront challenges under such circumstances, but the effects might not necessarily be negative if firms in these sectors are well prepared.
Concepts and measures of the supply chain
To provide a quantitative assessment of the UK’s engagement in the European supply chain, we use the latest OECD Trade in Value Added dataset to derive indicators for global value chain (GvC) activities for the UK, at aggregate level and for different sectors. We rely on indicators of upstream linkages and downstream linkages.
The first indicator is the share of imported intermediate goods over GDP. This measure tracks the international intermediate goods that the UK sources in order to produce output. Because agricultural products and personal services (for example tourism) are not directly linked to the production chain, we focus on intermediate goods for the manufacturing and business service sectors.
Our second indicator is the share of exported intermediate goods and final goods over GDP, capturing the UK’s provision of goods and business services to trade partners. Because our analysis focuses on the European supply chain, we calculate intra-EU exports and intermediate imports for the UK unless otherwise stated.
Additionally, to obtain welfare implications, we also derive the value added embodied in the supply chain for the UK and the rest of the EU. Specifically, we calculate the value added embodied in exports and domestic final demand separately.
Alicia García-Herrero is a visiting scholar at Bruegel on sabatical from her position as Chief Economist for Emerging Markets at Banco Bilbao Vizcaya Argentaria (BBVA). She also serves as special advisor to the European Commission on China economic issues, as non-resident Faculty at China-Europe International Business School (CEIBS) in Shanghai and as non-resident fellow at Cornell’s emerging market research centre.
Jianwei Xu, PhD, is a visiting scholar at Bruegel. He is an associate professor at Beijing Normal University, and also works as an affiliate fellow at China Academy of Social Science and a youth member of the China Finance Forum 40. Prior to this, He completed an internship at the Development Research Center of the State Council in China as a research assistant. His research mainly focuses on international economics and labor economics.