No revolution, but change will come

Brexit: a forecast of the impact on German investors and trading partners
By John Hammond

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Introduction

Some of the opinion polls in the UK are now showing a majority of Britons want to leave the EU to sail off into an uncertain but independent future. If you wake up on June 24, 2016, to the news the Leave campaign has won, what impact will it have on your business in and with the UK and when? While there is a framework for an exit process and a timetable, the UK’s future relationship with the EU is matter for speculation.

Legal background

Many of you may already be familiar with Article 50 of the Treaty on the European Union, which says any member state may withdraw from the Union in accordance with its own constitutional requirements. The European Council must be notified of a decision to withdraw following which the withdrawal agreement is to be negotiated with the exiting member state, taking into account the framework for its future relationship with the EU. The treaty negotiations would be a matter for the Council, excluding the UK’s representative, and the final treaty would need the prior consent of the European Parliament.

The UK would formally exit the EU only when the treaty came into force or the two-year period for negotiations expires. A time extension requires the unanimous consent of the Council. Two years looks very short when you recall that Greenland (population 56,000) took longer to negotiate an exit agreement when the only issue was fishing! Against this background, bold claims the UK will get a quick, advantageous exit deal look optimistic at best. It’s more likely the divorce would be difficult and bitter.

The good news is: nothing will change immediately – but …

Following a vote to leave, the good news from a legal point of view is that nothing would change on June 24, 2016. The UK would remain a member of the EU. And EU law is deeply embedded in the UK’s ­legal system, with EU directives incorporated into national law and EU regulations having direct effect. Although there is little political clarity on the way forward, it seems likely the UK would continue applying existing EU law, which has direct effect . Continuity would be the likely default position despite the bonfires of EU regulation promised by certain politicians. Over time, changes would be made to a wide range of laws and regulations to maintain the status quo, to replace references to EU rules and EU institutions, and to repatriate political sovereignty, but this would be a process, not an event.

… here are the hurdles …

Following a vote to leave, the UK government would need to choose a model for its future relationship with the remaining members of the EU. Although there are a number of examples available, including rejoining the European Free Trade Area (Norway), agreeing on a single customs area (Turkey), or a hybrid arrangement (Switzerland), it’s most likely the UK will want to negotiate its own special deal, sometimes referred to as Canada Plus. A vote to leave would represent a rejection of one of the four pillars of the single market, namely the free movement of people. Rightly or wrongly, immigration policy lies at the heart of the referendum debate, so it is hard to see the UK accepting freedom of movement as the price for access to the single market. A free-trade agreement following the model of the EU-Canada Comprehensive Economic and Trade Agreement (CETA) seems a more likely outcome. CETA has taken over seven years to agree on and when it finally comes into force, will eliminate all industrial duties and promote trade in services. It is, however, a long way from the full membership of the single market the UK currently enjoys.

… and consequences for investors and trading partners

But what practical consequences would an exit have for German investors and trading partners and how can you plan for it in advance? EU rules currently play an important role in almost all areas of UK law, so I will look at the likely impact on just some of those areas: contract law, customs and tax, intellectual property rights and freedom of movement of workers.

When negotiating trading or investment contracts, there is no need to avoid either English law as a choice of law or English courts as a forum for dispute resolution just because the UK votes to leave the EU. Nor should there be any concern that a choice of German law or German court jurisdiction will not be recognized by English courts in the future. Choice of law is currently governed by an EU regulation referred to as Rome I, and if the UK leaves the EU, this will no longer apply in the UK. English courts have, however, historically always respected choice of law clauses and will almost certainly continue to do so whether or not Rome I applies. German courts will continue to apply Rome I and to recognize an express choice of law in a contract even if one party is from a non-EU state.

When looking at jurisdiction clauses, however, the position is less certain. The risk of parallel proceedings in different member states may reappear and the automatic recognition and enforcement of court judgments may, in the worst case, no longer apply. One solution to this uncertainty would be to use arbitration for disputes with UK parties as the recognition and enforcement of arbitration awards run under the New York Convention, not under EU law.

The UK has successfully attracted significant direct investment over many years, and Germany has been a very active ­participant in the UK market. The UK’s membership of the EU no doubt played a role in attracting German investors, but the harmonization of rules and regulations on the EU level will only have been one, possibly small, factor in those investment decisions. After a UK withdrawal from the EU, German investors may be faced with issues such as diverging product regulation, employment law and other compliance issues that they would need to keep on top of. It is likely customs procedures will be reintroduced and customs duties may reappear depending on the terms of the UK exit. In the worst case, these duties would be the World Trade Organization’s “most favored nation” duties; but in the UK at least, the expectation is for continued tariff-free trade with the EU.

Value added tax (VAT) is an EU tax and so on exit, the UK would no longer be required to maintain or administer it in a manner consistent with the remaining EU members. It is, however, likely that VAT would remain largely as is, with maybe some changes to reliefs and the imposition of import VAT, which, while it may be recoverable, would impose cash flow costs.

Moves to simplify EU patent and IP rights are also likely to suffer following a UK withdrawal. The systems currently being set up to unify patent registration across the EU and the moves to unify community trademarks and registered Community designs would almost certainly no longer apply in the UK. Businesses would need to look at dual registration in the EU and in the UK and a range of transitional issues would need to be answered such as can a community trademark be split between an EU CTM and a UK national mark with both having the same priority date?

Freedom of movement for workers is probably the most contentious issue in the whole EU referendum debate. There is no clear political line on what would happen should the UK leave the EU, and although it would be possible for the UK to maintain the status quo, this seems unlikely in the current political environment. No one is suggesting that all EU citizens would need visas to travel to the UK, but work permit requirements would almost certainly be reintroduced, at least for new recruits. Whether this would lead continuing EU members to impose similar restrictions on UK nationals working in Europe remains to be seen.

The way ahead

The economic impact of a UK exit is subject to fierce debate, but even the Leave campaign admits the short-term consequences would be adverse. And the rest of the EU would not escape unharmed, economically or politically. We all have an interest in the outcome on June 23, 2016, even if we don’t have a vote.

john.hammond@cms-hs.com

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