Bridging Nature and Finance: Why Biodiversity Matters to the Financial Sector?

Selin Ozyurt

The financial system has made significant progress in understanding climate change, but when it comes to biodiversity, confusion still lingers. While banks and insurers generally know how to measure and manage carbon emissions, they are less certain about addressing the loss of nature. Biodiversity, with its complex ecosystems and diverse species, is far harder to quantify, and there is no straightforward path to profit from its protection.

The challenge lies in the fact that biodiversity cannot be reduced to a single metric, unlike carbon emissions. Whether it’s saving a rainforest or protecting endangered species, placing a financial value on nature is difficult. For many banks, this makes engaging with biodiversity more complicated. Climate change offers clear profit opportunities—clean energy, green infrastructure—but with biodiversity, the business case is not as evident. Even though global initiatives like the goal to protect 30% of the planet by 2030 are gaining momentum, measuring and monetizing biodiversity remains a considerable challenge.

However, the conversation is evolving. Taskforces and international summits are bringing biodiversity into focus, encouraging financial institutions to explore new ways to close the biodiversity funding gap. While nature may not yet seem like a profit center, it is only a matter of time before the financial sector figures out innovative approaches to integrate biodiversity into investment strategies.

The urgency is undeniable: just as climate finance has transformed over the past decade, biodiversity finance must now follow suit. Banks and investors will play a critical role in this shift, working alongside governments and corporations to support a sustainable future for both ecosystems and economies. The road ahead may be complex, but the stakes are too high to ignore. Protecting nature is not just a moral imperative; it is an economic necessity.

Why Should Central Banks Worry About Climate Change?

Selin Ozyurt

Climate disruption is the major challenge of the 21st century, leading to profound transformations in our societies, territories, and economies. The economic and financial challenges linked to climate change and the transition to clean energy would require central bank action to a certain extent. However, it should not be forgotten that governments and multilateral development banks (MDBs), and organizations are better placed to lead and support the fight against climate change and ensure the low-carbon transition.

The strong demand for critical materials to the expansion of green technologies (copper, lithium, nickel) will certainly continue to drive prices up in the context of supply inelasticity. The implementation of a carbon tax on fossil fuels would set a price on carbon pollution and hence play a pivotal role in reducing GHG emissions and channeling investments into cleaner alternatives. Even if a well-designed carbon tax would have a relatively small impact on inflation in the long term, the materialization of climate risks in the short term could push central bankers to act to contain inflation, decrease price volatility, and anchor expectations.

In addition to their responsibility to ensure price stability, central banks are concerned about the impact of climate risks on financial stability and their integration into regulatory and supervisory frameworks. More frequent and severe natural disasters caused by climate change are likely to result in higher losses for insurance companies, trigger sharp declines in property prices, and potentially weigh on household and business solvency. The transition to non-fossil fuels could lead to stranded assets with a destabilizing effect. The rush for green investments and greenwashing could create green asset bubbles while increasing the risk of sudden price corrections. In both cases, the action of financial supervisors will be decisive in ensuring the resilience of the financial system. This means ensuring that financial institutions disclose their exposure to stranded assets, develop plans to manage these risks, and also set aside a sufficient capital buffer to absorb potential losses. Financial supervisors can also encourage financial institutions to invest in green assets and support the green transition.

Like any financial institution, central banks could choose to support the transition to a low-carbon economy by greening their operational framework for loans, collateral arrangements, and asset purchases. The European Central Bank and the Bank of England are pioneers in this area, having initiated the inclusion of climate-related policies in their operational frameworks.

However, before taking action on climate, central banks should carefully assess the risks and establish the limits to be respected. Central bank mandates generally exclude actions that target specific agents or directly finance governments. Adding the fight against climate change to their mandate risks endangering their independence, by exposing them to increased political pressure. Becoming responsible in an area where their capacity for action is limited risks damaging their credibility in pursuing their primary mandate.

To avoid giving in to inaction but also to limit the risks to central banks, the action of governments, multilateral organizations and MDBs with considerable financial resources and a broader policy toolkit (fiscal and regulatory) will be decisive in winning the struggle of the century.

I hope you enjoyed this article. For a deep-dive on climate finance, please check out our IFC-Amundi Emerging MArkets Green Bonds Report 2023

How could a “green” stimulus save growth in Europe?

Selin Ozyurt

Dear all, as promised, here is the English (and slightly longer) version of my article published in Le Monde – Selin Ozyurt : une relance « verte pourrait apporter le soutien tant attendu à la croissance européenne » . I hope you enjoy reading it!

In a context of weak growth outlook and inflation, the European Central Bank (ECB) announced in September 2019 new monetary stimulus by cutting the policy interest rates further and relaunching the net asset purchase program. Christine Lagarde, President of the ECB since November 2019, also suggested at her first press conference that the institution would play a key role in fighting global warming. So what role could the ECB play in 2020, while the global economy is slowing down unexpectedly and the climate emergency requires prompt action?

In the aftermath of the 2008-2009 global financial crisis, the enlarged toolkit of central banks has certainly helped to combat the danger of deflation. Yet, the effectiveness of additional monetary stimulus becomes questionable when rates are already close to their lower bound. The potential negative effects of low (and negative) interest rates are being openly discussed now, ten years after their first implementation. So, why are the interest rates still low despite their negative side effects on the economy?

The primary cause of historically low interest rates would be excess savings, reflecting greater risk aversion after the crisis in 2008 and the ageing of the population. According to American economist Larry Summers, the slowdown in productivity and low population growth reduced the growth potential of our economies over the past decades (i.e. secular stagnation hypothesis).

This leads us to wonder why productivity has been so low in advanced countries since the crisis. Underinvestment in the face of financial deleveraging needs, by governments and also the private sector, would be the usual suspect to explain the weakness of productivity. Stanley Fisher (Blackrock 2019) points out that lack of investment in infrastructure, education, renewable energy and digital technologies would limit potential growth and prevent TFP from returning to pre-crisis levels. Surprisingly, almost half of business investment decisions in the European Union (EU) would be hampered by inadequate transport infrastructure and lack of access to digital infrastructure (Boone and Buti 2019).

Vicious circle between low interest rates and low productivity

Interestingly, low interest rates may not only be the symptom but also the cause of the productivity problem. Recent research (Bergeaud et al. 2019; Gopinath et al. 2017) find that with low interest rates, a large number of unproductive firms and projects became artificially “profitable”. Accordingly, only a large technology shock would trigger enough productivity gains to get our economies out of this negative spiral.

With impending environmental challenges, failing investment in advanced economies become even more problematic in the medium term. Briefly speaking, the consequences of climate change are likely to weigh more heavily on our economies in two essential ways:

1) Further slowdown in labour productivity with increasing average temperature.

2) The destruction of productive capacities due to natural disasters.

In short, reducing CO2 emissions in entire sectors such as energy, industry and transport will require more and, above all, different investments.

“Explosive Cocktail”

Facing the “explosive cocktail” of economic and environmental challenges, a judicious combination of fiscal, monetary and structural policies (“policy mix”) becomes necessary. As Mario Draghi reiterated several times, there is significant fiscal space for stimulus in some euro area countries (e.g. Germany, the Netherlands, Austria). More generally, the positive differential between the real interest and economic growth rates offer a unique window of opportunity for fiscal accommodation, while preserving public debt sustainability.

One could also speak of a “green policy mix” in the light of recent announcements by European decision-makers. The new European Commission has presented its “Green Deal“, a green pact to achieve carbon neutrality by 2050. Yet, given the massive size of the challenge, the Green Deal should mobilise substantial budgetary, both at the EU and Member States levels.

Regarding monetary policy, Christine Lagarde stressed that climate objectives should be integrated into the ECB’s strategic review. Importantly, supporting the EU’s economic policies is part of the ECB’s mandate, as long as this does not undermine the primary objective of price stability. Thus, the ECB could already ally with the new Commission, in particular by ensuring that green projects benefit from favourable financing conditions. Although green securities have already been purchased under the ECB’s asset purchase policies (CPSP and PSPP), their volume remains very limited for the time being.

Greening the ECB’s balance sheet

As part of the “green policy mix”, Greens Bonds could become the central financing instrument for green projects and the European Investment Bank, the real financial arm of the Green Deal. The European market for Green Bonds is still in its infancy at the moment. Hence, the EU could increase the depth of this market by feeding it directly, but also through regular and large scale emissions from member states. A deeper secondary market for green bonds would allow the ECB to purchase larger amounts of green bonds and thus lower their yields, while respecting the imperative of market “neutrality”. Moreover, these purchases of green bonds will gradually make the balance sheet of the ECB greener, which is currently far from being CO2 neutral.

Finally, to ensure its effectiveness, the duration of this expansionary policy should be announced as soon as it is introduced, In addition, it is essential that the private sector takes over to play a central role in the energy transition of our economies takes over in the medium. This greening, through the investments in infrastructure and innovation it induces, could meet the technological challenge and stimulate productivity gains. Put differently, this “green” cooperation could ultimately get our economies out of secular stagnation and provide much-needed support to growth.

In 2020, the World is ‘absolutely’ less poor but more unequal!

Selin Ozyurt

Global economy made substantial progress in reducing extreme poverty (i.e. number of people leaving with less than $1.9 a day) in the last decades. However, the income of the richest grew way faster than the rest of the populations during the same period. To our big surprise, the UK was the champion of the developed World: The top (1%) UK earners saw their incomes grow fastest while their taxes got slashed by half since 1960. Finally, the largest increase in the total number of billionaires in history was registered in 2018!

Since the 1980s, no G7 country has managed to collect more than 1% of GDP per year, from real estate, gift, or inheritance taxes! In most countries, corporate tax cuts meant less social spending for the poor and vulnerable. As you would expected, Trumps’s tax cut boosted corporate profits instead of raising wages.

I know, I am not giving you any good news…Inequality and poverty are controversial and politically-sensitive topics. Their multi-dimensionality and limited comparability across regions make it hard to have a world-wide accepted metric. Unfortunately, this paves the way for picking the measure that serves the best someone’s political rhetoric.

Just to illustrate, there is no doubt that absolute poverty has decreased worldwide whereas the “relative” poverty (number of people earning 60% of median income) has increased in many advanced countries.

The same goes with inequalities: While inequality between countries appears to decrease, inequality increased within countries (see the illustration below).

I would like to share with you the slides of my Development Economics course in Paris-Sorbonne University.

Some takeaways from slides 21-23 :

Relative vs. absolute measures of inequality

Which country has a more egalitarian income distribution?

                country A = { 1; 2; 3}

                country B = { 2; 4; 6}

In both countries, the proportion of the income of the rich to the poor’s is the same (3/1 = 6/2). However, in absolute terms, the income difference between the rich and the poor is larger in country B (6-2>3-1).

Relative measures of income inequality are based on proportions of a total amount, or on the ratio of one group or individual’s income to another.

An absolute measure of income inequality depends on the actual numeric distance between groups or individuals of the unit in question.

To illustrate, suppose individual A earned $10, and B $100, and then both experienced a 20% increase. Individual A earns now $12, and individual B $120.

Relative measures of inequality would register this movement as no change in distribution, as both incomes increased by the same percentage. However, in absolute terms, the difference in income has changed from $90 to $118.

Therefore, it would be reasonable to consider this change as an expansion of inequality or non-inclusive growth!

Unfortunately, nowadays the most commonly used measures of income inequality (both in academic literature and popular discussion) tend to be relative measures of inequality. 

Can poor countries “really” catch up with the rich?

Sorry to disappoint, but my short answer is NO!

After two decades of faster growth in India, the gap between India and the US’s GDP per capita has  grown in absolute terms!

Let me be more precise: If India’s GDP per capita were to continue to grow at 5% annually, and the US’s were to grow at 1.5.%, the absolute gap would not even begin to shrink for more than three decades! These average growth rates would need to continue for almost 70 more years before the two countries had an equal GDP per capita.

Then emerges another key question: Is it really possible for all less developped countries to equal current levels of production in advanced economies, given the resource and other environmental limitations?

I hope you enjoyed this post, please leave me your comments and questions. Also let me know if you would like me to share more teaching material on economics and finance.

Best wishes for New Year 2020!

Why has the British Pound (GBP) depreciated since the BREXIT vote?

Selin Ozyurt

I made this video in 2017, a year after the Brexit vote. In 2020, the Brexit chaos still continues and the exchange rate of GBP did not recover to its pre-referendum value. The reasons below are still relevant to explain the current weakness of the GBP.

In this video, I answer the following questions:

1. What is an exchange rate?

Exchange rate is the value (or price) of a currency compared to another one.

2. What determines the exchange rate?

The market: Supply and demand. When there is a strong demand for a given currency, this currency appreciates, vice-versa.

3. What happened to the exchange rate British Pound (GBP)?

The British Pound (GBP) has strongly depreciated right after the Brexit vote, up to 20% against the euro for instance. The exchange rate of the pound did not recover to its initial value since then.

4. Why has the British Pound depreciated?

3 mains reasons explain the deprecation of the GBP:

Reason 1: The UK economy is expected to be POORER and LESS PRODUCTIVE in the coming years, compared to the situation where it stayed in the EU.

  • The UK has significantly benefited from the access to the EU Single Market. Being a part of the European supply chain enabled UK producers to produce in a more efficient way by cutting production costs.
  • The reestablishment of border controls and custom duties would make the UK LESS attractive for foreign investors and diminishes demand for GBP.

Reason 2: Monetary policy: Low Bank of England policy interest rates

  • Investors tend to buy assets of countries that offer high interest rates (and high returns). Therefore, high policy interest rates increase the demand for the currency of this country.

Reason 3: UNCERTAINTY around the future UK-EU relationship

  • Markets DO NOT LIKE uncertainty! Investors prefer to invest in other countries than the UK and this lowers again the demand for GBP.

I hope you find the video helpful. Please leave me a comment to give me feedback or further questions.

If things works well, I would like to come back with new videos on “low interest rates and the policy challenges” they imply.

SEE YOU SOON?

Can Mobile Money be an entrance door to finance the poorest?

Selin Ozyurt

#takeaways

After a long break, I would like to share some thoughts about the use of mobile money (digital wallets) as a means of financial inclusion. Honestly speaking, I did not know much about digital payment technologies until my first visit to Ghana. Once there, I had the chance to meet with the officials from the Central bank as well as various Mobile Money operators. After a few discussions, I became fascinated by these new technologies that help to bypass the shortcomings of poor financial development, especially in sub-Saharan Africa.

In a nutshell, my point is the following: Mobile money technologies offer financial services to millions of un(der)banked individuals in poor areas!

If you are curious about the topic, here are some takeaways from our press article with Charlotte Beck : https://theconversation.com/how-ghana-is-acing-its-transition-to-mobile-financial-services-119625

  • Technology (digital transformation), can help modernise the financial system and support greater financial inclusion of the poor.
  • Mobile financial services are mostly used by those poorly served by the traditional financial sector, with 20% of digital-wallet users being previously unbanked in Ghana.
  • The strong penetration rate of mobile phones (128% of the population in Ghana) make the widespread use of mobile-money services possible, particularly in rural areas.
  • Importantly, in Ghana, mobile phone technologies offer access to financial services such as health insurance, mobile-based pension schemes and microcredit loans.
  • Previously un(der)banked users  have now access to digital micro-loans (starting from $2) based on their mobile network data (instead of a traditional credit score). Let me explain how this works: a customer buying airtime regularly is likely to have a stable source of income. In the same way, calls to and from abroad should indicate a relatively high standard of living.  
  • In Ghana, users now earn interest on their digital savings accounts (some of them for the first time in their lives). Total interest paid to holders of electronic money wallets reached $4.5 million in 2016.
  • However, in an environment of low financial literacy, many Mobile Money consumers may fall victim to predatory practices. Thus, government authorities should commit to enhance the consumer-protection regulation and create a suitable working environment for innovation.

I hope you found this article helpful. Thanks for reading!

For my next blog posts, I plan to prepare some takeaways from the most popular @weloveeconomics Twitter posts. You can directly suggest me your topics of interest.

Selin

Bitcoin schizophrenia: Are you real or not? #Bitcoin

Selin Ozyurt

Let’s start with some context:

(if  you are in a hurry, you can skip this part and jump straight to the article)

After a long autumn break, I would like to dedicate a couple of blog posts to a topic that I find fascinating: The Bitcoin (BTC) and the Blockchain!

Last year, more and more people have been asking me whether or not to invest in Bitcoin. In these situations, I felt rather embarrassed because of my blank face and my inability to make any ‘intelligent’ statement. Finally, decided to step out of my comfort zone and conduct some research on the topic. I spent the last few months (rather obsessively) reading and collecting any kind of information I could find (e.g. newspaper articles, research publications, documentary films, geeky articles about how to become a BTC miner!). I find it striking that, academic research and comprehensive articles on the topic were that scarce. Most documents I found were from BTC trading platforms or companies trying to sell some BTC related services and applications.

Therefore, I decided to write a couple of articles on the Bitcoin. My main purpose is to share with you an open-minded analysis that combines my recent research on the topic and my so called ‘expertise’ as an economist. Sorry to disappoint, but I will not be able to tell you whether of not to invest in Bitcoins. You can find plenty of newspaper articles on the topic, with changing perspectives like the weather forecast.

The Bitcoin debate evolving every day, I am not sure that I can always give you definite answers. Nevertheless, I will try to point out to some policy, economic, ethics, and environmental issues that are worth thinking about. Please let me know (by leaving a comment) if you want me to dig into a particular area regarding the Bitcoin and Blockchain technologies.

Bitcoin, the bugbear of Central bankers: Oh no, you are not a currency!

1. Vitor Constancio, the Vice President of the European Central Bank said “Bitcoin is not a currency but a mere instrument of speculation”. He also added, “Bitcoin is a sort of tulip, it’s an instrument of speculation … but certainly not a currency and we don’t see it as a threat to central bank policy.”

I was puzzled that Mr. Constancio, mentioned a possible threat to the ‘central bank policies’. Also having worked for him in the past, I tend to believe that the authorities generally said ‘not to worry’ when the situation seemed ‘alarming’ to their eyes. A couple of questions came then to my mind:

  • The BTC…a possible danger for central bank policies? Was this related to the abundant money creation in the US, UK and the euro area going on  for almost a decade?
  • Were the historically low interest rates to blame? After all, having savings in EUR, USD, GBP in your bank account did not really bring real earnings over the past years.
  • Was there a general problem of ‘trust’ in central bank policies or the current banking system overall?

Besides all this, it was not clear to me why we had to choose between a fiat currency (e.g. euro) and virtual one (BTC)? Couldn’t various currencies co-exist all together, as they well did the past?

Unfortunately, I do not have the answers yet.

2. I was in a seminar last week where Francois Villeroy de Galhau, the Governor of the Banque de France, told us “Bitcoin is in no way a currency or even a cryptocurrency”. He also qualified the Bitcoin as a ‘speculative asset’ and added that its value and extreme volatility had no economic basis, and they were nobody’s responsibility.”

The main message of the governor was clear: “Those investing in Bitcoin, they do so entirely at their own risk!”. In other words, his institution should not be held responsible for the losses incurred by BTC!

Hey, Bitcoin you rather look like a currency to me!

Listening to central bankers made me extremely confused. To make up my mind, I needed to confront these statements with the facts. A quick Google search revealed:

  • I could buy bitcoins online in a few clicks
  • The use of Bitcoin was not reserved to drugs, terrorism and illegal transactions
  • In addition to numerous online merchants, a growing number of physical shops in Paris accepted BTC as a payment method (e.g. hairdressers, cafes, restaurants, pizzerias, jewellery shops, art galleries).
  • SAMU social, a major charity organisation in Paris was collecting donations in BTC!

All in all, the Bitcoin seemed ‘present enough’ in our financial system: I could use my credit card to buy bitcoins in a few click. I could then use these bitcoins as a medium of exchange, to buy various goods and services. So, what was a currency after all? (Perhaps a good topic for the next post)

Regulation is key

My take is the following: Instead of kicking the can down the road, isn’t it time for our policy makers to take some responsibility? Wouldn’t be more productive to think about how to regulate the Bitcoin rather than declaring that it does not exist as a currency?

Regulation is key to control the extreme volatility of BTC and avoid large losses for investors. For instance, taxing speculative BTC transactions could be a good start. Moreover, regulation could help to prevent the use of bitcoins for illegal/criminal activities (drugs, prostitution, terrorism), tax avoidance, money laundering, and so on.

Obviously, the regulation of a virtual currency is a highly complex issue. A couple of questions come to my mind: What would be the competent authority to regulate the Bitcoin?  Under which jurisdiction shall a global currency be regulated? How would it be possible to regulate transactions in an anonymous payment system? And the list goes on…

In a nutshell, denying the existence of the Bitcoin is not the solution. I believe, it is time for our policy makers to step outside of their comfort zones and face the regulatory challenges that our ‘modern times’ bring.

Winds of change – Happy new year 2018!

Selin Ozyurt

New Year 2018

Hello everybody,
After a long break, I am glad to be back! In this post, instead of talking about economics, I would like to share some personal thoughts with you at this very special period of the year.
2017 meant “change” for me.
2016 was about realising that the work I was doing, the city I was living in, and most sadly, the people I was spending my time with did not inspire me anymore.
To keep the long story short, after moving to a new country and a radical job change, I feel much more joyful, creative, connected with my true self.
In the process, I learned that change does not come naturally to the human brain. To make things happen, I sometimes needed to push myself out of my ‘comfort zone’ to follow my intuition that there was something ‘better’ out there, waiting for me.
The process of change was full of uncertainty and I sometimes felt overwhelmed by the organisational tasks and administrative burden. In these moments, I gave my best to keep my motivation up, to remain calm and connected to my ultimate targets.
I can never thank enough my followers on Twitter and the readers of this blog  for their interest and daily support. Guys, you were simply fantastic!
Freedom, kindness, compassion, creativity, friendships, gratitude and joy of living came first as the building blocks of my new life. In the process, I decided to leave behind  a large part of my belongings, the extra money I made, the hours I overworked, the ‘friends’ full of themselves who filled my evenings out. I simply embraced the change, and life gave me much more than I could possibly imagine!
“You must be the change you wish to see in the world.”

                                                                              M. Ghandi 

At this period of the year, I am perfectly aware that the world we live in is not a good host for such things like compassion, gratitude, love, friendships and creativity. However, this is the only world we have and we should not give it up!

In 2018, let’s re-invent ourselves, by living with a greater sense of universal responsibility and compassion to other nations, to human beings, and also to ourselves.
I wish all of you a happy New year!
Selin

Brexit and the Loss of Financial Passport: How are the Brits being Fooled?

Selin Ozyurt

#Brexit Facts

Today let’s discuss an extremely ‘unpopular’ topic that the UK politicians (both Labour and the Tories) have skilfully avoided since the Brexit vote. Surprisingly, the issue was also omitted from the General Election campaign: The UK will lose its financial passporting rights after Brexit!

Working for the ECB back then, I can tell that on the continent, the approach was fundamentally different. Right after the Brexit vote, we all knew that the loss of financial passporting rights was an ‘obvious’ consequence of the UK leaving the EU. Thus, various EU institutions started to get prepared to the new financial environment bringing about both challenges and sizeable opportunities for the EU. More importantly, this was no secret: While delusion and denial reigned in the UK, the ECB and the IMF officially called the UK-based banks to anticipate their relocation to the continent in order to smooth the transition process. Below, I will give you some basic facts to illustrate the gravity of the situation and how badly it is being handled by the UK government.

Why do financial services matter to the UK economy?

The financial services sector is the backbone of the UK economy, creating a significant share of value added, employment and tax revenues. Based on a narrow definition of financial services (excluding other finance-related activities), financial and insurance activities accounted for 7% of total UK Gross Value Added (£120bn) and also 7% of total UK employment (1.1m people) in 2015. Financial services generated 11% of overall UK tax revenues (£66bn) and attracted 45% of total Foreign Direct Investment in the UK.

The EU is the biggest market for financial services and the UK runs a large trade surplus in financial services vis-à-vis the rest of the EU. In other words, it exports more services to the EU27 than it imports from them. In 2015, the UK trade surplus with the EU27 amounted to £19.1bn in financial services. In particular, the City of London, is a major global hub providing wholesale financial services to the EU, such as trading and clearing of derivatives, foreign exchange transactions, repurchase agreements (repos), securities issuance, etc.

What is financial passporting?

‘Financial Passporting’ is the foundation of the EU single market for financial services. It facilitates cross-border trading by enabling institutions (e.g. bank, insurer fund) from one-member state to sell financial services across all EU states. For instance, (under the Capital Requirements Directive IV) a bank based in the UK can directly provide credit services to a corporate based in another EU state.

Cross-border banking activities of the UK with the EU (e.g. deposit taking, mortgage loans) highly rely on financial passport. In this way, UK banks can operate in a cost-efficient way, without having to set up subsidiaries in other member states (which would be subject to the host country financial supervision/ regulation and additional capital requirements).

On the other hand,  it is almost impossible for a non-EU firm to obtain a licence to provide cross-border banking or investment services to EU customers.

What will happen after Brexit?

One thing is extremely simple: After Brexit, the UK will not be able to keep the passport for the EU financial market if it seeks to restrict immigration and free movement of the labour. On top of this, retaining the passport (full access to the EU financial market) would also imply that Britain will continue to take the EU regulation on board without having any ability to influence it and will be subject to rulings of the European Court of Justice.

In the UK, the Brexit debate happens in a highly self-centered way, dominated by a misplaced sense of economic supremacy. Thus, the Brits are totally overlooking a key element: The EU does not want the UK to retain the passport for the EU financial market! Moving finance jobs back to the major EU cities, such as Frankfurt, Luxembourg, Dublin or Paris, is perceived as a great opportunity for the EU to improve scale and efficiency in financial services.

All in all, given the current Brexit stance of the UK government, keeping the financial passport appears highly unlikely. What is next then? After March 2019, financial firms will no longer be able to provide services from their UK headquarters to the rest of the EU. As a result, ten thousands of high paying jobs would migrate to the EU and this will lead to a significant fall in tax revenues. In addition, weaker demand for financial services in the city of London is likely to be a serious drag on economic growth.

This brings us back to my initial point: Since the Brexit vote, both Labour and the Tories preferred to keep the passporting issue vague, giving the illusion that there was some room to negotiate. The fact-based reality is that leaving the Single Market and restricting the free movement of labour means no more free access to the EU financial market. Obviously, this will have disastrous consequences for the UK economy in terms of growth, employment and tax revenues. Once again, Brexit politics chose populist hypocrisy and denial over a comprehensive cost estimation of leaving the Single Market.

The Hidden cost of Brexit: How much could border controls and bureaucracy harm the UK manufacturers?

Selin Ozyurt

#Brexit Facts

Recent debate on Brexit has extensively discussed how badly would leaving the EU affect the UK services sector. Obviously, this is a worrying issue which could cause massive job losses, particularly in financial services sector. However, in this post, I would like to discuss the Brexit-related challenges to the UK manufacturing sector. This topic has received only limited attention despite the high economic cost it is likely to involve.

 

Why is the manufacturing sector important to the UK?

Manufacturing exports account for 45 per cent of total UK exports. Pharmaceuticals, aerospace, motor vehicles are the key export-oriented sectors of the UK. The EU is the largest export destination of the UK, accounting for 52 per cent of total exports. The UK manufacturers are strongly integrated into the EU supply chains where natural resources, raw materials and components cross the EU borders a few times before being transformed into finished products. To be more precise, nearly half of the UK’s intermediate goods imports and exports are with other EU countries. The EU27 supply chain also relies on the UK but to a smaller extent: The UK accounts for only 10 per cent of the EU27 intermediate goods exports/imports. The larger exposure of the UK to the EU27 supply chain as well as its relatively small size (only 17% of the EU27 GDP) suggest that any disruption to existing production networks after Brexit would be more harmful to the UK manufacturers (than to the EU27 ones).

Why is Brexit likely to disrupt the EU supply chain? After Brexit, the UK’s borders with the EU will all become external and will be subject to customs controls following the EU law/WTO rules. Under all possible Brexit scenarios (e.g. EEA, CETA, Customs Union, WTO) customs controls and non-tariff barriers are likely to imply  additional costs to trade, also in terms of waiting time.

Why does the waiting time matter for the supply chain? The EU and UK manufacturers follow the ‘just-in time’ principle which makes it necessary to move parts and components quickly and efficiently around the EU. In this way, producers keep stocks at a minimum level to reduce costs. Let’s take the automobile sector as example: The Society of Motor Manufacturers & Traders, estimates that imported components from the EU account for 60 per cent of a ‘British-built’ car. In the same way, two-thirds of UK motor components, are exported to the EU producers to end up in ‘foreign-built’ cars. Even a few days of delays due to customs controls could severely disturb production networks of the automobile industry.

Currently, the Brexit trade debate focusses on negotiating Free Trade Agreements and disregards the additional ‘trade cost’ implied by borders controls, non-tariff barriers and bureaucracy. Most UK exports to the EU are operated through the Channel ports which currently lack the staff, physical infrastructure or software capacity to deal with all-encompassing border controls.

Moreover, even under a zero-tariff agreement with the EU, the re-introduction of ‘rules of origin’ could seriously harm the UK/EU supply chains. In short, ‘rules of origin’ refers to a cumbersome bureaucratic procedure where exporters will have to prove that their goods originated in the UK and that everything that enters the UK has a verified country of origin. All in all, the resulting paperwork, custom delays and compliance costs could seriously paralyse the supply chains by making the UK suppliers less attractive to the EU producers. Recent evidence shows that some companies have already started to replace their UK supplier by the EU ones.

Could the UK manufacturers dump existing EU supply chains and quickly set-up new links in the UK?

The short answer to this question is ‘NO’. The UK workforce is severely lacking ‘vocational’ skills highly  required in sectors such as electrical and mechanical engineering. Without skilled workers in place, it will be almost impossible to build a self-sufficient infrastructure for the UK within a two-year period. Even with ‘good’ educational policies (which are rather unlikely to happen), it would take several years to train the UK workers. Moreover, restrictive immigration policies will not be of any help in filling the skills gap during this transition period.

All in all, my take is that even under a Free Trade Agreement with the EU, Brexit could severely harm the UK manufacturing sector due to the re-establishment of border controls. To minimise the adverse impact of Brexit on supply chains, targeted human capital formation policies should be quickly put in place in order to tackle the UK’s skills shortage problem after Brexit.