Written evidence submitted by Professor L Alan Winters (FRE0001)

Evidence Submitted to the Welsh Affairs Committee Enquiry into Freeports

by

L Alan Winters, Professor of Economics and Director of the UK Trade Observatory, University of Sussex.

4th April 2020

1. The Government’s Consultation ‘Freeports: Boosting Trade, Jobs and Investment Across the UK’ paints a very rosy picture of Freeports, but one which ultimately will disappoint. The UKTPO has provided a relatively detailed analysis of the cases for and against Freeports – Serwicka and Holmes (2019) – and an accessible animation explaining the main points – UKTPO(2020); this evidence summarises the main points in the context of Wales.
2. Strictly speaking the only concessions a Freeport offers its firms are on customs duties in terms of simplified procedures, deferral of duty on goods imported into the zone and then transferred to the rest of the UK, and freedom from duties for goods imported into and then re-exported from the zone. The Government is also considering coupling these with policies such as tax concessions equivalent or similar to those provided to Enterprise Zones, of which the UK already has 61, eight of which are in Wales, and also relaxations of planning regulations.

Customs

3. The value of the concessions on customs duties is clearly related to the height of the duties that would otherwise be paid. We do not yet know what the UK Global Tariff will be, but the government is considering minor reductions in tariffs relative to current rates which are determined by the EU’s Most Favoured Nation (MFN) tariff. Even if there were no reductions, the EU tariff averages only 2.5% (import-weighted average) – see Gasiorek et al (2020). Moreover, the Government’s intention to agree a zero-tariff trade agreement with the EU plus the Continuity Trade Agreements that have already been signed would set tariffs to zero on more than half of UK imports. Thus the value of the tariff concession will be very low, and thus do little to encourage economic activity within the Freeport.
4. Relatedly, import procedures may be simplified, but they will not be abolished and any good leaving the Freeport for the rest of the UK would have to complete regular procedures at that stage. Moreover, whereas a good entering the UK from outside faces one set of formalities, a good entering via a freeport would face two – i.e. on both entry to and exit from the Freeport.
5. It has been asserted that Freeports in the USA stimulate economic activity within their zones. This, however, is mostly due, we believe, to a feature of the US tariff structure that is largely absent in Europe – so-called tariff inversion. In the USA several sectors, but most notably vehicles, pay higher tariffs on their imported inputs than they pay on the finished product. Hence producers can reduce their liability to tariffs by locating in a freeport so that the inputs pay no tariff on entry and, as part of the final product, pay the lower rate on exit into the US economy. That is, freeports in the USA are essentially import processing zones.
6. Similar opportunities are not available in significant quantities in the UK. The three largest wedges between the tariffs on final goods and their relevant intermediates are described in table 1:

Table 1: The three largest tariff inversions in the EU (UK)

7. It is possible that there is scope to import these into the Welsh ports from the Republic of Ireland, which might offer some return from establishing a Freeport in those ports, but overall the trade that could be so created is probably rather small, and the tariff-savings even smaller.

Other benefits – should they be restricted geographically?

8. The discussion so far suggests that the trade benefits to the UK of freeports, strictly interpreted, are small. But the Government’s consultation suggests two other areas in which there may be scope to stimulate activity – tax regulation and planning procedures. The former are already available in Enterprise Zones and the latter have long been seen as a route to increasing economic growth in the UK – e.g Cheshire et al (2012) and LSE (2013), albeit mainly in the areas of housing, retailing and major infrastructure, none of which is particularly pertinent to Freeports. These elements raise the following questions:

• Why do tax and planning concessions need to be linked to trade concession in Freeports?
• If such improvements are desirable, why do we want to restrict them to specific geographical areas?
• Why do we believe that if benefits should be restricted geographically, ports are the optimal location for them?

No convincing answers have been offered to date.

9. Many developing countries have made successes out of restricted free zones (although far from all attempts have been successful), but it is important to contrast their experience with that of the UK. In developing countries there is a case for restricting the coverage of concessions because in many cases the physical and administrative environments for business are generally poor, and there is not capacity to improve them economy-wide overnight. Moreover, without a strong industrial base there is a case for encouraging concentration in order to reap the benefits of agglomeration. Neither applies in the UK, at least in the sectors that freeports are likely to encourage (see below). Moreover, even if agglomeration effects are important in continental countries (USA, Australia) they are likely to be much smaller in the UK because the UK is so much smaller - Lee (2017).
10. A further argument that has been advanced is that the Isle of Dogs has been a hugely successful Enterprise Zone, and that freeports are a step towards replicating that success elsewhere. But this zone was aimed at certain specific sectors – e.g. the press and the financial sector - and was close to their existing locations; it was also hugely expensive. The Freeport experiment is an order of magnitude smaller in conception and implementation.
11. Once one restricts benefits geographically, one opens up the possibility that you relocate activity from outside to inside the favoured zone. Lee (2017) reports evidence that significant shares of the jobs ‘created’ in enterprise zones are actually just displacements. Even if firms do not get up and move with the introduction of a Freeport, as the economy evolves, if an enterprise zone is effective, firms outside it will be less competitive in local labour markets than firms inside, and in an economy with relatively full employment (to which the UK will, we hope, soon return), they are almost bound to decline in relative size.

Innovation

12. One hopes that dynamic local economies will foster innovation which can eventually spread to areas outside their borders – this is indeed among the main rationales for taxing one area to support another. But the trade elements of freeports, which favour old-fashioned sectors in which tariffs are higher (food, steel, etc) are ill-suited to encouraging innovation – in fact, arguably the opposite. Freeports seem more likely to encourage simple assembly operations.
13. The government speaks of challenge funds and creating environments in which new ideas can be trialled. But again, it fails to spell out why these should be geographically restricted and why, if they are, ports are the preferred location. Moreover, how does one encourage trials? By relaxing regulations? But the government asserts that freeports will involve no compromise in standards.

Trade with Ireland

14. Much of Wales’ trade is with Ireland, and as pointed out in Magntorn and Winters (2020) this is going to be subject to disruption in the near future. Much of the disruption will require border formalities – customs and health and safety checks – and it is not self-evident that the facilities for conducting these are yet in place. Rather than think of freeports, those responsible for the health of the Welsh ports should think first of the investment necessary for the post-Brexit world. Moreover, many of the jobs that administering Wales-Ireland trade requires will be ‘good’ jobs, better, in fact, than the sort of assembly and warehousing jobs that a Freeport is likely to create.

Disadvantaged Areas

15. There is undoubtedly a strong case for supporting areas of the UK that are doing less well than average, and I commend the current government for entertaining this idea. And it is certain the Wales should be a prime case for such support, especially now that EU Regional Funds will no longer be available. However, there is little case for coupling such support to freeports. They will create bureaucracy (two borders rather than one), and they will encourage simple assembly and warehousing operations rather than modern development.
16. Rather effort should go into regional development schemes, which even if geographically restricted, should be located in areas which have both need and a plausible path for regeneration. These may be around ports – sea ports and airports - but even then trade policy favouritism is very unlikely to contribute significantly to them. The focus should be on local initiative and autonomy, relying on internal policies and the long horizons necessary to build up local facilities (including housing), local resources and local skilled labour markets, not on tinkering with national trade policy just because that is the area that has been most disrupted by the government’s signature policy objective.
17. Many of the ideas floated in the Government’s consultation on freeports are valuable and worthwhile – and many of the ideas will be useful for Wales, especially if tailored to Wales’ needs. However, the trade policy elements are basically irrelevant and will serve only to discredit the idea of helping the ‘left behind’ as they fail to have desirable, or even detectable, effects on UK international trade.

References

Cheshire, Paul et al (2012) ‘Links Between Planning and Economic Performance: Evidence Note For LSE Growth Commission’, http://www.lse.ac.uk/researchAndExpertise/units/growthCommission/documents/pdf/contributions/lseGC_SERC_planning.pdf

Gasiorek, Michael, Julia Magntorn Garrett, Nicolo Tamberi, L. Alan Winters (2020) ‘Recommendations on the UK Government’s Global Tariff proposals’, UKTPO Briefing Paper 39, https://blogs.sussex.ac.uk/uktpo/publications/recommendations-on-the-uk-governments-global-tariff-proposals/ 

Lee, Neil (2017) Powerhouse of cards? Understanding the “Northern Powerhouse”. Regional Studies, 51 (3). pp. 478-489. ISSN 0034-3404 DOI: 10.1080/00343404.2016.1196289

LSE (2013) Investing for Prosperity: A Manifesto for Growth, Report of the LSE Growth Commission http://www.lse.ac.uk/researchAndExpertise/units/growthCommission/documents/pdf/LSEGC-Report.pdf

Magntorn Garrett, Julia and L Alan Winters (2020) ‘The Protocol on Ireland/Northern Ireland: The implications for Wales’ external trade’, https://blogs.sussex.ac.uk/uktpo/publications/the-protocol-on-ireland-northern-ireland-the-implications-for-wales-external-trade/

Serwicka, Ilona and Peter Holmes (2019) ‘What is the extra mileage in the reintroduction of ‘free zones’ in the UK?‘, UKTPO Briefing Paper 28, https://blogs.sussex.ac.uk/uktpo/publications/what-is-the-extra-mileage-in-the-reintroduction-of-free-zones-in-the-uk/

UKTPO (2020)  ‘Free ports fact-checked’ on https://blogs.sussex.ac.uk/uktpo/animations/

April 2020