Brexit and State aid – can the WTO fill the gap?

United Kingdom

Brexit raises the question of the future of State aid rules in the UK. This issue has received renewed attention following David Davis’ comments in a recent BBC interview in which he acknowledged that State aid restrictions were likely to be a part of a future EU-UK trade deal. It therefore appears increasingly likely that the weaker WTO rules will not simply fill the gap.

Current rules

The State aid regime applicable in the UK is currently derived from the EU rules on State aid, set out in the Treaty on the Functioning of the European Union. These build on the World Trade Organisation (the WTO) Agreement on Subsidies and Countervailing Measures (ASCM). There is no domestic legislation governing State aid nor are there any UK powers of enforcement. Currently the European Commission is alone responsible for policing and enforcing EU rules on State aid. In spite of the UK’s vote to leave the EU on 23 June 2016, in State aid as in other areas of law it is mostly still business as usual. Indeed the European Commission has recently made inquiries of certain provisions of the UK tax regime regarding multinational corporations, sending a strong signal that it has no intention to stop its enforcement activities because of Brexit. In her Florence speech the Prime Minister hinted that the UK is ready to remain aligned with the EU regime. As the Brexit talks move on to the next phase, the President of the Council is asking for the UK’s ideas on the scope of the trade deal. However, the UK government has repeatedly delayed publishing a paper on State aid, and there is still no broad agreement on the UK’s long-term relationship with the EU. The UK could therefore be left with only the WTO’s rules. The implications of these are explored in further detail below.

The EU and the WTO: the key differences

The EU has developed a complex and sophisticated State aid regime with distinctive features which make it unique worldwide. The basic principle is that State aid is prohibited unless it is individually notified and approved by the European Commission (Commission) or falls within the scope of an existing exemption. The scope of EU State aid is broad: any aid granted by a Member State or through State resources, in any form whatsoever, which confers an advantage on a selective basis on the recipient, threatens to distort or distorts competition and is likely to affect trade between Member States is State aid prima facie incompatible with the single market. The potentially wide application of these rules has recently – and controversially – been illustrated with the Commission’s decisions regarding Member States’ tax rulings in respect of international corporations such as Fiat, Starbucks and Apple. The EU State aid rules provide for both ex post control and, unusually, also ex ante control in the form of prior notification to the Commission. The Commission will consider whether to approve State aid by carrying out an assessment of whether the aid is consistent with one of the policy objectives of the single market and whether the distortive effects are proportionate to that aim. Finally, the Commission has extensive investigative and enforcement powers – it can act of its own motion or on the basis of any third party complaint – and can order the recovery of illegal State aid, with interest, for a period of up to 10 years following the award.

The WTO regime by contrast is much more limited. At first sight, the definition of what constitutes a subsidy appears relatively similar to that under EU State aid rules. A subsidy is a financial contribution, income or price support by a government or public body which confers a benefit, and a financial contribution can include foregone revenue, loans and guarantees. The ASCM only applies to subsidies which are specific, i.e. which are available to an enterprise, industry, group of enterprises or industries in the countries – which is reminiscent of selectivity under EU State aid rules. Nonetheless the scope of the WTO rules is narrower. There are only two categories of prohibited subsidies under the ASCM: export subsidies and import-substitution subsidies, i.e. which favour the use of domestic goods over imported. Other subsidies can only be addressed if they are specific and cause adverse effects on the interests of another WTO member: the complainant country has to demonstrate the adverse effects on its interests, otherwise the subsidy is permitted. Subsidies which are generally available in the economy according to objective criteria are not considered specific and therefore not actionable under the ASCM. Further, these WTO rules only apply to trade in goods and not trade in services.

The other key differences between EU State aid and the ASCM relate to enforcement. The WTO rules only allow for the ex post control of subsidies: a subsidy can only be challenged after it has been awarded.  This can be in the form of recourse to the WTO dispute mechanism, which like other WTO rules can only be done by a WTO member and the enforcement of WTO rulings is to an extent reliant on the political will of the relevant WTO members. Alternatively, a WTO member suffering the adverse effects of a subsidy in another WTO member state can launch its own investigation and impose countervailing measures on the imported goods which are found to be harming domestic producers, typically in the form of import duties. There is no recovery of illegal subsidies under the ASCM: the remedies are prospective only. A WTO member can seek the withdrawal of the subsidy or removal of its adverse effects under the WTO dispute settlement procedure or it can remedy the effects itself by imposing countervailing duties (only after it has investigated the measure).

Can the UK ignore State aid following Brexit?

Whether the UK can ignore EU State aid rules will ultimately depend on the model of EU membership and/or trade deal adopted following Brexit. From a strict legal perspective if the UK is no longer bound by the EU treaties, it would in principle be freer to subsidise UK industries. That said, the context in which the UK will have to operate post-Brexit will ultimately determine the level of its freedom to take such measures. Aside from the WTO rules highlighted above – which although looser would still impose some limits on its ability to subsidise UK companies – the UK will be reliant on trade with others, including the EU. The EU has in practice included provisions controlling subsidies, and building on the WTO rules, in its free trade (or other) agreements with other countries, including with South Korea, Switzerland and Canada. As acknowledged by David Davis, it may well require such rules in its relations with the UK. Further, the UK would have to weigh carefully the costs and/or potential retaliatory measures from other countries it trades with if they were to suffer from such subsidies in the UK. In practice therefore it may not be wide open to the UK to subsidise UK companies following Brexit.

A continuation of the status quo?

Historically the UK has granted relatively little State aid compared with other Member States and has generally had a good record of complying with EU State aid rules. For instance according to the 2016 State aid scoreboard published by the Commission, UK State aid expenditure was 0.35% of GDP, compared to an EU average of 0.67% of GDP. HM Government’s Review of the Balance of Competences on Competition and Consumer Policy published in the summer of 2014 ranked the UK 26th out of 27 (at the time) Member States giving State aid, and found that stakeholders generally agreed that the regime had been helpful to the UK as an instrument of economic policy in terms of “tackling more industrially active Member States”. Although there has been recent impetus for a UK industrial policy, a marked changed from this historical position seems unlikely. In fact, in light of it, it may even be in the UK’s interests to ensure provisions controlling the grant of subsidies are included in any free trade agreement it enters into and that such subsidies are effectively controlled and enforced, so that it (and industries) can compete on an equal footing with other trading nations.

Further, the UK has generally been an advocate against the harsh treatment of third countries which the EU trades with, in terms of conditions imposed for trading and/or where protectionist measures are concerned. With the UK out of the EU, this position may change and the UK may be at the receiving end of a less tolerant EU bloc.

What rules a post-Brexit UK applies in terms of State aid will ultimately be politically driven and depend on the UK’s relations with the EU and/or other countries. Although these could be a looser form of control than what is currently applicable in the EU – and could be a set of rules policed and enforced by the UK Government – it is unlikely that State aid will completely disappear following the UK’s exit from the EU. It may even be in the UK’s interest to ensure that its trading counterparties are subject to some level of control in the subsidies they grant to ensure the UK can compete on a level playing field post Brexit.