Barriers to trade are significant, so firms only prioritise export markets if they are profitable. Over and above the tariff, regulatory and cultural barriers to trade that exist, geographic barriers to trade are important and increase with distance. This means that exporting gets harder the further away the target market is.
Why? Anyone who has ever had a long distance relationship will tell you that time and distance matter. While the monetary cost of telephony may have fallen sharply, the realities of having to coordinate timing across time zones still act a significant barrier to effective communication.
Furthermore, geographic barriers are not just about communication. They also play an important role in delivery times. On average it takes 20 days for a cargo ship to reach the US from a European port and 30 days to reach Japan.[i]
Distance therefore plays a key role in firms’ abilities to deliver their products in the sort of timescales that allow them to be competitive. Imagine wanting to order something on a website and being told there will be a significant delay before it is delivered – a product either has to be really cheap or really unique, or the temptation is to look elsewhere.
This is what occurs in practice. Estimates suggest that the impact on demand for each day a good spends in transit is equivalent to applying a value added tax of between 0.6 to 2.1 percent. In other words, the longer your good spends in transit, the less competitive it is at its destination. Furthermore, the most time-sensitive trade flows are those involving the parts and components trade, meaning connectivity plays a particularly important role in global supply chains.[ii]
Of course, goods do not have to travel by sea. Air freight is an alternative, albeit a more expensive one.
Around 40% of UK goods trade by value travels by air – with roughly 70% travelling as belly hold on passenger services. However, in total over 75% of UK air freight by volume goes via a London airport, with Heathrow handling around 75% of London air freight – and Heathrow is already at full capacity, with Gatwick expected to reach full capacity by 2020. The result is that competition for landing slots is acting to limit the number of (particularly long haul) destinations served by London airports. Heathrow, for example, has been dropping routes and serves fewer destinations than Amsterdam, Frankfurt or Paris CDG, including fewer destinations in key markets such as China. Until a decision is made to expand airport capacity in London, this will only get worse.[iii]
All in all while post-BREXIT trade deals with countries outside Europe may help reduce tariff and possibly even regulatory barriers to trade, they will do nothing to change the realities of geography. While only around 11% of UK firms export (varying from almost 40% in manufacturing to under 9% in services), over 80% of these exporters do business with Europe.[iv] All else being equal, geography will always make the EU the UK’s natural trade partner.
[i] See Hummels, D, and Schaur, G (2013) “Time as a trade barrier”, American Economic Review, Vol 103(7), 2935-59.
[ii] See Hummels, D, and Schaur, G (2013) “Time as a trade barrier”, American Economic Review, Vol 103(7), 2935-59.
[iii] See Driver (2015) “Time to act - The economic consequences of failing to expand airport capacity”, Independent Transport Commission, http://www.theitc.org.uk/wp-content/uploads/2015/06/ITC-Economics-airport-inaction-Dr-R-Driver-June-2015.pdf.
[iv] See Driver (2014) “Analysing the case for EU membership: how does the economic evidence stack up?”, TheCityUK, https://www.thecityuk.com/research/analysing-the-case-for-eu-membership-does-the-economic-evidence-stack-up/, and Harris, R, and Li, QC (2007) “Firm Level Empirical Study of the Contribution of Exporting to UK Productivity Growth”, UKTI.