This month saw the introduction of the Government’s controversial United Kingdom Internal Market Bill (the Bill). The Bill sets out a new legal framework for intra-UK trade following the end of the transition period. The Government has also issued a press release (the Press Release) setting out its plans for a new UK approach to subsidy control to replace EU State aid laws from 1 January 2021. In this blog post, we consider what these developments mean for the future of UK subsidy control; and we highlight some key unanswered questions. We also consider how, were it adopted into EU law, the EU’s proposed White Paper on levelling the playing field as regards foreign subsidies could affect UK businesses and trade between the UK and the EU.
The Government’s current position on subsidy control post-Brexit
The Government’s plans for subsidy control post-Brexit
The Press Release confirms that following the end of the Brexit transition period, the Government intends to introduce a UK-wide subsidy control regime designed to ensure that subsidies do not unduly distort competition within the UK’s internal market.
While the Press Release does not provide any real detail on what the new regime might look like, it does confirm that the UK will:
- at a minimum, follow the World Trade Organisation (WTO) subsidy rules; and
- adhere to any international obligations on subsidies it agrees to under future free trade agreements (FTAs).
In line with previous statements made to the media, the Press Release signals the Boris Johnson Government’s intent to move away from the Theresa May Government’s proposal to mirror and dynamically align UK rules with EU State aid law as far as practical in favour of a less stringent subsidy control regime. We explain below some of the differences between the WTO regime and the existing EU State aid regime, which are fundamental.
In terms of next steps, the Press Release explains that, before the end of the year, the Government intends to:
- publish guidance for public authorities explaining WTO rules, as well as any commitments agreed to by the UK under FTAs;
- introduce legislation removing what it calls “redundant” EU State aid rules from the UK statute book at the end of the transition period; and
- consult on the new intra-UK subsidy control regime in 2021 (which may go beyond the ambit of WTO controls)
The Internal Market Bill
The Bill (discussed here) is relevant to the future of UK subsidy control and, specifically, subsidies affecting trade between the EU and Northern Ireland.
As has been well documented, one of the most controversial aspects of the Bill (at least as originally proposed) is the Government’s proposal to empower Ministers unilaterally to re-interpret, disapply or modify parts of the Northern Ireland Protocol of the Withdrawal Agreement (the NI Protocol)), even if to do so would be incompatible or inconsistent with Ministers’ legal obligations under international and domestic laws.
Article 10 of the NI Protocol provides that the EU rules on State aid shall apply to “measures which affect that trade between the EU and Northern Ireland” which is the subject of the NI Protocol. This provision meant that EU State aid law could apply to certain subsidies granted by the UK Government to businesses in Northern Ireland and, possibly the rest of the UK. It was seen as a necessary corollary to ensuring the free movement of goods between Ireland and Northern Ireland; and the avoidance of a hard border on the island of Ireland. This would have meant that the current requirements for notification of subsidies captured by the current State aid rules, and European Commission (Commission) (and Court) scrutiny, would remain intact – where those subsidies fell within the terms of the NI protocol.
Under Clause 43 of the Bill, the Secretary of State may make provision about the interpretation of Article 10 or disapply or modify the effect of Article 10. Clause 45(1) of the Bill goes on to say that Clause 43 (amongst others) shall “have effect notwithstanding any relevant international or domestic law with which they may be incompatible or inconsistent”.
In response to concerns voiced by backbench Conservative MPs, the Government subsequently tabled an amendment that would delay the commencement of the offending clauses until they had been approved by the House of Commons and referred to in a motion tabled in the House of Lords. The Government also published a statement setting out the circumstances in which it envisages using Clauses (42), 43 and 45 of the Bill and confirmed that in parallel with the use of these provisions it would always activate the appropriate formal dispute settlement mechanisms under the Withdrawal Agreement with the aim of finding a solution through this route.
The practical effect of these provisions, if enacted in the manner now envisaged by the Government, would be that the NI Protocol will continue to apply to aid affecting trade between Northern Ireland and the EU unless and until the above clauses are approved by Parliament. In effect, this would mean that different tests would apply in relation to the approval of subsidies granted by the UK Government depending on whether or not they affect trade between Northern Ireland and the EU.
If clauses 42, 43 and 45 are approved by Parliament, the practical implications would of course depend on the extent to which the Secretary of State (with the consent of Parliament) chose to reinterpret Article 10 (or disapply it altogether).
What the announcement and Internal Market Bill tell us
The Press Release makes clear that the UK Government intends to implement an independent subsidy control regime following the transition period and, in the absence of a deal with the EU, the WTO subsidy rules will apply to UK-EU trade relations (save, potentially, for aid affecting trade between Northern Ireland and the EU).
The Government’s current commitment to WTO subsidy rules mean that the Agreement on Subsidies and Countervailing Measures (ASCM) which governs the use of subsidies by WTO member states will be the benchmark for subsidy control in relation to trade between the UK and the EU (absent an EU:UK FTA containing further obligations on subsidies and subject also to the passage of the Bill (as amended)). The ASCM which forms the basis of anti-subsidy provisions of many FTAs, including the EU-Canada Comprehensive and Economic Trade Agreement and the EU-Japan FTA, provides for two categories of subsidies, namely:
- Prohibited subsidies: these are subsidies that require recipients to meet certain export targets, or to use domestic goods instead of imported goods. These subsidies are designed specifically to distort international trade and therefore prohibited, and
- Actionable subsidies: these are permissible, subject to challenge by another country if the subsidies in question harm the interests of the challenging country. Any country seeking to challenge such subsidies is required to conduct a detailed investigation and show evidence that its domestic industry is harmed as a result of those subsidies.
To the extent that there are no challenges to the subsidies, the WTO subsidy rules give the UK more flexibility to provide subsidies without necessarily having a general economic development justification and without the need to obtain prior approval. In contrast, EU law prohibits State aid measures in the absence of such economic justification; and, absent particular exemptions, Member States must notify and obtain approval from the European Commission before implementing aid measures.
In the event another country challenges a UK subsidy, the Government will have sole responsibility for handling the response. Similarly, if subsidies granted by another country are harmful to UK interests, the Government will be responsible for making complaints to the WTO.
While EU State aid rules provide a claw-back mechanism for removing the anti-competitive effects of illegal aid granted to beneficiaries, the WTO rules do not provide an equivalent remedy. The actions which can be taken by WTO member states to counter the effects of subsidies granted by other WTO member states are set out in the ASCM. One such action is charging a so-called “countervailing duty” on subsidised imports that are found to hurt a member state’s domestic producers. Imposing such a duty could lead to a ‘trade war’ if the exporting country retaliates by imposing tariffs, ultimately resulting in consumers paying higher prices. In theory, WTO members also have the option of using the WTO’s dispute settlement procedure to seek the withdrawal of the subsidy or the removal of its adverse effects. However, this procedure requires a functioning appeal body to review appeals from first instance rulings. Yet the future of appeals is uncertain given that the WTO’s Appellate Body is currently inquorate (with one member instead of the minimum quorum of three) due to the United States’ continued blockage of proposals to fill the vacancies.
The application of the WTO subsidy rules would also mean that UK subsidy control is limited to trade in goods only. As such, trade in services (as well as capital movements) which is a significant proportion of UK exports to the EU (c. 43% of UK exports to the EU) would not be subject to a UK subsidy control regime. This would be a material limitation in the application of the subsidy control regime in comparison to the EU State aid rules which apply more broadly to economic activities including goods and services.
That said, the Government has stated that it will comply with international obligations on subsidies that it assumes under future FTAs. Anti-subsidy provisions agreed between parties to FTAs are typically stricter than the provisions in the ASCM. Indeed, the Government is reported to have agreed in principle to tougher restrictions on subsidies in the bilateral UK-Japan FTA including “transparency about subsidies awarded and consultations over any concerns about those subsidies which may affect the other party” as well as “commitments not to provide open-ended government support to companies”.
What the announcement and Internal Market Bill do not tell us
A number of fundamental questions regarding the future of UK subsidy control remain unanswered.
As things stand, the EU (Withdrawal) Act 2018 (as amended by the EU (Withdrawal Agreement) Act 2020) will convert EU State aid law into UK law as so-called “retained EU law” on 1 January 2021. Without further legislation, the retained EU law on State aid would contain a number of deficiencies that would preclude it from operating effectively in the UK domestic setting, for example: which body should replace the Commission as the body responsible for monitoring and enforcing the UK State aid rules, how aid givers should fulfil their obligations to notify aid to the responsible body and what process should be followed for applicants appealing against decisions of the responsible body. A number of cosmetic amendments would also need to be made to the retained EU law, such as updating references to the EU’s internal market.
The May Government sought to address these deficiencies through the State aid (EU) Exit Regulations 2019. If passed, the Regulations would have appointed the Competition and Markets Authority (CMA) as the body responsible for monitoring and enforcing the UK State aid rules and corrected the above deficiencies. As the draft Explanatory Memorandum to the Regulations made clear, the policy intention was to mirror the EU State aid law as far as is practical.
However, the draft Regulations were not passed and, as the Press Release suggests, the ‘new’ Johnson Government appears to favour a far less stringent subsidy control regime. The following procedural points therefore remain unresolved and will need to be addressed by legislation:
- whether the CMA or another body will be responsible for monitoring and enforcing subsidy control;
- whether actionable subsidies will need to be notified to, and approved by, the responsible body in advance;
- the process for appealing decisions made by the responsible body.
In addition, the following substantive points still need to be addressed:
- whether the removal of “redundant” EU State aid rules referred to in the Press Release will involve the wholesale removal of the retained EU law, or involve only cosmetic changes, or something in between; and, related to this
- the criteria the responsible body will have regard to when considering whether actionable subsidies should be approved.
Until these points are resolved, recipients of state subsidies would have no benchmark against which to assess whether they could be at risk of being required to re-pay the subsidies at some future date. This in turn could chill applications for state subsidies, precisely at a time when – given COVID-19’s effects on the UK economy – businesses need it most (and presumably the opposite of what the Government wants given that it is proposing a less stringent subsidy control regime).
These substantive points are unlikely to be determined until there is more clarity on the UK’s future trading relationship with the EU (assuming a deal is reached) and until the Government has consulted on whether it should go further than its international commitments. Clearly, however, time is fast running out for an operational regime to be put in place for 1 January 2021.
As referred to above, subject to the passage of the Bill (as amended) through the Houses of Commons and Lords, the NI Protocol will at least initially continue to apply in full in relation to aid affecting trade between Northern Ireland and the EU. However, the threat of the enactment of clauses 42, 43 and 45 of the Bill and the practical implications of this (discussed above) remains.
Review of UK subsidies under the EU’s proposed White Paper on levelling the playing field as regards foreign subsidies (the White Paper)
While the future of any UK subsidy regime remains unclear, the European Commission’s newly introduced White Paper on foreign subsidies granted by non-EU governments will allow it to scrutinise any UK subsidies that potentially distort competition in the EU. That scrutiny would be applied regardless of whether or not a trade deal between the UK and EU is reached.
The exact scope and content of any EU foreign subsidies regulation is yet to be defined. The Commission is currently seeking views on the White Paper as part of a public consultation. However, Deputy Director General of DG Competition Carles Esteva Mosso has publicly confirmed that this is a top priority for the Commission in 2021. The Commission aims to table a final legal instrument next year.
If adopted as proposed, the new tool will apply to all sectors (including goods and services). It builds on three pillars, each addressing distortive effects caused by foreign subsidies in the Single Market:
- Module 1: includes a general instrument capturing distortive effects of foreign subsidies and proposes a preliminary and in-depth investigation procedure with the possibility to impose redressive measures (i.e. payments and/or structural and behavioural remedies) if a measure – on balance – is found to distort the market;
- Module 2: includes an ex-ante mandatory notification instrument capturing foreign subsidies facilitating the acquisition of an EU target (i.e. a company established in the EU). It also proposes a two-step (preliminary and in-depth) review procedure with possibilities to impose redressive measures and, possibly, the prohibition of an acquisition if a measure – on balance – is found to distort the market; and
- Module 3: includes a compulsory notification mechanism capturing foreign subsidies for bidders in EU public procurement procedures with similar procedural mechanisms as set out for Modules 1 and 2.
The Commission stresses that the White Paper aims at closing a regulatory ‘gap’ on foreign subsidies that has become more visible over recent years: while EU State aid rules ensure that public support granted by EU member states does not lead to competitive distortions in the Single Market, there is no EU instrument sufficiently addressing similar distortions caused by foreign subsidies. The Commission’s proposal is presumably triggered by the comparatively limited openness of domestic markets of certain so-called third countries (in particular, China). Yet the new instrument does not discriminate and would equally apply to subsidies granted by the UK (as any other third country) once adopted.
We see three key implications for businesses in the UK and trade with the EU:
- Broad definition of foreign subsidy likely to lead to various ways of EU scrutiny over UK public spending that affects trade with the EU: the proposed definition of a foreign subsidy is very broad, unspecific and, in parts, goes beyond what is presumed as State aid under EU rules. For example, the White Paper explicitly lists preferential tax treatments and financial incentives as one form of a foreign subsidy. This may catch unproblematic cases too. Therefore, prior to trading with EU counterparts UK businesses are likely to seek up front legal certainty about any UK government subsidy support underpinning the proposed commerce;
- Increased administrative burden and timing implications for M&A transactions potentially involving UK funding: the gathering of required information, the preparation of notification forms and the Module 2 review procedure will add to deal timetables for all transactions that involve UK public funding (where the target is an EU undertaking); and
- Close scrutiny of UK bidders in EU public procurement procedures: EU-wide tenders in which UK bidders aim to participate and which involve some sort of UK government backing will be closely scrutinised and any subsidies involved will need to be disclosed to the contracting agency.
Conclusion
A number of fundamental questions regarding the future of subsidy control in the UK need to be resolved. Some of these may end up being determined by the parameters of any future trading relationship with the EU. However, a number of outstanding points can be addressed now, such as which body will be responsible for enforcing the UK’s subsidy control regime.
Subject, also, to the terms of any future trading relationship with the EU, UK businesses stand to be impacted by the EU’s proposed new foreign subsidy regime.
We will continue to keep the UK and EU legislative developments and their practical implications under close review.
