Brexit and aviation - Curt Lewis

Brexit and aviation Part 1: Open Pandora's box and anything can happen. But status quo is likely

The 23-Jun-2016 UK vote in favour of British exit from the EU came as an enormous shock to observers, despite strong warnings from pollsters. The first implication is for an unwelcome period of uncertainty. But, as with any major shock of this sort, the immediate warnings of disaster and market collapse normally dissipate as thinking adjusts. Having passed the political silliness of leaving such a major and complex decision effectively to chance, the bureaucrats will now begin to pick up the pieces and work around the complexities.

There are numerous potential implications for the aviation sector - the most serious being that the withdrawal of the UK from EU decision making will allow the protectionist forces in Germany and France to become more influential in formulating EU policy directions. Otherwise, many of the potentials can probably be worked around, over time. Meanwhile, uncertainty remains the order of the day, while the lengthy unravelling occurs.

For consumers, the single aviation market and the US-EU Multilateral open skies agreement are the most immediate issues. For European services, the likely outcome is for the UK to negotiate single market access, as Norway and others have, through the ECAA, despite not being EU members. This would broadly maintain the status quo from a consumer perspective and the UK's airlines would retain full market access. Ironically though, they would have to comply with associated EU regulations, despite having no say in their formulation - the opposite of Brexit's supposed objective in giving the UK greater independence. And the North Atlantic agreement has become so important, for liberals and protectionists alike, that a UK disappearance is most unlikely.


It is highly unlikely that the UK will be excluded from the single aviation market
The UK referendum vote to exit the European Union is technically not legally binding on the UK government, nor on the EU, but politically the UK would have to perform contortions to override the popular decision. (Although unlikely, that is not entirely improbable, given the shock the vote has caused and the possible change of leadership of both major parties.)

this mutual need points to rational outcomes - if not quite the status quo - with the UK outside the Union
Despite some knee-jerk reactions on the EU side, Britain's continued participation in Europe has enormous mutual benefits, too great for other EU countries to forgo. Again, this mutual need points to rational outcomes - if not quite the status quo - with the UK outside the Union. Nowhere is this more in consumers' interests than in aviation.

To trigger withdrawal, the UK government must give notice under Article 50 of the Lisbon Treaty (* see foot of this report). If the Article is invoked, the UK will begin a process to leave the EU. This can take up to two years and even more.

Once it exits, the UK will no longer automatically qualify for membership in the EU single aviation market, which has for example allowed easyJet, registered in the UK, to fly largely without restriction from the UK to other member states, wholly between other markets (France-Germany) and wholly within some countries (domestic Italy). In the meantime there will be instability and uncertainty. A worst case scenario would be the UK losing single market access.

However, as noted in CAPA's earlier report cited above, the ECAA (European Common Aviation Area): "offers a route for UK airlines to access the single aviation market, post-Brexit. The ECAA extends the liberalised aviation market beyond the EU member states to include Norway, Iceland, Albania, Bosnia and Herzegovina, Croatia, the former Yugoslav Republic of Macedonia, Montenegro, Serbia and Kosovo. The ECAA covers 36 countries and 500 million people. Norway and Iceland (and Liechtenstein) are also part of the European Economic Area, which extends the EU's wider single market to these non-EU countries."

If the UK were to leave the EU, its airlines would no longer enjoy automatic access to this market, although the UK might be expected to negotiate continued access in this way. Another, less likely model is the Swiss-EU bilateral agreement on air transport, which came into effect in 2002.

The dynamics of the industry and the interrelationship of Europe's markets make it attractive, if not essential, for all participants to want to ensure an uneventful transition. There are clear avenues for achieving this and no obvious candidates who would seek to gain from destabilising the existing framework.

UK-based easyJet's short statement issued immediately after the referendum urged the government to maintain single market access as a priority. Even the uncertainty is an important drag on commercial activity (as demonstrated by a profit warning from IAG the day after the result of the vote and a subsequent profit warning from easyJet on 27-Jun-2016).

In some ways similar are considerations related to the Big 3 European airlines' cross-border groupings, Air France-KLM, Lufthansa and IAG. Each relies on acceptance by other members of the EU. While IAG may appear more at risk in this respect if the UK exits, the reality is that they are all joined at the hip; each needs to be recognised by the others. If the other countries do not accept the very European nature of the agreements/mergers, their airlines will not be able to operate freely in those other markets.

But, despite that, it does raise another area for horse-trading that will add to prolonged uncertainty in the market. And once the horse-trading begins, there can be no certainty that other areas of trade and politics will not pollute any logic that applies in the aviation sector alone.

The US-EU Open Skies agreement comes into play; an egg that will be hard to unscramble
As noted in the introduction to this report, the North Atlantic open skies agreement has become so entrenched in the operations of European and North American airlines that it is almost inconceivable that anyone (except perhaps some pilot unions with particular agendas) could wish to see it unravel.

Technically the agreement is still being applied provisionally, so that withdrawal of any party can allow the pre-existing bilateral agreement to apply - in this case the so-called Bermuda 2 Agreement of 1976 between the US and the UK. But, as the US negotiator (now independent of the US government) responsible for the EU-US talks, John Byerly says, "it is impossible for me to believe that this is really what would happen in the real world".

The various parties' interests have become so entwined that there would at least be more losers than winners if the status quo were to be disrupted. There is little prospect that any party would wish to rock the boat while the Brexit process is being followed, a potentially lengthy period. The anti-trust immunised JVs of the major alliance partners are dependent, from a US perspective, on continued open skies.

Theoretically the UK could be extricated from that, but London Heathrow is the prime premium market, will always be an important gateway to Europe, and there would be considerable pain for any airlines unable to use the open skies umbrella for their alliance strategies.

Delta Air Lines in particular has a bilateral stake with its 49% ownership of Virgin Atlantic, possible only thanks to the existing open regime. This level of ownership could be at risk if a more restrictive regime applied.

But risks there are - and uncertainty, for months to come
There can be no guarantee of restoration of the status quo once the fragile buds of liberalisation are disturbed
In each of these cases maintaining equilibrium involves risks. There can be no guarantee of restoration of the status quo once the fragile buds of liberalisation are disturbed.

Typically, opening of markets is not an intuitive activity, but is only achieved by meticulous and time consuming negotiation, where partners are willing to forgo the (apparent) safety of the status quo for a leap of faith to a better system.

Yet that is the only way markets and society can adapt and improve. Today, all of these liberal ideals are under attack. The motives may be misguided, and almost invariably are, but they can contain powerful and destructive forces, as Brexit and recent US political events illustrate so clearly.

Once the careful process unravels, the outliers can become revitalised. Vested interests re-emerge, and they are many and varied; legal challenges on esoteric points can be revived (eg the US and other pilot associations against Norwegian's US-Ireland services); extensive delays can create uncertainty which undermine innovation and investment. Protectionism is a highly infectious disease.

Another area of concern is the future direction of EU aviation policy
Without the UK's generally more liberal influence, conservative voices may prevail in the EU. The EU recently published an Aviation Strategy that contained a host of compromise wording. As CAPA observed at the time, "all six associations representing Europe's aircraft operators issued a joint response calling for more specific and far-reaching remedies. In a rare display of unity, AEA, EBAA, EEA, ELFAA, ERA and IACA said that that the strategy 'lacks ambition'. It certainly seems to duck some key issues."

As CAPA also noted, "parts of the document appear to be aimed at, or at least inspired by, fighting competition from the Gulf-based super connectors. "For the EU aviation industry to remain competitive, it is essential that market access is based on a regulatory framework which promotes EU values and standards, enables reciprocal opportunities, and prevents distortion of competition".

The Strategy avoided fully confronting the Gulf airline issue, merely saying blandly that it will "negotiate effective fair competition provisions in the context of the negotiation of EU comprehensive air transport agreements and consider measures to address unfair practices from third countries and third country operators".

the Commission suggests that ICAO should play a role
There is already an EU regulation, Regulation 868/2004, that deals with subsidies and unfair pricing, but it is considered to be ineffective and has never been applied. How it will be replaced is not yet clear, but, in addition to the suggestion that terms be included in individual air transport agreements, the Commission suggests that ICAO should play a role, and that it may propose new EU measures in 2016. It seems that the Commission was reluctant to take sides on the debate over unfair competition with Gulf airlines.

But with the UK's more liberal presence no longer there to influence thinking, that reluctance may evaporate and the forthcoming parallel negotiations with the Middle East/GCC airlines could take on a much more conservative flavour. Moreover, there is a threat - again not one to be taken lightly - that the UK could become segregated from the existing and in-negotiation parallel agreements. In that case, the UK would be obliged to fall back on country by country bilateral negotiations to restore its access positions.

EU-wide air transport agreements Dec-2015

Source: European Commission

Please see also: European Parliament on aviation: build a single sky, promote liberalisation - and protectionism

With the triennial ICAO Assembly approaching in Sep-2016, it can be expected that many of these issues will be aired. In particular, the conservative forces will argue strongly for more careful oversight of "unfair competition", "subsidy" and the need for the mythical level playing field. Even the US, on the eve of a Presidential election and with an administration that has equivocated over such issues as Norwegian Air International and the so-called White Paper, may adopt a passive position. In many ways, for aviation, the Brexit timing could not be worse.

Airports have become a much stronger force for liberalisation; with Brexit, their importance grows
It has always been the case that airlines, notably flag carriers, have occupied extremely influential positions in determining aviation policy, nationally and supra-nationally, in the EU.

One force, not new, but definitely much more vocal now in the cause of liberalisation, is Europe's airports. ACI-Europe has become a very coherent advocate of liberalisation and the benefits it can bring, not only to themselves, but to consumers and economies generally.

Unsurprisingly, the organisation was among the first to comment on the UK referendum results, proclaiming "Airports call for EU and UK aviation markets to remain integrated, and that "it will be essential that (a new framework) allows for the UK and EU aviation markets to remain fully integrated and based on totally aligned - if not common - rules. The EU's single and fully liberalised aviation market has delivered tremendous benefits for consumers and businesses across Europe."

See related report: ACI Europe promotes open skies; a resounding precedent for airlines and other airports to follow

And, not without great importance in these and other contexts, security is an underlying driver: "ACI Europe is also urging the UK and the EU to keep a common aviation security agenda - with a focus on reinforcing cooperation on intelligence & data sharing to effectively address terrorism threats."

As uncertainty swirls, the airports of Europe and North America particularly will have an increased role to play in stabilising national policies
As uncertainty swirls, the airports of Europe and North America particularly will have an increased role to play in stabilising national policies and helping preserve an environment which allows growth and innovation.

These are fragile moments in history for liberal policies. Hopefully there will be statesmen from some leading governments prepared to show leadership, rather than the often tepid consensus-driven populism that has led to a crisis in the EU.

Meanwhile, other alternatives are emerging in the new growth markets
The EU single market took a decade and more to negotiate, within what was already becoming a common market. Elsewhere, in markets where this nexus does not exist, there is greater impatience with the shackles of ownership and control limits. New hybrid vehicles for more open operations are emerging on international routes, as times change and the global balance of power shifts towards Asian markets.

One option to preserve trans-border networks for airlines is to replicate the prolific Asian LCC JV networks that allow multiple licenses in individual jurisdictions while maintaining a common brand. This is no easy solution, is not guaranteed and introduces challenges, yet it has proven highly effective in Asia.

(A further CAPA report "Brexit and aviation Part 2: Importance of Asian models and liberalisation moves will be accelerated" will be published tomorrow.)

It would be ironic if the UK, a liberalising force, were forced to follow the lead of the still-less liberalised Asia Pacific market. The single EU aviation market has been a model for others - including ASEAN - to aspire to and build upon in order to further social, cultural and economic benefits by knitting the world closer together through aviation. The benefits have been profound and are an often unrecognised accomplishment of the 20th Century.

Preserving those benefits may not be easy but they are of great importance - and losing them would be a massive step backwards, as another change in an atmosphere of liberalisation globally was wound back.

*Article 50 of the Lisbon Treaty

1. Any Member State may decide to withdraw from the Union in accordance with its own constitutional requirements.

2. A Member State which decides to withdraw shall notify the European Council of its intention. In the light of the guidelines provided by the European Council, the Union shall negotiate and conclude an agreement with that State, setting out the arrangements for its withdrawal, taking account of the framework for its future relationship with the Union. That agreement shall be negotiated in accordance with Article 218(3) of the Treaty on the Functioning of the European Union. It shall be concluded on behalf of the Union by the Council, acting by a qualified majority, after obtaining the consent of the European Parliament.

3. The Treaties shall cease to apply to the State in question from the date of entry into force of the withdrawal agreement or, failing that, two years after the notification referred to in paragraph 2, unless the European Council, in agreement with the Member State concerned, unanimously decides to extend this period.

4. For the purposes of paragraphs 2 and 3, the member of the European Council or of the Council representing the withdrawing Member State shall not participate in the discussions of the European Council or Council or in decisions concerning it.

A qualified majority shall be defined in accordance with Article 238(3)(b) of the Treaty on the Functioning of the European Union.

5. If a State which has withdrawn from the Union asks to rejoin, its request shall be subject to the procedure referred to in Article 49.