Will the Future EU-UK Free Trade Agreement Affect Foreign Direct Investment?

Abstract

This article aims to provide new insight on how Brexit will affect foreign direct investment (FDI) into the UK. By estimating an augmented gravity equation which accounts for the depth of free trade agreements (FTAs) as well as for EU and euro area membership, the article gauges the potential impact that different EU-UK trade scenarios might have on FDI flows and stocks. Results show that under a no-deal scenario, FDI flows from the EU into the UK would plunge by 25.9% – 40.6%, and inward FDI stocks would decrease by 49.2% – 53.9%. However, the depth of the future FTA can mitigate this negative outcome. More generally, the article shows that the FDI costs of leaving the EU would be significantly higher for the euro area countries.