After a 3 hour meeting over dinner, the conversation turned, as it always does, to the Brexit. We just can’t stop talking about this – and for good reason. So where are we really in all of this? What does it really mean, and what can we at least expect as the clock tics and we approach the witching hour?
The debate surrounding Brexit has already had a significant effect on the pound and is no doubt a major contributor to sterling’s losses in recent months. Compared to its value at the end of 2015, the pound has lost over 10% against the euro. Having traded at over 1.4200 interbank (IB) in December, we now find rates sitting around 1.2700 IB.
British politics after Brexit
- If the U.K votes to leave the E.U, it is highly likely that Michael Gove (the justice minister) or Boris Johnson will replace David Cameron as Prime Minister, with other senior government posts being allotted to Brexit supporters. Populist policies, such as a promise to spend some of the money that currently goes on E.U membership fees on the National Health Service, will probably dominate in the initial months. Scotland may demand another referendum on independence, if voters there had opted for Remain in the E.U vote by a significant margin as seems likely.
- We can then expect the new U.K government to frustrate the will of mainstream Brexit supporters over immigration. The Leave’s campaign has focused on this issue in recent weeks, perhaps having realised that it was losing the economic argument for Brexit. Several newspapers have, for weeks, carried daily headlines about the threat of immigrants to Britain’s way of life. In recent weeks, they have reported as fact that Turkey is poised to join the E.U in 2020 and that Britain can expect a new and substantial wave of Turkish immigration.
- But the popular press ignores a curious (and welcome) inconsistency within the Leave campaign over the issue. The campaign’s most popular leader, former mayor of London Boris Johnson, has described himself as ‘passionately pro-immigration’ and for many months now the Leave campaign has been led by a group of what could be called free-trade, open-door, almost Libertarian group of ‘Thatcherite’ politicians. And yet the vast majority of the Brexit supporters are attracted more to an opposite type of Britain. Echoing what Trump wants to see in the U.S, these supporters of Brexit want an end to mass immigration and globalisation, and look to return Britain to some idealised time in the past. This contradiction has been papered over up until now, post-Brexit it will become a problem.
- Last week the Leave campaign unveiled six new laws that it would look to pass through Parliament following Brexit. The two key laws will be the ending of the automatic right of E.U citizens to enter the U.K and the introduction of a skills-based points system for those wishing to work in the U.K from around the world. A European Communities Act 1972 (Repeal) Bill will be implemented, with only those part of E.U law being transferred into domestic law that Parliament wishes to keep. Oddly, no mention was made of invoking Article 52 of the current E.U Treaty which will kick-start a two year period of negotiating a formal exit from the E.U, under Article 52. Some E.U officials worry that the U.K may seek a fudged Brexit, continuing to have access to the single market, while building domestic laws that run counter to those of the E.U.
British economy after Brexit
As business investment and consumer spending is put on hold due to the uncertainty over the E.U divorce talks, growth is likely to stall. It’s true that a weaker pound will help exporters, and FTSE 100 companies may see their share prices rally. But small and mid-cap companies, dependent on domestic demand, will face rising import bills for their raw materials and weakening demand for their goods and services. The vast majority of private sector employment is based in the domestic-orientated economy, so unemployment is likely to rise. Holiday makers will find a week in the sun is more expensive. Government finances will weaken as income and corporate tax receipts fall along with VAT and other sources of revenue.
On Friday the IMF added to the warnings from other academic and governmental bodies on the risk of Brexit, warning that Brexit cold result in the U.K economy being between 1.4% and 5.6% smaller than it would otherwise be, by 2019. Depressingly, Michael Gove has advised voters not to listen to experts. The gilt market has seen new record low yields recently, with the 10 yr ending on Friday at 1.27%. ‘Proof of international confidence in an independent U.K’ said a Leave spokesman. But surely it is proof that investors expect recessionary conditions should Brexit occur? And if investors have such confidence, why then have sterling and mid and small cap stocks been falling?
Both the ‘Leave’ and ‘Remain’ camps are becoming increasingly vocal in their attempts to win over voters. One thing both camps without a doubt have in common is that they are adding to sterling volatility in the run up to the 23rd June.
The Bank of England joined a swathe of individuals and entities including, the Prime Minister, Chancellor, US President Obama, and IMF in warning of a ‘sharp’ sterling fall if Britain is to leave the EU. Last month the BoE members cut their growth forecast and warned that a significant fall in the pound is expected if we are to leave and that unemployment would likely rise. Similarly, the National Institute of Economic and Social Research (NIESR) warned that sterling could lose up to 20% of its value if we were to leave the EU. The NIESR joins Goldman Sachs and Citibank, who also predict similar losses.
On the other side of the fence, you have Boris Johnson and others who have labelled the Remain campaign as ‘Project Fear’ and have provided their argument as to why Britain would thrive outside of the EU. They question the process why EU funded organizations such as the IMF and high profile figures such as Barack Obama have weighed into the debate, suggesting that David Cameron has cashed in more than a few favours. Boris Johnson has described the contest as “David versus Goliath” with the Remain campaign having the “full power of the establishment behind it” but he insisted that the Leave campaign would win as they have right on their side.
“The truth is that nobody really knows what will happen, and there are countless opinions and counter arguments as to what will happen to the pound in the run-up to the referendum.”
If we are to believe Project Fear, then leaving the EU could result in another 10-15% fall or more in the value of the pound, which would bring GBP/EUR close to the historic lows seen back in 2008. If we do remain, however, which looks the marginally more likely scenario, then rates are expected to rise. But by how much?
Amongst all the chatter, noise and constant flurry of news surrounding a ‘potential’ Brexit, it is important to reflect on what the vote could mean for you.
Tracey Brady – SpectrumBlogger
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