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Britain is out, what's next?

Erica Szczech - Jun 24, 2016
Many of us woke up to the astonishing news that in fact, Britain has decided to leave the EU. In the coming days and weeks, we expect a lot of noise to permeate from the news media surrounding this event. There will be no shortage of speculation on w

Its official, we have Brexit.

 

Many of us woke up to the astonishing news that in fact, Britain has decided to leave the EU. In the coming days and weeks, we expect a lot of noise to permeate from the news media surrounding this event. There will be no shortage of speculation on what will happen to the UK and as well, who might be next. We will try to not add to the noise and typically when events like these occur, we believe the best thing to do is to let the initial dust settle as there will be more volatility in the days and weeks to come.

 

Brexit has already driven heightened uncertainty into financial markets with the Pound having tumbled to 1985 levels and world markets all lower on the news. With policy uncertainty in the UK already at elevated levels (see chart below), this will likely create more questions around global economic growth in Europe and the US. No doubt, there will be global coordination from central banks today and into next week, and the Bank of England has already announced £250bn to support markets, and SNB (Swiss National Bank) has intervened on currency. 

 

 

That said, we remain skeptical about the prospect of monetary policy intervention stimulating growth longer term. The UK is likely to take the brunt of the short term financial fall-out, but longer term economically, we expect Europe may modestly suffer but this will not stop the overall Eurozone recovery.

 

From a political point of view, immigration was the clear rallying point for the UK exit vote, and that will likely encourage extremist parties in other countries to run for presidential election. Political risk is on the rise, and this weekend we’ll see the Spanish general election (Sunday), then the Italian constitutional referendum in November and general elections in France and Germany in 2017. The political landscape of Europe could change significantly over the next year or so and Germany is unlikely to be able to handle the potential polarizing of European politics without the UK as a voice of moderation.

 

While the UK exit vote marks the end of a forty year project of closer European ties to the UK, we think the bigger issue is the increased risk of European political and economic fragmentation, and possibly the beginning of the end for the Euro as we know it today.

So what happens next?

 

June 24th - National declaration of the referendum result. Nothing immediately happens. The referendum only offers Britain a mandate to invoke Article 50 of the Treaty of Lisbon, the piece of EU law to enact an exit from the EU. The Government would still have to decide on when to invoke Article 50.

 

Jun - Dec, 2016: Assume Article 50 is triggered. The clock starts on the exit process. This 2-year period holds unless the European Council unanimously agrees with the UK to extend the negotiation period.

 

Jan 2017 - Dec 2018: Negotiating period. The UK will have to renegotiate ~80,000 pages of EU agreements, deciding upon those to be kept and those to jettison. Key issues for the UK will probably be: Rights of UK Citizens living in the EU, British representation in the EU, British based EU Agencies and Trade to name a few.

 

Jan 2019 - Dec 2023: Exit process. This depends on what one defines as an exit. Indeed, Britain might be out of the EU by late-2018 but that would only be the technical process of exiting. A full exit process, which might be defined as an exit with renegotiated terms of trade with the UK’s trade partners, would probably take 4-5 years or longer.

 

Canada and the US are unlikely to be impacted severely, but we expect more volatile financial conditions, which may in turn have a slight impact on consumer confidence and the housing-market recovery in the US. Other potential impacts on the market are:

  • A strengthening of safe-haven currencies (USD, Yen, Swiss franc).
  • A negative reaction to the GBP (with a potential knock-on effect on the Euro).
  • The Fed tightening is likely off the table.
  • Worst case, there is potential for UK and Europe to enter a recession in the short-term.

If you have any questions or want to talk about any of these ideas, please do not hesitate to call or email me.