It is a little over a month since Britain took an historic vote to exit the European Union, or Brexit. I had the pleasure to visit Britain several times in the weeks and months leading up to and through the vote, sometimes for work and other times for vacation. I spoke with business people from mainland Europe who were working in Britain, and also local folks in London and the surrounding counties. It certainly was an interesting time.
As you know from the press both the “leave” and “remain” campaign have said, of each other, a web of lies and falsehoods were expressed. Being on the ground I can affirm that this is the case. In fact, the two sides could not even agree on the terms of the argument, let alone the possible or likely outcomes. It was not clear, to the ordinary man in the street, if Britain was a net contributor to the EU, or a net receiver. If you look at the UK government books and compare to the EU’s, the data suggest that the UK is a long-time contributor. As such the simple idea that from a government funding perspective there would be more to “go around” on domestic spending post-Brexit is logical, but it was not accepted. Worse, this is only one small minor issue related to the economic well being of the U.K., Europe and the global economy anyway.
Brexit is serious, but it is neither catastrophe or cake walk. Certainly the financial Armageddon that was promoted by some in the press has since given way to a more nuanced and practical perspective: In this June 18th article from the Washington Post (‘Brexit’ could send shock waves across U.S. and global economy), the IMF is quoted as suggesting that Brexit could be “negative and substantial”. After a few weeks of initial changes (see below), it turns out that overall the impacts will be notable but a far cry from substantial. Growth in UK has slowed, as well as in Europe, in the short term. But long-term growth rates are only marginally impacted. Even the impact on the US is now seen more as a ripple than a tidal wave. See IMF Cuts UK Growth Forecasts Following Brexit Vote.
There are a few things that we should all be aware of:
- Brexit was a referendum, The UK remains in the EU and remains subject to the laws and conventions in place.
- Short-term economic and financial disruption are important to be aware of and monitor, as they will have impacts on short-term actions of public and private sector. Such disruptions will center chiefly on the UK exchange and interest rates. Others to watch for are actions that might be taken by the Bank of England in terms of increased easing or other liquidity inducing activities. Some markets are already showing results of the implied execution of Brexit – see news on construction investment in the UK.
- The key event to watch for is when (and assuming if) the UK government executes Article 50. This event officially submits a request by the UK to the EU to leave. There is then a 2-year period to negotiate terms for the exit.
So we should all expect ongoing disruption of a somewhat muted but still important nature until and if the UK hits the button labeled, “Article 50”. At that point, the markets will again likely react since all participants will be hungry for news on the nature of the future trade, business, legal and regulatory framework shared between the UK and the EU. So increased disruption will like take place as a result. As with the initial response, it may be muted should the market perceive fair and equitable negotiations; the disruptions might become acute if the market perceives contentious negotiations. No economy wins here – and that means this is a challenge for us all.
Gartner published a real useful resource to highlight for CIO’s what they need to do as a result of Brexit – see 8 Ways CIO’s Can Prepare for Brexit. The advice needs to be taken in context (as the note says). Some of this advice can be acted on right now; some will take time and won’t even mean much until Article 50 is executed. There are a couple of key areas explored in the note:
- Cost optimization. Clearly the EU will face a reduced budget. EU spending in Europe will likely freeze or contract; some programs will likely get curtailed. This will take place until and if the EU can re-balance its’ books and/or increase contributions from remaining states (such as those that can afford to pay more, such as Germany). We also have also seen some cuts in property funding in the UK. So keep an eye out for knee-jerk reactions that might be specific, then once Article 50 gets underway, look for signals from the EU as to how they intend to balance their books.
- Legal and regulatory conditions. This is a huge area that, as the note suggests, will touch a range of decisions from data/cloud storage and access, to human resource and work availability/movement, as well as tax and commerce. As such this aspect requires a lot of clear thinking and a step by step analysis of what is happening pre-Article 50, versus what might happen during and then after the UK exits the EU. This will keep the consultants and the lawyers busier than ever. But the good news is that you don’t need to panic today. You maybe more concerned once Article 50 kicks in, or if the tone of the negotiations is not clear.
As it currently stands the UK is seen to be in no rush to kick-off the 2 year negotiation. The reason has several elements I am sure but one big one is due to the advantaged position sterling now finds itself. Sterling stands nearly at a 30 year low, near $1.32, and this means that exports are much cheaper on the world markets than they were 7 weeks ago. Thus the UK balance of payments will get a much needed injection of reserves as exports should surge.
On the other hand, imports will become more expensive. This sounds negative but what this will do is put pressure on inflation. The world needs, thirsts, for inflation. As such this might even lead to a small silver lining for the UK. As raw material import prices rise, so consumer prices may also rise, and so inflation takes hold. This will allow the UK authorities to raise interest rates which will then help the market recover towards a more sensible mode of operation.
As it stands sterling looks to be something like 20% under valued, according to the Economist latest Big Mac Index that uses purchasing power parity. So at least there is a little leeway, up or down, for the UK exchange rate. Either way, we all have an interesting time ahead. Keep your eye on sights and sounds related to Article 50, and tenor of the U.K. Prime Minister on this topic, and then the tenor of the negotiation and positions once Article 50 is initiated. And read our extensive research on the topic: 8 Ways CIO’s Can Prepare for Brexit.
