Over to you Angela

merkel

After the vote for Brexit, everyone will be talking about what happens next, what trade deals the UK can cobble together, how we deal with the collapse in the pound. But these economic problems are all soluble. Some of them aren’t even problems. The devaluation of the pound is 100% welcome. OK, it might have been better if it had happened slower, but the pound has been overvalued for years, and the drop only takes it back to something close to fair against the USD. It remains quite expensive against the EUR (see previous blogs). I wanted to sell GBP whether we voted in or out.

Trade deals are a bigger issue, primarily in the area of financial services. However, my belief is that in the end it won’t be in most people’s interests to change things too much. The passporting issues with Europe may make some things difficult for international banks headquartered in London, but won’t change the fact that the talent and the infrastructure are in London. In practice business will be done in the places with the greater comparative advantage. London may suffer a bit, but I sincerely doubt that Paris and Frankfurt will be taking over.

The economic issues may create some short-term pain, but regardless of the various studies out there from supposedly independent institutions, we simply don’t know the long-term impact, mainly because it depends hugely on politics. It is the political fallout from this that will be the key longer term determinant of the impact both on the UK, Europe, and the world as a whole.

In the UK, Cameron is going anyway at the end of this parliament. He may well have to go earlier. It seems likely that he will be replaced by a right-winger, though the Tory Party may try to find someone to bridge the rifts. Theresa May could be the closest thing they have. But it is far from clear that the Conservatives will win the next election.  They are likely to suffer losses to UKIP, and Labour may do better than many think, though in the end Corbyn still seems likely to be a liability.

But more important is what happens in Europe. Will Brexit prove to be a trigger for similar votes in the Netherlands, Denmark, even Italy?  This seems to me to be the crucial question. The EU is not loved in many countries at the moment, and their reaction to the UK vote may now determine whether the bloc survives in its current form. If they follow through on the threats to make things difficult for the UK, it may discourage others from exiting, but it could also backfire. The votes who want to leave are a little bloody-minded by nature. Attempts to assert central control from the EU make anti-EU movements more rather than less powerful. It could also crucially damage confidence. The markets and business now desperately need reassurance. They don’t want to see increasing difficulties in doing business.

From an FX perspective, I would expect the initial response of GBP to broadly stick. The big question is now what happens to the EUR. A moderate response from the EU which attempts to build bridges with the UK would be positive for world markets and for risk. Attempts to punish the UK will be negative for risk assets and negative for the EUR. The EUR is already a cheap currency at these levels, but the economy is fragile and the EUR can get cheaper if leaders mishandle the situation and fail to support confidence.

So it’s over to you Angela and Francois. Accept a new European landscape with grace and forgo all thoughts of punishment and protection and this need not end badly. Try to tighten the reins on the rest of Europe and strike fear into potential exiters and it will finish the worse for everyone.

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