The subject of Brexit – the UK’s decision to leave the EU, following a referendum – is already proving somewhat tortuous for the UK government. The basic problem is that no-one actually knows what Brexit looks like or even what the UK’s negotiating position with the EU – when it eventually decides to start formal exit negotiations (sometime next year, the betting rapidly moving towards the second half) will be.
The government is quietly consulting as widely as possible to establish where the dangers and risks, as well as potential benefits, are for the UK economy. And it is rapidly realising that formally disentangling the UK from the EU trade bloc will be extremely complex. To deliver that formal exit, while not damaging trade flows with our biggest trading partner, maintaining inward investment flows to Britain and yet, somehow, ‘controlling immigration’ will be something of a challenge. After the lull of the summer holidays, the political wrangling in Britain has barely begun.
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The two main pinch points or areas of major concern for the UK economy are automotive manufacturing and financial services (essentially, the operation of London-based banks and financial institutions who can currently operate freely in euros across the whole EU territory). The debate is moving from In or Out to ‘soft exit’ versus a ‘hard exit’. The ‘soft exit’ camp wants to keep the economic relationship between Britain and the EU as much like it is today as possible. Broadly speaking, that’s what the auto sector wants – the UK staying in the EU single market, able to trade freely in vehicles and parts with the continent. Potentially, that also protects the UK’s very valuable financial services sector.
However, the EU single market comes with free movement of people in the EU (a core principle that Germany’s leader Angela Merkel has not budged on) and that’s something that the UK government seems committed to end following the referendum result. Nigel Lawson, a former UK Chancellor of the Exchequer, encapsulated the hard exit viewpoint when he said that the single market cannot be maintained for Britain while still delivering on immigration policy, so it’s best to accept that and have a full divorce from the EU. And that, he maintains, can be done quickly. Others will argue that course is reckless and would do considerable harm to the UK economy as tariffs and other additional costs become imposed on UK-EU trade.
I suspect, as the UK prime minister has implied, that Britain will want as much single market as possible while also being able to say to voters that immigration has been addressed. ‘Free trade plus’ is perhaps a way to look at it, with assurances for different sectors of the economy – including automotive – sought. The uncomfortable thought though, is that Brussels will likely want to impose additional costs for Britain somewhere down the line. The political reality is that the UK won’t get all that it wants. And there will likely be more arguing in the UK over whether the UK should pay into the EU’s budget in return for single market access (a potential negotiating lever for Britain, as the EU looks at the emerging hole in its finances).
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It’s the continued uncertainty that will eventually start to weigh down on the UK economy, deter inward investment. A note from the Japanese government at the weekend expressed the concerns in very direct fashion. As Nissan’s CEO Carlos Ghosn has explained many times, its manufacturing plant in the UK is a European facility located in the UK. Trading relations between the UK and the EU are very important. Will anything change in the short-term? No. Automotive companies like Nissan who have invested hugely in manufacturing facilities do not walk away from those investments. Investments in new models are pretty fixed 5-6 years out. Beyond that though, investment strategies are evaluated on a variety of competitive criteria, including any changes to shipping costs. And it’s not just the existing companies to consider, there are decisions being made on long-term criteria by new investors. A Chinese OEM, for example, might now consider that locating a plant in the UK is less preferable than, say, Poland, because of Brexit risks attached to UK-EU trade costs. Of course, there are plenty of factors that go into a decision like that, but anything that impacts the competitive position of the UK in the long-term is potentially significant. International investment flows can and do change.
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By GlobalDataThe economic impact of the Brexit decision in the UK thus far has been pretty muted. Sterling took an immediate tumble – actually, good news for UK exports – and the Bank of England has taken measures to shore up confidence. The government is taking a more relaxed view on public finances. There has even been talk of corporation tax cuts, if necessary (no doubt designed for ears in Brussels and Berlin). It is early days, but recent UK economic data has looked surprisingly good. The dire short-term predictions of the consequences of a Leave vote have not come to pass. However, the longer-term uncertainties and problems for Britain remain and they are deadly serious. The Japanese plea for Brexit transparency and a soft exit is understandable; large investments were attracted to the UK as a ‘gateway’ to Europe. The UK government will want to reassure where it can. It is simply not in a position to, though, and won’t be for some time yet. The headache won’t go away, even if there has been some short-term relief.
