Brexit

The experience will start rapidly after the vote for a “Leave” at the British referendum. Rules will change dramatically and this is a direct experience for economists to measure the width of a persistent shock. The will to exit from the European Union will have a strong and durable impact on Brits’ life but also on the whole Europe.

Nevertheless, in the very short term, nothing will happen on the economic side. But expectations will change dramatically and this is this phenomena that will weigh on financial markets. Central banks will not be neutral and they will have to intervene in order to avoid a spillover effect of the British shock. The global growth momentum is currently too weak to allow the diffusion of such a shock. As during the 2008/2009 crisis, swap agreements between central banks will be reactivate to provide liquidity to the global financial market.

For the economy, the question is quite simple: relationships between the UK and the rest of the world will deeply change. Rules will never be the same for the fifth most powerful economy in the world. The weight of the UK is by itself a source of concern for the rest of the world. Relationships and rules will change in an environment of low growth momentum and where central bankers already have adopted, and for an extended period, very accommodative monetary policies. In other words a negative and persistent shock with little capacity to adjust because of the low interest rate policy can have a long lasting effect on the UK and the world.

That’s what is worrisome. A period of strong growth would have limit the impact of such a shock with stronger endogenous adjustments. Moreover in this type of period David Cameron would not have asked the question of the EU membership.

The main source of the shock is that UK will have no more access to the single market in the same conditions than now. A new framework will have to be defined. It will take time and will create uncertainty. In the short term, we don’t know the type of conservatory measures that will be taken during the negotiations. But we can imagine that the British negotiators will want to cut relationships rapidly as it is the decision of the referendum. With the rest of the world, trade’s conditions are for the British conditioned by all the trade agreements that have been signed by the EU. In the case of Brexit, the UK will be excluded from them.

In a period during which the global trade doesn’t play anymore its role of transmission and of accelerator of growth, the Brexit shock will add confusion and will weigh on the global outlook. This phenomena plus the fact that many banking activity on euro will be displace in EU will change expectations on the downside even if these fractures are not perceived in the very short term. It will take time to find a solid agreement and to define a robust framework between UK and EU and between UK and the rest of the world leading to uncertainty and risks. It will then be a drag on economic activity in the UK but also in Europe.

In the short run, perception of the environment will be driven by political declarations. David Cameron will have to find an impossible majority at the Parliament. He will have to quit. The impossible majority reflects the fact that the Conservative party is now split between supporters of the two options proposed at the referendum. General elections will be required rapidly in order to define a new but very different political equilibrium.

We will also wait for the reactions on the future of Europe by all the institutions and governments of the rest of EU. A common dynamic will have to be found in order to avoid that the British referendum be the catalyst for other votes of this type in Europe. This is the effort to do for a Europe that needs to be unified but which has lost its utopia.

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