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Brexit’s meaning for the economy, markets, and business

Obsession
Brexit
Obsession
Brexit

British voters repudiated a decades-long push toward globalization and integration this week, with 52% voting to end Britain’s membership in the European Union. The vote rocked the political world—UK prime minister David Cameron announced his resignation this morning—and sent global financial markets reeling.

But what does Brexit really mean for markets, finance, and business? The short answer: No one knows. The move is truly unprecedented. No country has voted to leave the European Union before. And much will depend on how the UK’s negotiations to extract itself from the EU proceed.

But here’s an early read on how things may play out.

The economy

The British economy will likely be damaged by the decision. As former US Treasury secretary Larry Summers wrote in the FT recently: “Brexit could well be the worst self-inflicted policy wound by a G7 country since the formation of the G7 40 years ago.”

Uncertainty is the major issue. Once Britain formally applies to leave the EU under article 50 of the Lisbon Treaty of 2009, a two-year countdown begins that will introduce large-scale uncertainty over the way the country comports itself among its trading partners.

“Heightened uncertainty during this interim period, while a new relationship is negotiated, will likely dent trade and investment flows, as well as consumer and business confidence. This will translate into weaker economic growth in the UK and prolonged asset price volatility,” Moody’s analysts wrote this morning.

The real question is how much the shadow of uncertainty spreads to other countries around the world.

“The ‘Leave’ vote paves the way for a period of political and economic uncertainty, which we expect to have a negative impact on UK growth and potentially spill over to other European countries,” Goldman Sachs analysts wrote.

The markets

In the short term, things look quite ugly. The British pound collapsed in one of the largest single-day swings in memory.

Sterling tumbled by more than 8% after the results of the vote became clear. It has recovered somewhat since, with the decline now hovering around 6%.

But the selloff has spread to other assets. Japan’s Nikkei 225 tumbled 7.9%. South Korea’s Kospi and Australia’s ASX All Ordinaries both fell 3%. Germany’s DAX tumbled 6%. Along with the broader pan-European Stoxx 600 index.

Investors are rushing to safe havens like the US dollar, US Treasury bonds, and gold, which surged more than 5% to a two-year high.

Of course, the markets and the economy are linked. And the sharp drop in the pound has bad implications for UK economic growth. If the pound’s drop settles at around 10% a year that will cut UK GDP by about 2.7%, according to analysts from High Frequency Economics. US markets opened the trading day with the S&P 500 down 2.5%.

Business

London’s cherished position as a hub of global finance could at least be thrown into question. “The UK’s status as a major international banking hub could be damaged as some business lines shift to the EU,” wrote analysts from credit rating firm Fitch in a note today.

We’re already seeing some of that come to pass, according to the BBC.

(Although that seems to be in dispute.)

Regardless London’s role as a business capital goes beyond banking.

If you’re a multinational business with a European operation, there’s a good chance you’re going to set up shop in London. (Or at least there was before last night.)

In 2014, Deloitte examined the 250 largest companies in the world. Of those with a European headquarters office, 40% had theirs in London. No other European city came close. But given the level of uncertainty thrown over Britain’s position to Europe in light of the referendum, that could change. Morgan Stanley analysts had this to say on the UK economy in light of the results:

“It will hit growth, as firms hold back on investment,and households increase precautionary savings. Longer term, we expect a less open and more volatile economy, with reduced inflows of capital and labour,and a lower rate of potential growth.”

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