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Saturday, 25 June 2016

BREXIT ECONOMY MONITOR - UK loses its no claims bonus

Voters on all sides of the EU vote including those who did not vote are in shock at the unexpected result – a majority of 52/48 for ending UK membership of the EU – and the rest of Europe and much of the rest of the world are also stunned. In any major question it is realistic to begin with one third for, one third against and one third undecided. In the outcome of the UK referendum only 37% of the UK electorate was sufficient for the 52% majority for leaving. 34% of the electorate voted to remain in the EU. 29% of the electorate did not vote. The political campaign of Leave and Remain failed to sway more than 15% of undecided or indifferent voters? Many of them may have been voters who felt unable to judge the complex question and who felt they could and should leave the decision to others who apparently did know what way to vote? The older the voters the more they voted to leave and only the oldest segments, those over 50 and over 65, voted in majority to leave but this was sufficient for a simple majority gained by 1.9% or 634,000 voting to leave instead of voting to Remain. Older voters had the least to gain or lose for themselves and perhaps felt freer to vote according to their gut-feel rather than according to any hard-headed assessment of consequences.
Older voters have most of their life experience in post WW2 decades of improved economic progress and of stability, recovery and protection from economic shocks, in decades when the welfare state and international policy making was growing and evolving. Younger voters' lives have been more dominated by experience of international economic crisis and awareness of global inter-dependencies such as global ecology and climate change, and have become more aware of, and open to, internationalism in culture, travel, education, employment, consumerism and internationally shared moral outlook and universal values. To younger people the world appears less intimidating in respect of differences in traditional cultures, ethnicity, religion, human aspirations, notwithstanding its various wars and conflicts, including economic migrants and political refugees. Differences across the world are for many young people matters of curiosity rather than threatening their own traditional values. At the same time young people are also the foot solders of armed reaction to defend traditions, but not we hope in large numbers in Europe thanks to Europe's internationalism, and not in the UK, not after its own recently ended 30 years of low intensity war about regional nationalism. The Leave campaign leadership celebrate what to them is peaceful revolution by the ballot box, and a revolution in direct defiance of the advice of the vast majority of the political establishment and of business and finance leaders and experts. There is now a renewed nationalist anger, however, in Ireland and Scotland because English voters appear to have ignored or dismissed the risk that voting to leave the EU could lead eventually to a splitting apart of the UK? There is immense anger among young people about how older people voted. Majorities for leaving in regions where two thirds of voters live, in all but three regions, most notably in the Midlands and on the East Coast where people living in poverty are between 20% and 25% of households and where cultural participation rates are lowest and jobs in tourism and tourist numbers are least. Differences in educational attainment or youth unemployment or other factors such as children living with parents and housing shortages do not seem to be factors that coincide with the voting pattern. Scotland and Northern Ireland are two regions with acute concerns about their status in the UK and whether it can continue or may be changed by the referendum vote. London is the most internationalist part of the UK in every respect and therefore had a strong and obviously compelling logic, economic, social, and cultural, for remaining in the EU. What is most striking, however, is that all regions of the UK voted to leave except Northern Ireland, Scotland, and London.
If the Brexit vote had gone the other way there would have been an economy boost and bounce in the UK and an affirmation of its majority commitment to internationalism, to its youth and to the future, to remaining dynamic and outward looking. The world's financial markets were on balance anticipating that. There are many UK and foreign investors who now feel misled and are facing losses they will by any means seek to recover from, and in the first instance by now expecting prolonged relative falls in UK output and asset values reflected in falling exchange rate and dramatically worsening current account (worsening financial balances with the rest of the world short term and longer term). The world economy and financial markets cannot resume business as usual; all major trends are disrupted and values (all relative) are made more uncertain and volatile. The UK is more than the 5th largest GDP economy ($2.8 trillion, 1% of world population and 3.7% of world GDP). In the last 7 years the UK economy recovered fitfully and slowly in line with the USA from the financial crisis and recession by attracting capital flows because of its relative status as a safe haven from other countries and regions of greater uncertainty, and did so because of the UK status as a stable democracy and conservatively managed economy, becoming also a major tax haven with a stable currency relative to other major currencies, and where property investment could expect far above average asset appreciation gains compared to those in other developed economies. With the Brexit referendum vote the UK has spectacularly lost its credibility as a safe haven, a stable currency, etc. Financial inflows that previously benefited the UK, on which the property boom in London relied, are now reversed. USA, Switzerland, Japan, Germany are the immediate recipients of capital flight from the UK. Risk is like insurance and the UK overnight lost its no-claims bonus. It will be years, possibly one to two decades, before trade, investment and capital flows will again focus on UK without a significant "tail risk" cost.
At this time it is very hard to imagine or foresee any event or agreements that could arise to offset or reverse the politics and negative economic consequences of the Brexit vote. Like an insurance policy, the UK economy will now have to pay higher premiums in all of its economy dealings for an indefinite period. The UK along with the USA are obviously both past the maturity peak of their closely conjoined economic cycle. Cyclical behaviour is unavoidable and inevitable and therefore it is not hard to estimate their next recession being due to arrive in 2018-2020. The Brexit vote and the accompanying economic shock with private capital flight will trigger the UK's next recession earlier than expected, beginning immediately, and make that shock downturn more severe and longer-lasting i.e. longer and harder to recover from. If negotiations and new agreements are conducted intelligently there can be a softening of consequences, but this will stretch and test the technical, legal, financial and general macroeconomic policy skills of UK and EU leaders extremely, and do so beyond all previous precedents. If the internationalism of Europe is to survive with its political credibility intact and economic benefits demonstrable and assured the EU dynamics will have to transform dramatically and urgently. Whatever happens the UK economy may become the victim of what the rest of the EU needs to do now for itself much as the Greek economy was squeezed almost mercilessly for the sake of protecting the EU's Stability Pact rues and assumptions? What did go wrong in the EU in the wake of the financial crisis in banking, the recessions, and the sovereign risk crisis, was painfully low growth recovery (near stagnation)as the EU switched from being a mutually supportive region of economic convergence to one of medium term divergence with the risk of long term divergence threatening its continuity and financial sustainability. The EU Commission was not allowed to grow its financial resources to deal with widening imbalances as private capita flows worsened the trade imbalances within the EU. A huge responsibility for the Euro Area was delegated onto the balance sheet of the European Central Bank. It responded well and even beyond anyone's expectations but without clear and coordinated political policy guidance and without lessons thereby learned and turned into new formal policy directions. The UK over 40 years has relied like all other EU members on the EU institutions for policy making and for many thousands of important agreements. Like an oil painting with many layers over many years and generations of artists refining the detailing, the UK has now taken an oil rag to that EU shared canvas and wiped its part not clean but into a mucky mess where the painting work has to start again beginning with many fundamentals, with a lot of surface preparation and under-painting. But are to avoid or mitigate first going through a painful relearning process that may include massive rise in unemployment, further major loss to the industrial base and a shredding of much of the UK's financial services and other industries? Just as the financial crisis triggered a massive questioning and self-doubt and general loss of confidence. much anger and few precise or agreed answers, the UK crisis, a crisis for itself, for the EU, and for the international system, the questioning will now have to embrace far more than just banking and finance. And, again, we may find it very hard to understand and agree policy solutions. There are dramatic events elsewhere and great economic uncertainties and fears. The UK crisis may just be one dimension, however poignant and intellectually challenging, perhaps even dangerous in security consequences including UK break-up, one dimension of a so-called 'perfect storm' gathering together and correlating globally? When the so-called "global financial crisis" did not lead to a revolutionary change or adjustment to the standard theories of political-economy, the macroeconomics profession may now be face with a bigger and more comprehensive challenge and one where our political constituencies and electorates will not have the patience for anything that sounds like more of the same as before or a re-booting to try to return to any point in the past. New solutions will have to be genuinely new and for that we have to work a lot harder and be open to embracing solutions that appear counter-intuitive and even profoundly paradoxical. Are the politicians and their electorates capable of accepting such innovations as may be necessary to avoid economic calamities and more new wars? At certain times in history the world appears to be about choosing between military action and economics, between armed conflict and coordinated trade policy (why the EEC/EU was created and the Cold War eventually ended), between nationalism and internationalism? The skills and political capacities of economists to respond effectively to what is happening in the world are perhaps never more needed or vital to the world's future prospects of peace or war than they are now?

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