What are the economic consequences of Brexit?

After all the uncertainty in the UK we will have some sort of progress in that we will have an election putting the voters at least briefly in charge. Whether that will solve things is open to debate but let us take a look at what the economic situation will be should the UK start to actually Brexit from the European Union. The NIESR has looked at it and the BBC has put it in dramatic terms.

Boris Johnson’s Brexit deal will leave the UK £70bn worse off than if it had remained in the EU, a study by the National Institute of Economic and Social Research (NIESR) has found.

That is a rather grand statement which fades a little if we read the actual report which starts like this.

The economic outlook is clouded by significant economic and political uncertainty and depends critically on the United Kingdom’s trading relationships after Brexit. Domestic economic weakness is further amplified by slowing global demand.

The latter is somewhere between very little and nothing to do with Brexit. We are in a situation where the 0.3% quarterly GDP growth declared by France this morning looks good in the circumstances.

This brings us to the first problem which is that the NIESR is predicting that sort of growth for the UK.

On the assumption that chronic uncertainty persists but the terms of EU trade remain unchanged, we forecast economic growth of under 1½ per cent in 2019 and 2020, though the forecast is subject to significant uncertainty.

So where is the loss? As it happens they have predicted 1.4% economic growth which is as fast as the economy supposedly can grow these days according to the Bank of England.

We think our economy can only grow at a new, lower speed limit of around one-and-a-half per cent a year. We also currently think actual demand is growing close to this speed limit. This means demand can’t grow faster than at its current pace without causing prices to start rising too quickly.

I am no great fan of this type of analysis but remember we are in the Ivory Tower Twilight Zone here. Now let us factor in the problems the Ivory Towers tell us about business investment.

Prior to the EU referendum, UK business investment growth was growing in line with average growth across the rest of the G7. Since then, it has risen by just 1% in the UK, compared to an average of 12% elsewhere……..DMP Survey data suggest that the level of nominal investment may be between 6%–14% lower than it would have been in the absence of Brexit uncertainties. ( Bank of England August Inflation Report)

So there is potentially quite a bit of business investment growth in the offing. How much? I do not know but it could quite easily be a sizeable swing. That view rather collides with the statement below from the NIESR.

We would not expect economic activity to be boosted by the approval of the government’s proposed Brexit deal. We estimate that, in the long run, the economy would be 3½ per cent smaller with the deal compared to continued EU membership.

So the business investment was not held back but lost forever?

They do however seem to have a rather extraordinary faith in the power of a 0.25% interest-rate cut.

In our main-case forecast scenario, economic conditions are set to continue roughly as they are, with output close to capacity but underlying growth remaining weak and well under its historic trend. Real wage growth is supporting consumer spending, but weak productivity growth means that the current pace of expansion may not be sustainable. Rising domestic cost pressures are offset to some extent by slower import price growth and CPI inflation is forecast to remain close to target. In line with our previous forecasts, fiscal policy is being loosened. This, together with an expected cut in Bank Rate next year, is supporting economic growth in the near term.

Odd that because surely we would not be here if interest-rate cuts had that sort of effect. Looser fiscal policy does seem to be on the cards whatever government we get next and the rising real wages point is interesting as it means they are not expecting a fall on the value of the UK Pound £.

Also there is very little there which is anything to do with Brexit at all. I note that they have no idea what inflation will do so they simply say it will be in line with its target. Indeed

underlying growth remaining weak and well under its historic trend.

is where we are these days and economic growth being supported by fiscal policy makes us sound the same as France which last time I checked is not Brexiting at all.

Finally we do get to a proposed loss.

Compared to our main-case forecast, uncertainty would be lifted but customs and regulatory barriers would hinder goods and services trade with the continent, leaving all regions of the United Kingdom worse off than they would be if the UK stayed in the EU.

Now we have it! There is of course an element of truth here as there are gains from being in the Single Market. But the reality is that we do not yet know what out future relationship will be and even more importantly how economic agents will respond to it.

Bank of England

There were some extraordinary reports last night emanating from ITV’s Robert Peston. I think that Robert is desperate for attention but as the son of a Labour Peer he is extremely well connected to say the least. So let us note this.

I’ve been aware for some time that the prime minister and chancellor have a preferred candidate to be next governor of the Bank of England – and it is none of the five who were interviewed a few weeks ago (Cunliffe, Bailey, Broadbent, Vadera, Shafik) and passed the the competence threshold.

If the competence threshold was one passed by Nemat Shafik then even the world’s best limbo dancer must be unable to get under it. For newer readers she was made a Dame and put in charge of the LSE to cover up her early exit from the Bank of England which happened because she was out of her depth. Indeed is she is in play then this suggestion would at least give us a laugh.

It’s….Rebekah Vardy.

Actually matters got more complex as the issue of whether it was appropriate now was raised and the issue of any likely international candidate (Raghuram Rajan )was raised. Then there were the possible political style appointments which Robert ignored presumably on the grounds that it was fine when the current incumbent espoused views with Robert himself might have made but might be something rather inconvenient looking forwards.

Comment

We find as so often that what is presented as fact has strong elements of opinion attached to it. In economics that is driven by the assumptions made in any economic modelling which are usually more powerful than actual events. An example of this was provided by the UK Office for Budget Responsibility back in 2010. It predicted we would now have Gilt yields of 5% and would have seen wage growth at the same level for some time. In reality we have a 50 year yield o just over 1.1% and wage growth has maybe made 4% for a bit after years of way under-performance. On that road 3.5% GDP growth starts to look more like a rounding error. So will there be an effect? Yes as we adjust, but after that it will be swamped by other developments.

Returning to the role of Bank of England Governor then perhaps Mark Carney just like QE and low/negative interest-rates may be to infinity and beyond! Perhaps a daily extension this time around?

 

 

 

 

 

11 thoughts on “What are the economic consequences of Brexit?

  1. The short answer is no one really knows.

    The fact of the matter is, there was all this doom and gloom if the UK lost a vote to leave with unemployment rising and property prices falling and it didn’t happen.

    The economy can be boosted by lowering interest rates and tax cuts, and other fiscal measures its impossible for any “think tank” or other economic research to make any forecast when government and banks can implicate urgent measures to avoid any disruption.

    I read the related article on the BBC earlier but took the warnings with a pinch of salt
    https://www.bbc.co.uk/news/business-50219036

    I remember when they set fire to all the Oil Fields in IRAQ and it was going to take years to put them out and cause huge damage to the environment most were put out quickly in a few months.

    Now I am not saying there wont be any damage to the UK economy however if world trade slows down and so does the UK and GDP falls in any event the “think tank” will say they were right after all!

    With all the researchers and forecasters out there some may get it right but no one imo can accurately forecasts what would happen with UK GDP over a number of years with so many variables to consider.

    • Hi Peter
      They often struggle to get the next year or 2 right as so many things change. Who couple if years ago would have forecast the policy reversal by the US Fed which it added to earlier tonight?

      The world is a lot more uncertain than they try to make us believe.

  2. Hello Shaun,

    re : “We find as so often that what is presented as fact has strong elements of opinion attached to it.”

    indeed, I’d go further and say its all hand waving and blind faith BS to justify their rather well paid jobs……

    As Peter points out , nobody really knows ……

    Forbin

    • Forbin,

      I’ve a reasonable understanding of the stock market and if you follow the footsie 100 250 and 300 brokers are forever adjusting the forecasts and that says it all really, they have to adjust the forecasts as the companies adjust to the world economy particularly if they rely on import and exports.

      Oil prices alone affect many shares like airlines and raw materials are very volatile. One only has to consider how the trade tariffs have affected China, it only takes a change in policies and laws to force a change in sales and profits.

      If suddenly gas would start to guzzle by accident out of the ground in the UK or someone came up with a good technology from the UK which would benefit the world population, the forecasters would have to get down to their pen and paper again.

      Well I’ve been forecasting interest rates to fall further and keep low for longer and have been right thus far but I don’t have a crystal ball but I am no Midas I am just making a reasonable guess on the information out there but I wouldn’t even hazard a guess as to the exact date of a cut or rise or how long low interest rates will last or when they will rise again.

      The only thing I can reliable predict is the world will continue spinning all the ay round 24 hours a day and day will follow night.

  3. I find the predictions of doom and gloom if we were to leave the single market a little odd. Is it not the case that, not counting regulatory effects on medicines and livestock ( which have already been dealt with by side agreements), the only difference between being in and out is the effect of tariffs? Yes, of course, we woud have to abide by EU internal regulations as we do now and, indeed, as the US, China and other exporters to the EU have to.
    The average rate of tariffs on our exports to the EU would be 7.5%. We sell our goods, very largely priced in euros. Sterling has devalued by roughly 20% since the referendum. It seems to me that the average UK exporter to the EU will still be more competitive now than he would have been in 2016. Even allowing for the increased costs of raw materials due to the fall in the pound there should be no net impact on our exporters.
    So much doom and gloom; catasrophe and chaos; what have I missed?

    • the loss of all those euro jobs for our elected representatives for when the retire from parliament…….

      loss of revenues payable to the EU , this is not a net positive as we will still pay for stuff here and to the EU anyway

      anyone expecting the VAT to be dropped from gas & leccy will be waiting for a long time ( the 5% rate was ostensibly meant for just the EU … hmmm )

      Forbin

  4. Back in the seventies I worked in the export department for a pharmaceutical company and we exported to European countries that were not then in the EU. I subsequently moved to one of those countries and obtained a residence permit and a work permit to develop the local market for our products. The paperwork was a bit more complicated than within the EU but quite straightforward. Business will go on however getting any company chief exec to vote for even a slight increase in complexity or cost will never happen. Too many bonuses at stake!

    • Hi Pavlaki

      Who would not prefer easier forms and no costs? There are obvious merits to the single market in the European Union. But firms will adjust and new deals will be struck and mostly life will go on as you say.

  5. Hi Shaun

    In 1971 the White Paper on EEC entry contained no economic predictions.Were they just dumber in those days? Was it because they hadn’t the computers we have? Was it because we didn’t have DSGE models to play with? No, they said that the eventual effect on the economy would depend on the independent actions of individuals and businesses and their adaptation to the changed circumstances and that was unpredictable. It was unpredictable in 1971 and it’s unpredictable now.

    Mervyn King has termed this desire for predictions as “bogus quantification” and he’s right. These models mostly calculate the incremental effect on GDP of an assumed case of Brexit on a ceteris paribus basis. But of course in the real World there is no ceteris paribus; things are always changing. In this case it’s not just a question of deriving a counterfactual of the UK economy; you also need to have a counterfactual of the EU economy because, in these terms, it’s relative performance that counts.

    If you voted Leave you most likely voted for non economic reasons (soveriegnty; immigration) but if you voted Remain you voted for economic reasons that revolved around the UK being poorer outside the EU. The problem here is that it’s not good enough to just say “we’ll be a lot poorer” you need to put numbers on it because it’s that that makes it credible and not just opinion that can be dismissed. So to do that you have to indulge in “bogus quantification” to make your case. The problem is – you can’t.

    In my view the best view is that of Mervyn King whose view is that Brexit won’t make much difference over the long run.

    • Hi Bob J

      There are some mechanisms which are clear such as the lower £ leading to more inflation after the summer of 2016 but as you say there is a lot which is not clear. The £ now looks as if it will if anything rally if we get a deal so that argument has faded away.

      Whilst the single market has advantages it is also true that areas like the City of London might find new markets outside the EU.

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