By: Alex Carrick on June 24th, 2016

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The One Word Problem with Brexit

Economic News

My immediate reaction upon waking up this morning and hearing voters in the United Kingdom had chosen to leave the European Union (EU) was, “Who needs this?”

2016-06-24-Brexit-GraphicHasn’t the world been through enough over the past ten years?

What a litany of troubles: first the sub-prime mortgage disaster in the U.S.; followed by the worldwide credit crunch; then the Greek debt default fiasco in Europe; the Fukushima nuclear plant meltdown in Japan; and, most recently, the collapse in the global price of oil.

England’s Prime Minister David Cameron has already indicated he will resign this fall in the aftermath of the ‘leave’ choice beating the ‘remain’ alternative.

 

The value of the British pound immediately nosedived by more than 10% to a 30-year low.

The standard economic case for remaining utilized prior to the referendum was that uncertainty about the economic prospects for the U.K. would lead to a significant drop in the exchange rate which, in turn, would cause import prices and inflation to rise dramatically.

The Bank of England would be forced to hike interest rates and a recession would ensue.

I suspect that, once the dust settles, this bleak picture will prove to have been overblown. (Thankfully, the British pound stands on its own, reducing anxiety about a possible Euro-crisis.)

For starters, the British exit program (i.e., Brexit) won’t happen right away. It will be phased in over two years. There’s a lot of negotiating to be done. For example, there are millions of workers in the U.K., but originally from continental Europe, and vice versa who will need the legal status of their employment clarified.

Besides, at this moment, nothing seems capable of lighting a fire under inflation, not even the injection of mountains of cash by central banks around the world, through the means of unprecedented quantitative easing (i.e., printing money). Much better world trade and a recovery in commodity prices will be needed first.

Not so long ago, Canada’s currency was down by 30% versus the U.S. dollar and the nation is a heavy importer. Nevertheless, the year-over-year Canadian Consumer Price Index (CPI) continues to bump up against a +2.0% ceiling.

Since it garnered 52% of the ballots cast, there must be positives attached to the ‘leave’ side.

Through limiting future immigration, which has been virtually unrestricted to this point under EU rules, U.K. domestic workers in many sectors will find their jobs saved.

Busy-body interference from far-away Brussels, accompanied by what are seen as onerous regulations in many economic areas, will be things of the past.

Brexit should be a wake-up call for EU members to get their act together. The earlier delayed response to Greece’s debt difficulties was an embarrassment and to this day, there still hasn’t been the forgiveness of loans as advocated by the International Monetary Fund (IMF) that is the only way for Greece to become rosy-cheeked again.

Greater independence fostering home-grown decision-making will boost U.K. pride.

That’s an argument, however, that can easily be turned in an uncomfortable direction. If pride is to be judged so important, doesn’t that provide justification for certain regional factions within nation states to argue harder for their own self-rule?

With respect to the EU question, Scotland resoundingly rejected ‘leave’ and voted to ‘remain’.  This has already emboldened some of Scotland’s leaders to say they will do everything in their power to keep their people under the EU umbrella, floating the possibility of another referendum to take place as soon as possible on the matter of independence from the U.K.

The positive Brexit result is sure to encourage withdrawal movements by several other nations currently in the EU and to ramp up the rhetoric for secession by specific local and often ethnically homogenous population centers within certain EU members (e.g., Spain).

In short, a lot of dominoes have been put in play, creating that often-mentioned ‘boogeyman’ that is anathema to investors and stock market analysts, uncertainty.

So by now, you probably think the one-word problem with Brexit referred to in this article’s headline is ‘uncertainty’.

No, that’s not it. (Economists, deep down, may not be as opposed to uncertainty as you might suppose. It helps keep us employed and able to put food on our tables.)

There’s another word I worry about more in this present context. I’ll come to it in a moment.

Whenever a nation decides to stick to its little corner of the world, there’s a price to be paid.

Whenever there’s an element within a nation’s economy that is inordinately protected, be it workers or business owners, there will be unfortunate consequences.

The issue I worry about also rears up when a nation increases tariffs or initiates a trade war through currency manipulation.

It also comes into play when a country chooses to stay out of trade agreements signed by its competitors. The effective result is to maintain tariff barriers.

It might even be said to account for the failures experienced by centrally planned economies.

The keyword I’ve been gradually approaching is ‘inefficiencies’.

Whenever businesses operate behind some form of protective screen, the inevitable long-term result is inefficiencies.

Once that happens, export sales will begin to falter.

A better-positioned foreign goods-producer or service-provider will step in to seize the opportunity and take business away.

Domestic capital expenditures will begin to fall off.

Jobs that once seemed secure will disappear.

There’s a joke that no doctor, with an urge to dig into chest cavities, would ever go looking for a heart donation as transplant material from an economist.

That’s not fair. For many economists, arguments appealing to a social conscience such as assuming responsibility for a cleaner environment or mitigating the agony of job losses in certain sectors or locations do hold considerable sway, but they don’t necessarily distract from an assessment of cold hard realities.

The bottom line is that the biggest risk to employment in a nation is a framework that enables and promulgates inefficiencies.