Let’s talk about Brexit.
I know what some of you are thinking. Time to move on, right? The doomsday scenarios never came to pass. If you had bought some shares in an ETF tied to the FTSE 100 Index on June 24, the day after the United Kingdom voted to leave the European Union, you would have made some easy money. Countries such as Canada and India are lining up to do trade agreements with the U.K., according to the country’s new government. Rather than the end of days, it is a moment to create a new world. The Financial Post published this idea on August 1: an economic union of Britain, Canada, Australia and New Zealand. There are more than 18,000 kilometres between London and Auckland. But sure, why not? Maybe there are a few Concordes left that the British government could tune up to cut down on the travel time?
The Bank of England acknowledged on August 4 that the global economy seems to have absorbed the shock of the referendum vote. The UK itself? Not so much. Governor Mark Carney and the rest of the British central bank’s policy committee voted unanimously to cut the benchmark lending rate a quarter point to 0.25%, the lowest ever. There were a few dissents, but a majority of the Monetary Policy Committee also opted to create £60 billion (about $100 billion) to buy government bonds over the next six months and £10 billion to purchase corporate debt over 18 months. It also introduced a new lending program for banks that also will be financed with tens of billions of newly created pounds.
So Brexiteers voted to liberate themselves from Brussels, and to extend the era of experimentation with monetary policy. Those experiments come with unintended consequences. But what choice did the Bank of England have? The country has been pushed to the brink of recession. “We took these steps because the economic outlook has changed markedly,” Carney said at a press conference in London.
Forget the FTSE; its post-Brexit surge is based on the promise of zero interest rates and quantitative easing, not economic optimism. The market is getting its lift from the U.K.’s collection of global enterprises; the share prices of companies exposed to the British economy haven’t recovered from the shock of the referendum result.
That’s because uncertainty over the U.K.’s future trade arrangements will take a serious toll on the economy in the near term. The Bank of England said to expect very little economic growth this year and next as business investment craters. That’s why all the talk of a rush of interest to do trade deals with the U.K. is hollow. Even if that is true, it will take years to complete the agreements—negotiations that surely would be contingent on theU.K.’s future access to the European Union, which also must get sorted over the next couple of years.
There will be some bargain hunting thanks to the collapse of sterling—such as Japanese company Softbank’s purchase of the crown jewel of Britain’s technology industry, semiconductor designer ARM Holdings. But it is hard to imagine executives spending serious money until they know how the country fits in the global trading system. “The precise parameters of the U.K.’s future relationship with the European Union remained highly uncertain and it seemed likely that asset prices would remain sensitive to perceived developments in the outlook in the months ahead,” the Bank of England said through the minutes of the policy committee’s meeting.
So Canada’s third-biggest trading partner is in trouble. Yes, trade with Britain is tiny compared with the United States. But in a slow-growth economy, gains will come at the margins. Peter Hall, chief economist at Export Development Canada, reckons Canadian exports will shrink by 8% in 2017 because of Brexit. Demand from not only the U.K., but the rest of Europe, will shrink. Brexit will force Canadian companies and trade diplomats to work that much harder to find new markets if they want to expand. “The ultimate impacts await the recrafting of the U.K.-EU relationship, which itself may be complete before the full costs of fragmentation are broadly understood,” Hall said.
Think about that: a pillar of the global economy has entered a quagmire and could remain stuck there for years. The idea of an economic union between the U.K., Canada, Australia and New Zealand is silly. Trade is driven by proximity far more so than political arrangements. It is true, however, that a common language and legal system is good for business. From Canada’s perspective, that is what makes Brexit so disappointing: a natural market has been diminished. If you are an exporter, best start working on your Mandarin, Hindi or Spanish.
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