What Have the Consequences of Brexit Been on the UK Economy so Far?

With the new January 31, 2020, Brexit deadline agreed by the EU, some three and a half years after the June 2016 referendum in which 51% of the country voted for Britain to leave the EU, the prolonged uncertainty continues.

The consequences of Brexit have, however, made a difference to the UK economy. Parliament has not yet reached agreement on whether it will be a “soft” Brexit or a “hard Brexit”, and few of these differences can be seen to be positive in the short, or even medium, term.

Lest anyone forget, the UK economy was having some trouble back in 2016. Some growth indicators still have not surpassed their pre-2008 financial crisis levels.  The manufacturing and construction industries spring to mind in this regard. 

Currency and Consumer Spending

Currency markets were quick to react to the 2016 referendum outcome, resulting in a sharp drop in the value of the Pound Sterling against the Euro and the US Dollar on the following day. To date, the Pound has not recovered its pre-Brexit levels. The effects beginning to be felt so far are the result of prolonged uncertainty over Brexit, with no agreement yet reached on UK’s mode of exit. 

The net effect of weaker currency has been an increase in the price of consumer goods. Although the annual rate of inflation in 2016 was 1.74%, against the current inflation rate (2018-2019) of 1.80%, the Pound’s average inflation rate was 2.62% per year. This means that over three years, the basket of goods purchased for GBP 100.00 in 2016 now costs GPB 108.07.

Wage growth, currently at 3.8%, has outstripped inflation since March 2018. Yet the public perception is that the cost of living has increased. This has not led to a reduction in consumer spending, although net savings are down.

On the surface, nothing much seems to have changed at all. Imminent and major political change aside, one might be conned into thinking that the UK economy has been pretty uneventful in the last three years.

Even the London School of Economics, whose report covers analyses until the end of 2018, gives the humdrum verdict that the UK economy since the Brexit vote has shown “slower GDP growth, lower productivity, and a weaker pound”.

This may be a reflection of the uncertainty in the market. Uncertainty in any economy breeds caution, and it would seem that most people and business are adopting a “wait and see” approach.

Trade Fuelled by Uncertainty

The City of London is set to continue trading come what may, despite initial fears that Brexit might cause a shift in focus away from the London Stock Exchange with negative downstream effects. Even so, the FTSE 100 remain optimistic. If they are worried about the day when Brexit does, in fact, mean Brexit, then there are few outward signs of it.

As it happens, the latest “EU flextension” to January 31, 2020, saw currency and stocks perking up marginally. This, despite UK stocks, in general, having performed poorly since the Brexit referendum, according to The Financial Times.

Having said that, some volatility in currency and stock trading is expected ahead of the December 12 general election. A win for current Prime Minister Boris Johnson could result in the Conservatives gaining a majority vote in the House of Commons. This, in turn, would trigger a swift UK exit from the EU.

On the other hand, a win for Jeremy Corbyn’s Labour party could spell economic disaster. The Labour party has plans for a massive increase in public spending, which would send the UK into recession. This, against the still-unresolved Brexit issue. 

Services and Manufacturing Output

Whatever the outcome of the general election, one thing is certain: the UK is unprepared for the necessary shifts in international trade that Brexit will entail. The current situation is a fertile breeding ground for speculation.

It is all the more worrying given that November 2019 saw the sharpest drop in UK private sector output since July 2016. The last three months have seen what appears to be a downward trend in services and manufacturing output.

SMEs and the Consequences of Brexit

Meanwhile, small- and medium-sized enterprises, or SMEs, seem to be the group most anxious about the uncertainty the impending UK exit from the EU brings with it. SMEs are showing signs of becoming risk-averse, as pointed out in mid-November 2019.

This finance magazine says that SMEs are holding a record high level of cash deposits in instant-access accounts. Cash reserves in the hands of SMEs have increased significantly in the last 12 months. 

The worrying aspect about this is that SMEs are not investing their cash reserves. This suggests that companies want quick access to their money. This, in spite of realizing the downside of not benefiting from high-interesting-bearing accounts and other investments instead.

This trend among SMEs is the equivalent of hiding banknotes under one’s mattress, and certainly not a growth stimulator.  Another case of a damp-squib,  “wait and see” approach. Looking forward with a measure of hope, ready cash in the SME sector could provide impetus to domestic growth post-Brexit.

This might well be the most interesting space to watch. Stronger domestic growth could be a valuable partner to the export-led growth the UK will need when developing trade beyond Europe’s borders in the months ahead.

The Big Trade Question

It is difficult to avoid speculation about what will happen after the UK actually does leave the EU.

The fact is that trade among Member States of the European Union is incredibly easy, and largely free of the red-tape involved when trading with non-EU countries.

While nothing has happened yet, and there are murmurings by various European and UK parties about preparing for Brexit, the sad truth is that no one has done much preparation at all. Maintaining the status quo seems to have been the backstop position for most.

One reason might be that no one knows yet whether it will be a hard or soft Brexit. Another reason could be that many of UK’s current trading partners might well continue to trade, at least to some degree, with the UK, and will simple complain loudly about additional paperwork.

UK’s Trading Partners

The European Union is the UK’s largest trading partner. In 2018, UK exports to the EU were £291 billion (45% of all UK exports). UK imports from the EU were £357 billion (53% of all UK imports).

Note that these are figures some two years after the Brexit referendum results.

The UK had a trade surplus of £29 billion with non-EU countries.  With the USA making up some 13% of the UK’s exports, there may be opportunities to increase the volume of trade.  So far, though, there has been no significant movement in the trade between these two countries.

The UK is currently enjoying the generally low EU tariffs, and so not much has changed by way of levels of imports. In advance of successive “Brexit deadline”, importers have been stockpiling, leading to a widening of UK’s trade deficit. With each Brexit deadline extension, the concomitant sharp drop in imports has narrowed the trade deficit gap, of an overall normalizing effect.

Exports have shrunk marginally as larger EU Member States have shifted their trade alliances slightly in favour of other markets within the EU. Yet, once again, no one seems to want to jump the gun. Everyone, including the EU Member States, has adopted the “wait-and-see” approach.

Centre for European Reform

One of the most interesting assessments of how the UK economy is faring has emerged from the Centre for European Reform (CER). By means of an algorithmic construct, the CER used data from other advanced economies. Their characteristics most closely matched those of the UK economy at the time of the Brexit referendum to create a “dopperlgänger UK”.

The conclusion is that the UK economy is 2.9% smaller than it would have been had the UK voted to remain in the EU. The CER model echoes real-world analyses. It suggests that lacklustre business investment and the weaker pound are chief contributors to this estimated shrinkage. 

So, What’s New?

In reality, apart from lack of confidence in the British Pound, there are not too many factors that have had a marked impact on the UK economy as a whole since it decided to leave the European Union.

The UK has not yet felt the consequences of Brexit in any great measure because the deed—the fact of the UK leaving the EU—has not happened yet. Meanwhile, keeping their eyes on our fast market news, and receiving our regular investment analyses is one thing investors can do in preparation for whatever change is afoot.

Until change happens, it would seem that everyone has adopted the quintessentially British attitude of keeping calm and carrying on.  As market pundits are fond of saying, let’s wait until the Brexit hits the fan. It’s as good a plan as any.