global perspectives
delaying Brexit looks more and more unavoidable.
In our 2019 Global Outlook, released in November, we laid down our views on Brexit. We continue to expect cliff-edge effects, however the newsflow since late last year has shifted the dynamics. The most important development, to our minds, is the EU courts judgement that the UK can now unilaterally withdraw Article 50, thus changing the certainty of the 29 March deadline.
Yesterday, the UK Parliament rejected the agreement reached between the UK and the EU on the conditions of the divorce by a wide margin of 432 MPs against and 202 for. This is the biggest defeat for a sitting government in history and, as a result, Labour party leader Jeremy Corbyn has called a no confidence for today. The government has now 3 days to submit its plan B to parliament.
We see six possible scenarios following the rejection of the deal:
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Second vote (Almost certain to happen) Prime Minister Theresa May is likely to meet with the UK’s European counterparts to try to secure concessions on the Irish backstop and other parts of her deal to make it more palatable to a majority of MPs, before resubmitting it to Parliament. However, it is still not clear whether it would be approved in a second vote, thus opening the door to other scenarios. |
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General election Opposition leader Jeremy Corbyn had been itching to trigger a no confidence vote in Parliament and force an early election and did so following the vote yesterday. Currently, Labour and Conservatives are neck-and-neck in the polls, so it is far from clear who would form the new government in this scenario. We see this as unlikely as, despite their differences on Brexit, DUP and tory rebels are still likely to support PM May, preventing the no confident vote from passing. |
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Second referendum Many politicians from both sides of the debate have been calling for a second referendum. However, many unknowns remain. The most important one being what question will be submitted to the electorate. It is very unlikely to be a repeat of the 2016 referendum where voters were asked whether they wanted to leave or stay in the EU. The next choice would rather be between types of Brexit relationships; some have even proposed a multiple choice referendum where voters rank by preference. The likelihood of this scenario has risen sharply in recent weeks. |
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Norwegian-style Brexit This has often been floated as the UK government’s plan B in case of a rejection of the deal. This would involve the UK joining the EFTA/EEA to offer the UK time to renegotiate the Brexit deal while being out of the EU but keeping very close ties to EU. However, this would still have to introduce border checks as the EFTA countries are not part of the customs union, leaving the question of the Irish border unresolved. Moreover, many members of the EFTA/EEA have expressed opposition to the UK joining their club on a temporary basis. This scenario is still possible but we think a second referendum is much more likely given the change in political rhetoric. |
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No deal Brexit The UK leaves the EU without any agreement with the EU or any ties to the zone and becomes a third-party country, meaning the end of the free movement of goods, services and persons and the reinstating of custom checks with the EU. Interestingly, the likelihood of this scenario has fallen sharply, especially given the European Court of Justice’s judgement that UK can unilaterally withdraw Article 50 |
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Brexit is cancelled In its recent ruling, the European Court of Justice said that the UK could unilaterally revoke Article 50 and cancel Brexit altogether. We believe this is very unlikely to happen as the political cost of ignoring the 2016 Brexit vote would be huge for all the stakeholders involved. |
Given the numerous possible scenarios following the vote, uncertainty is not going to disappear any time soon. Nevertheless, what is becoming clearer is that the tail risk of a ‘no-deal Brexit’ is diminishing rapidly. There is a broad consensus that this scenario should be avoided at all cost.
The most likely outcome at this point is that a new public vote or some version of May’s plan will be accepted. This depends on any last minute flexibility shown by the EU. In terms of the public vote, it will most likely be the second referendum, although we do acknowledge a general election route to a second referendum is also possible. This means that the Brexit deadline of 29 March is very likely to be extended. The length of the extension would be a key determinant in the type of popular vote, as a referendum takes longer to organise than a general election.
Investment implications
As we warned in our 2019 Global Outlook, the road to a deal is likely to see pressure on UK assets as they become a party to the ’chaos’, something we have seen over the past month. However, with the tail risk of a ‘no deal’ Brexit receding, we see a case for UK assets, especially GBP, to appreciate over the coming year, with GBP/USD potentially reaching 1.40 this year. However, given the level of uncertainty and the likelihood that any agreement may be delayed, the timing of the appreciation could be delayed to the second half of the year. That said, we now think that risk of a sharp fall in GBP is now receding.
The main downside risk to this view would be if Labour were to win a potential general election. While it would likely mean a ‘softer Brexit’, the Labour programme calls for the nationalisation of some industries and an increase in taxation, which are likely to have a long term impact on the UK’s economy.
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