Impact of Brexit.
How bad can Brexit be, for Britain, for the EU? Consequences will be limited for Britain. It's a big political warning for the EU, but not more than that. I buy European equities down 6%-8% today because the drop is more about fear of Euro-zone countries potentially leaving the EU, which is not the case right now.
· Consequences Britain:
Though London is the financial capital of Europe, Britain never joined the EMU and does not share a common currency with Europe. The Bank of England always has had a policy fully independent of the ECB. So there will be no change there. Second, Britain has never been part of Schengen (no border checks), so no worries there either. Third, with regards to international security issues, Britain is one of the leading nations of NATO, so no impact there whatsoever. The UK will remain only a short 50km Channel Tunnel ride away from mainland Europe,
Therefore, what the impact of Brexit for Britain comes down to is (1) the free movement of goods (free trade) in the common market of the EU, and (2) free movement of labor (economic immigration). How big of an issue can that be ?
Well, first of all, the process of disentangling Britain from the EU will not start for the next two years, so there are 24 months to prepare for this. In the meantime Britain can set up bilateral trade-agreements with either the EU or individual European countries, or potentially aim to join the free trade zone called EFTA and the European Economic Area (NYSE:EEA), allowing Britain to continue to enjoy the merits of the common European market. Given the importance of the British economy, other European countries will be open to such trade agreements. Norway for example had set up treaties like this. Switzerland is not even part of the EEA but has bilateral trade agreements with the EU. It doesn't seem to obstruct either of these two any real disadvantages.
With regards to the free movement of labor and persons, Britain will be keen to keep access to Europe's human capital (i.e. brains) especially for the City of London's financial center and for its R&D centers and its famous universities. This can simply be organized through standard bilateral agreements also, or in a worst case scenario through a basic visa system. For the rest, Britain will remain interested in access to cheap labor from lower income countries, which can organized in the same manner as for higher educated people.
All in all the impact for Britain seems relatively limited, other than that the government will spend a lot of tax payers' money on administrative reorganizations and changing the bureaucracy.
· Consequences EU:
Having said that, for the EU itself Brexit may have some additional consequences for the political balance within the EU. Firstly other, especially smaller, member-states will miss the pragmatic and free-market oriented British decison making style within the EU, and may face a greater dominance of the Franco-German (-Italian-Iberian) political culture in the EU, which tends to be somewhat less market-driven. That said, the creation of the highly integrated and far-reaching Euro-zone (EMU, +ECB) already created this situation back in 1999, as the UK never formed part of this. So in fact this alleged Franco-German dominance is nothing new. And within the EMU, differences have mostly occured between the blocks North [Germany-Finland-Austria- Netherlands] versus South [France-Italy-Portugal-Greece]. Britain was never part of the EMU.
Secondly, what if Brexit fuels demands for an exit-referendum in more countries? It looks like today's fear of a domino-effect of Brexit to other countries has more to do with European stock-markets loosing 6%-8% the day after Brexit, than Brexit itself. Because if a Eurozone (EMU) country would decide to exit the union, this would have much bigger economic, business and political implications than Britain as a non-Euro country. It would lead to heavy speculation on the Euro itself, as markets would feara a meltdown of the EMU, which would lead to big turmoil and instability. That's one of the reasons the EU countries propped up the Greek economy. However, with Brexit this is not the case, and therefore totally different. Therefore it seems equity markets today are overreacting to Brexit.
- · Going forward:
Over the decades, project Europe has become a patchwork of countries economically integrated at different levels, with the EMU countries (the Eurogroup) being on one end of the spectrum, tightly knitted together financially. On the other hand there are non-EMU EU-members like Denmark, Sweden (voluntarily remained out of the Euro), and Poland, Hungary (still aspiring to join the Euro). But there are also non-EU-members with free-trade agreements in place with the EU, such as Norway and Iceland (EEA, European Economic Area), and non-EU members who only joined Schengen and signed bilateral free-trade agreements with the EU, such as Switzerland. Britain until before the referendum was similar to Sweden and Denmark without Schengen, and now will become more like Norway and Iceland. Going forward it is logical to assume that different countries will continue to integrate at different speeds. Some EMU countries might pursue an even tighter political union, while other countries may prefer more loosely formed cooperation. It is clear though, that once countries enter the EMU there seems to be no way back without risking a major financial crisis. With Brexit, such is not the case and therefore I would buy European equities on dips bigger than 6%-8% today.
Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in NVZMF, KGSPF over the next 72 hours.
Additional disclosure: This is not a recommendation to buy or sell, but a piece to invite people to discuss.