Let’s blame it on Brexit

The 2008 banking crisis had far more financial and economic implications than Brexit is ever likely to deliver. Indeed, you could argue that it was just another effect of 2008 rather than an event on the same scale. It is not difficult to build an argument that 2008 acted as a trigger for the economic conditions that ultimately led to a lot of very unhappy people voting against what they see as a monolithic and remote organisation threatening their cultural identity. Thus Brexit becomes another symptom of a cyclical change in the world condition, another manifestation of what Strauss & Howe describe as ‘The Fourth Turning’ in their book of the same name.

The markets are not the economy but you can’t ignore the fact that the FTSE is up significantly after the nervousness of the first few days. Somewhat perversely, anyone who has a private pension has probably benefited to the tune of 10% or more in recent weeks as a result of valuations adjusting themselves to a lower GBP. Imports are likely to be more expensive although exports should be far more competitive. Thus an exporting business will do very well over the next two or three years and could even increase exports to the EU, at least while still a member. The effects on non-UK EU based businesses are likely to be somewhat less benign. With exports to the UK more expensive, EU businesses will find Great Britain a far tougher place to generate trade. It is not therefore surprising to find the recent DAX and CAC performance somewhat weaker than the FTSE.

There is however a significant risk that the many in the UK media and (fortunately) a shrinking cohort of political doom porn peddlers would still like to see their pre-vote predictions of economic Armageddon come to pass. This daily barrage of negativity risks the prophecy of recession becoming self-fulfilling, some years before the impacts of an unknown exit arrangement are likely to have any tangible effect on the process of selling goods and services to the EU. It really is execrable journalism and bad politics but that’s what we seem to have.

There may or may not be a recession in the UK. If there is, and notwithstanding the last point, it is far more likely to be the result of the structural financial and economic changes unleashed in 2008, demographics, global politics and of course new technologies which are being introduced into the workplace at an accelerating pace. Financial drivers tend to be the premier cause of recessions and the biggest one around at the moment is the state of the credit markets. In other words ‘Debt’. It is humungous already, still growing and is arguably the primary cause of the malaise in global trade. We like to talk about ‘deficits’ in the UK rather than the ‘national debt’, to avoid scaring the horses. Deficits are merely the annual additions to our national debt (we don’t do reductions these days) and are already relatively small compared to the £1.6 trillion we owe to the rest of the world. It is somewhat fortunate that other Western economies are in a similar state and are similarly trying to find ways of managing their own financial challenges. In trying to help repair faltering post-2008 economic conditions central banks have reduced interest rates, including the UK. Rates are now the lowest they have ever been which is just as well given the size of our debt and our annual interest payments. To put our interest payments in context UK PLC pays around £50bn a year against £1.6bn of borrowing, and that is at record low rates. The referendum debate was all about saving £8.5bn or £10bn of EU contributions, a sum easily wiped out should interest rates revert to long term ‘normal’ trends.

The implications of debt are far more likely to be the cause of a recession than Brexit. Brexit and the media reporting on it are masking real issues in the world which are more related to global debt and trade than whether the EU will be difficult to deal with in negotiating an exit deal. Away from the daily headlines, the IMF worries about Deutsche Bank, highlighting it as the highest risk bank on the planet, and the Italian banking system edges closer to a collapse. Confidence in Deutsche Bank is already faltering. Undercapitalised and with an opaque $72 trillion worth of derivatives on its balance sheet its failure would be systemic and potentially freeze-up not only the European banking system but that of the entire world. As we saw in 2008 credit market failures cause recessions, big ones. The Italian banking system collapse has already started as Italian politicians try to deal with the thorny question of ‘bail-in’ vs. ‘bail-out’. EU rules requires the former which of course would affect the deposit accounts of millions of Italians. That particular piece of political theatre has yet to play out.

At the sovereign level Greece remains saddled with decades worth of disproportionately high repayments, and Portugal, Italy and Spain remain in an economically oppressed state. At least two of those three are likely to be threatened with breaching EU spending rules in the coming months, and potentially fined. A sovereign debt crisis in a European state could yet be a catalyst for market revulsion before the year is out. Over in China debt is again the issue. The slowdown in global economic activity has created losses in dozens of state enterprises most of which will require bailouts in the billions of Yuan. At least ten major enterprises are reportedly affected by the problem and will need major injections of capital.

But back in Blighty our financial press are still pushing the Brexit line. The US markets have already forgotten about it and the senior UK market could well hit new highs later this year, especially if a new round of monetary easing initiatives are launched to address recessionary risks. In the UK it looks like 25 basis points off interest rates and/or another round of Quantitative Easing are likely to be the favoured policies. We are not yet at the stage of ‘Helicopter Money’, the term derived from Ben Bernanke’s (former US FED Chairman) revived suggestion that if there really was a Doomsday like deflation crisis the FED could always engineer “a money-financed tax cut” which would be “essentially equivalent to Milton Friedman’s famous ‘helicopter drop’ of money.” In other words printing money and giving it away.

In the meantime let’s not worry about the real reasons for an uncertain economic outlook. Forget sovereign debt woes and the prospect of a major international banking crisis. We have the political pageant of a ‘BoJo’ (Boris Johnson) led foreign policy to watch and the spectacle of Brexit strategy formation unfold, both of which will be clinically parsed by the media’s ‘Bremoaner’ contingent.

And if there is a recession later in 2016 or in 2017 you can always blame it on Brexit…

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