From the tone of the global markets today, not many investors were expecting the result of the referendum of the United Kingdom’s (UK) membership in the European Union (EU). Voters had to know that an exit vote would have a negative short-term impact on their financial wellbeing, and were willing to trade that to go it alone, so to speak. Immigration became a key issue in the debate amid concerns that the UK government was unable to control in-migration, as membership in the EU ensures the free movement of people between member states. Immigration issues may well have been the straw that broke the camel’s back.
Never a member of the Eurozone (political, economic, and currency union), the UK is a member of the EU (political and economic union), which is largely based on trade and freedom of movement throughout Europe. As a result of the UK vote, that relationship is set to be adjusted within the next two years. One outcome may be to shed the political and economic union associated with the EU and retain trade benefits (the UK has 120+ European trade deals) through a continued association with the European Economic Area, where it has been a member since 1994. This would put the UK in a similar situation to Norway, which not part of either the Eurozone or EU. But the devil will be in the details of how the EU negotiates the exit plan for the UK. An unintended consequence of the vote may be that Scotland and/or Gibraltar have second thoughts about remaining a part the UK, as both of those regions voted to stay in the EU.
The UK represents about 4 percent of global GDP, so the global financial market reaction is likely more a reaction to the potential ripple effects amongst other EU and Eurozone members. Financial markets hate surprises, and the S&P 500 finished down about 3.50% on the day (about even for the year), and the STOXX Euro 50 index finished down 8.50% (down about 12.5% for the year), and “safe havens” (US Treasuries and gold) finished higher, about what one might expect. This will be at least a two year process between the UK and the EU, so nothing besides emotions will change quickly.
The markets went from calmed to concerned virtually overnight, and there are good odds that the impact of Brexit is now priced into the market. There are now better odds that US monetary policy remains loose for the time being, as collateral damage is assessed. Not to make light of the situation, but with the British Pound Sterling at $1.36, a London vacation may be in the cards for some.
And, if you’re with me (or not!) in feeling that this development has bilious implications for the future of American politics, you should read this extraordinary essay by former British Prime Minister Tony Blair. A brief out-take:
The political center has lost its power to persuade and its essential means of connection to the people it seeks to represent. Instead, we are seeing a convergence of the far left and far right. The right attacks immigrants while the left rails at bankers, but the spirit of insurgency, the venting of anger at those in power and the addiction to simple, demagogic answers to complex problems are the same for both extremes. Underlying it all is a shared hostility to globalization.
He has a lot more to say on the issues, and he does know what he’s talking about. You really need to read the piece.