Another consideration here is that the United Kingdom might have linked its economy with the EU, but it never did blend in its beloved British pound by adopting the euro currency. Germany, France and the other nations all adopted the euro as their currency. If Britain wanted to pursue a Brexit if it had accepted the euro and dropped the pound, this process would have been far messier, both in Britain and also in continental Europe. In some ways, it would be like trying to value the U.S. dollar without Texas or California in the economy.
How May goes forward with the Brexit effort by March 29 after Tuesday’s loss remains unclear. She could double down by insisting that the Brexit vote of the people needs to be carried out. She might also try to work on additional negotiated points with the Europeans. This remains an unknown as of Tuesday. But the Europeans on this same day made it clear that there is little wiggle room on what they had agreed to in November as their best deal for an orderly exit. Regardless of the changes proposed, if changes are pursued, it will require another vote in Parliament.
Another possibility is that May could call for a general election or for a second referendum. As of now, both of those efforts would create a delay to the formal Brexit date. It also would entail May putting her own prime minister job up for grabs. The decision on how to pursue the next strategy is widely expected to be this coming Monday, and a revised deal would come with yet another vote in Parliament within weeks.
According to multiple reports out of Europe on Tuesday, the EU will continue to prepare for the possibility of a “no-deal” come time for Brexit to occur. In short, the Europeans are at least preparing for the messy Brexit scenario.
One serious issue is that the United Kingdom is now in a fractured political state in the wake of Britain’s exit vote in 2016. From an outsider’s view, it seems hard to expect wording and terms that both parties can and will agree to. Again, compare this to any controversial issue between Democrats and Republicans in the United States, and then magnify it around sovereignty. Without a deal in place by the March 29 Brexit date, assuming that is not somehow delayed, that would mean that further trade agreements have to be reached with the members of the EU without any formal understandings and guidelines really in place.
At least one prominent investment firm sees Brexit as a problem for U.S. equity investors. Merrill Lynch noted in the January 2019 RIC Report that the combination of the U.S. government shutdown, trade tensions with China and Brexit have created the perfect ingredients for a market rebalancing that it is currently addressing as a “baby bear.” The Merrill Lynch RIC report also discussed asset classes by country in its equity portfolio views, noting that concern over weak GDP growth and the Brexit fallout remain for the United Kingdom, and that concerns remain that the economic slowdown results in a recession. By its count, Brexit matters when adding it in with domestic issues inside the United States.
It seems obvious that American companies that conduct business in Europe and the United Kingdom have to pay close attention here. That is particularly true if they have offices and subsidiaries they operate in these countries. Mario Draghi, head of the European Central Bank (ECB), spoke on Wednesday, noting that Europe emerged from its crisis period just a few years ago. The problem is that the ECB really is not on strong enough ground to start raising interest rates in a manner like the U.S. Federal Reserve, which has pursued a move back to a neutral stance on interest rates. That said, the Federal Reserve has started winding down its balance sheet of $4.5 trillion to about $4.0 trillion, but the path for how and when the ECB can begin its large wind-down remains less clear.
Unfortunately, there are still more uncertainties than certainties on how the next step in the Brexit will go between now and March 29. This is a complicated topic, but we wanted to try to give an outlook for what may come down the road next.