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A no-deal Brexit scenario appears to be stronger as exit day approaches
No-deal Brexit can adversely affect the U.K. government’s efforts towards economic revival and inflation control
Growing fears about a no-deal Brexit have already led to shrinking activity in the U.K.’s manufacturing, construction and services sectors
The chances of the UK leaving the EU without a deal are “60-40.”
—Liam Fox, UK International Trade Secretary (August 05, 2018)
On August 8, 2018, the U.K. pound sterling (GBP) touched a 9-month low against the euro to just above 90 pence, responding to growing concerns about a no-deal Brexit. Long considered the one silver lining on the Brexit cloud – that the weakening GBP was expected to strengthen British exports – there are now fears that rising inflation, disrupted supply chains and overly complex trade barriers will erode any benefits that a weakening pound may offer.
Amidst news of the U.K. government preparing for shortages of food and medical supplies, there is also growing focus on understanding what a no-deal Brexit specifically means for the economy. Recent reports suggest that the government is planning a series of 70 documents detailing how different sectors of the British economy will be affected.
The WNS DecisionPointTM report — Road to Brexit: The Customs Union Puzzle and U.K. Economy - analyzes some of U.K.’s key economic indicators and draws insights into their behavior as Brexit day draws closer.
Here are some of the key findings:
The growth of the U.K. Gross Domestic Product (GDP) has slowed in 2018, with Q1 registering growth of 0.1 percent as against growth of 0.4 percent in Q4 2017. Despite the growth in business investments and positive net trade, the falling GBP impacted real incomes, thus affecting consumption, both consumer and government. Predictions across the board suggest a stable but muted growth rate for 2018 – but that needs to be driven by further increase in business investments and economic activity
The U.K.’s total current account deficit narrowed to 3.4 percent in Q1 2018 from 3.8 percent in Q4 2017, contributing positively to GDP growth (Office for National Statistics data as on June 29, 2018). While a big part of this narrowing is due to primary income deficit driven by earnings on Foreign Direct Investments (FDI) into the country, in the context of Brexit, the net trade deficit will play an important role. The outlook for trade is completely dependent on the government’s Brexit and third country trade deals as well as global trends in international trade
Business investments have been the hardest hit due to the Brexit uncertainty, and businesses have been delaying decisions of real estate and capital investments. Manufacturing and construction sectors have already seen shrinking activity, while the strong British services sector has shown the first signs of shrinking since 2010 on fears of losing out passporting rights. The outlook here will also be driven largely by Brexit, with business investment flows having downstream impact on reviving economic activity, controlling inflation and enhancing productivity
With the British economy being on a slow burn, bond yields have been subdued in the 1-1.60 percent range since Q1 2018. After inflationary pressures finally convinced the Bank of England to raise rates by 0.25 percent, the yields have hardened slightly with the 10-year bond yields rising to 1.317 percent (as on August 9, 2018) from 1.302 one month ago. A no-deal Brexit may exert further pressure on the pound sterling and current account deficit, leading to greater inflationary pressures. Money managers therefore expect this trend to continue and are taking short positions on 10-year gilt swaps expecting a further rise in rates
On August 3, 2018, Bank of England chief Mike Carney told the BBC that the worst case scenarios that the bank was stress testing itself on included “real-estate prices going down by more than a third, interest rates going up by almost 4 percentage points, unemployment rising to 9 percent and the economy going into a 4 percent recession.” While he stressed that these were not predictions but preparations, businesses are going to be watching economic and market movements closely for further clarity.
Click here for the Brexit series from WNS DecisionPointTM