The newspapers, TV and internet sites are all about it. In case you woke up late and missed it all, we are talking about BREXIT, a hashtag that was trending in twitter for long. The Brits voted in a referendum to leave the European Union or EU. Many have called it a devastating and shocking development that could plunge the world into economic chaos. True – David Cameron the British Prime Minister plans to step down as stock markets around the world went into a cold shudder. The NASDAQ, DJI, S&P in the US reacted nervously and hit negative territory.
Donald Trump, the presumptive Republican Presidential nominee voiced his opinion too. He called it a victory for UK “since the people had taken back their country”. However, other US leaders on both sides of the aisle were cautious in their response. If the US response was cautious, it had good reasons to be so. It reminded Washington and Capitol Hill of the fragility of the European Union and warned of a potential exodus by other states. An already weak Europe caught in the Brexit crisis, has stoked fears of a full blown European recession and similar consequences on the US economy. Many European and world leaders worried that if a special US ally like UK could exit, there was no stopping other countries.
Markets in Europe and Asia also reacted negatively to the will of the Brits, it appeared. All this reaction was in response to the referendum result. The UK referendum itself was unprecedented. With the highest turnout since 1992, 72% came out and had their say with 51.9% voting to ‘Leave’ and 48.1% wanting to ‘Remain’. The referendum also showed the geographic split -Brits wanting to ‘Remain’ were concentrated in London, Ireland and Scotland areas whereas the hinterland was rooting to ‘Leave’.
To start with, Brexit itself is at the heart of a complex problem. Many have attributed it to the large influx of immigrants in the recent past as the trigger. In a bad economy, the influx has only aggravated the pressure and really tested the very concept of the ‘welfare state’. Per data released by the Britain’s Office of National Statistics net migration to the UK reached a record 330,000 in the year ending March 2015 while the size of the foreign-born population reached 8,277,000. Many have opined that this could stress the government and infrastructure. For example, the net influx would put pressure on an already aging UK water supply system, not to mention the increase in students enrolled per class in the primary schools.
The referendum also had important lessons for other European nations like - France, Germany, Denmark where nationalist movements have gained strength in the recent past as a reaction to the flood of immigrants.
It may be hard for many to imagine that a net influx of 330,000 migrants could tip the scales in a developed economy like UK. That number may be small by the standards of the US or other large population centers elsewhere in the world. But it has to be conceded that for a small geography like the UK, these numbers are significant. This issue, has been the last straw on the camel’s back and has created the chasm that has polarized the UK. ‘Remain’ activists have accused the ‘Leave’ activists of xenophobia which in turn has only fueled the growing gap. But the truth is that a long running recession leading to near desperate economic conditions provided the fuel and immigration the spark to ignite the Brexit bomb.
Many observers have raised fears of a recession in Europe and potentially in the US too as a direct consequence of Brexit. The nervousness in stock markets around the world has only accentuated this fear. Some have even predicted the end of globalization and a collapse of international trade. Others have pointed out that the falling UK currency – the pound - has its own benefits like making exports cheaper and attracting more tourists to the UK. All this may be true in the short run. But I will not bet on the fall of the pound over the long run and hence these benefits may be short lived.
Will Brexit spawn these severe consequences as many fear? For sure, opinions are deeply divided. First off, much of the fears of a disaster are impulsive reactions and as often happens in such cases, are exaggerated. The stock and currency markets will stabilize soon. Many of the uncertainties we fear today are over the short term.
Truth is that global trade is in the throes of reinventing itself. Brexit, in all probability, portents to the emergence of a new trade order and tariff regime. The crisis itself can catalyze the emergence of new trading paradigms or partnerships – bilateral as well as multilateral - that more accurately reflect the global economic and trade realities, rather than proximity, political and militaristic calculations. There are historical parallels and the emergence of EU itself was a product of such negotiations. In this context, it is worth pointing out that many of the extant trade blocks and treaties as well as those in the works exclude some heavy weight economies like India and China and hence by definition are not representative of economic and trade realities. For example, Brexit could engender a new trading block that includes UK, Japan, Germany and India sooner than many have imagined. Any permutation of economies that are bound by mutually beneficial trade could emerge.
When we step back and take a 30,000 feet view of the Brexit crisis, we see one country has filed for divorce from a trade alliance. The UK is not the United States in terms of geography or size of its economy. Both the EU as well as UK will continue to trade with each other, albeit in a different tariff regime, and with the rest of the world. Hence painting a doomsday scenario is untenable and devalues human ingenuity and the genius to execute profitable global trade.
The emerging economies of Asia, specifically India and China, will continue to trade with UK and EU. So by no means this is the end of globalization or global trade. In fact, the world will suck up Brexit and move on, faster than many have imagined. Nor will the world go into recession.
Having said that, in all probability, UK businesses in the short to medium term will suffer adverse economic and trade consequences. The Bank of England may lose some serious treasure defending the pound. But human ingenuity and survival instincts will prevail and new beneficial bilateral trade deals will be worked out.