In a referendum held on 23 June 2016, the majority of British people who voted chose to leave the European Union. The UK was expected to leave the European Union at 11 pm on 29 March 2019.
However, following a House of Commons vote on 14 March 2019, the Government sought permission from the EU to extend Article 50 and agree a later Brexit date. Even when the EU extends the Brexit deadline, it is still anybody’s guess as to when and under what terms Britain exits the EU.
The starting point of Britain’s Brexit bedlam has been the open-ended nature of the referendum question put to the public: “Should the United Kingdom remain a member of the European Union or leave the European Union?”
Given the nature of the question, it has been used as a launch-pad for all sorts of arguments by the Leave campaign, ranging from the need to end free movement from the EU and immigration more widely, to having the opportunity to strike trade deals independently, to ending payments to the EU, to challenging the establishment.
The prolonged political and economic uncertainty that Brexit has generated is unprecedented by any standards. Most economic and political shocks subside fairly quickly as markets learn how to cope with them efficiently.
The Brexit uncertainty has however persisted, and as more time has passed without a deal on the terms of the UK’s withdrawal, firms have become more uncertain about whether a deal will happen at all, what the terms of that deal might be, and whether there will be a second public Referendum.
Emphasising how much damage Brexit has already done to business investment, which accounts for around 10% of UK GDP, the Bank of England noted that the post-2008 recovery in firms’ spending had “stalled” since the 2015 referendum act was passed.
The Bank’s 2020 GDP growth rate has been reduced to 1.5%, down from 1.7% previously. In the current climate, the Bank’s Monetary Policy Committee voted to keep interest rates unchanged at 0.75%, and the markets are currently expecting this rate till mid-2020.
Bloom et al. (2019), who observe that “(t)he clearest historical parallel that led to such an extended period of uncertainty as Brexit is the Great Depression, which started with the stock market crash of 1929 and generated continued uncertainty until 1932”, have been running the Decision Maker Panel, a survey of around 7,500 business executives in the UK.
The survey collects data on how companies say that they are being affected by Brexit and on variables such as sales, prices, investment and employment. It runs monthly, helping to track businesses’ views in almost real time.
Results indicate an increase in uncertainty arising from Brexit since August 2016. The share of firms responding that Brexit was one of their top three drivers of uncertainty rose from 36% in August 2016 to 54% in the period between November 2018 and January 2019, with the proportion who thought that Brexit was their top current source of uncertainty increasing from 9% to 23%.
Also, Brexit is likely to reduce future UK productivity by around half a percentage point with output being reallocated away from higher productivity firms toward lower productivity ones. On average, businesses expected Brexit to eventually reduce their sales by around 3%. The effects on exports were also expected to be negative, while unit costs, labour costs, and financing costs were expected to increase.
Surely, uncertainty is not good for businesses because it often leads to delays in key investment and planning decisions. In order to assess the impact of Brexit uncertainty we consider BDO monthly trends of inflation, employment, output and optimism among British businesses. There are four indices covering inflation, employment, output and optimism, which are calculated by taking a weighted average of the results of the UK’s main business surveys:
- CBI Industrial Trends Survey
- CBI Monthly Trends Enquiry
- Bank of England Agents’ summary of business conditions
- Markit/CIPS Manufacturing and Services PMI data
The BDO Monthly Trends Indices are ‘polls of polls’ that pool together the results of all the above UK business surveys. The latest April 2019 BDO report suggests that the employment and optimism indices both fell between February and March, while the inflation and output indices recorded gains. Insolvency and restructuring trade body R3 also reports of increasing insolvency of businesses since the Referendum, as companies face rising inflation, exchange rate fluctuations and uncertainty, all exacerbated by protracted Brexit negotiations.
The Confederation of British Industry‘s Industrial Trends Survey of total order book balance tracks changes in the level of factory orders from around 500 companies across 38 sectors of manufacturing industry. The survey covers domestic and export orders, stocks, price, investment intentions and output expectations. Manufacturing new orders fell at the fastest pace in three years in the quarter to October 2018, reflecting falls in both domestic and export orders, according to the latest quarterly CBI Industrial Trends Survey.
Using the Brexit referendum as a natural experiment, Crowley et al. (2019) estimated the impact of uncertainty associated with trade agreement renegotiation on the export participation decision of firms in the UK after the 2016 Referendum. Their results show that the switch to a renegotiation regime decreased firm entry into and increased firm exit from exporting to the EU for UK-based firms.
The impact was largest for products facing as threat points (a) higher ‘ad valorem’ tariffs; (b) tariff rate quotas; and (c) specific duties. This suggests that UK firms placed positive probability on the likelihood that negotiations could break down and leave some firms facing substantially higher barriers in exporting to the EU. On average, the threat of a one percentage point increase in the ad valorem tariff decreased (increased) the growth rate of entry (exit) by 1.1 percentage points (0.5 percentage points).
There are also companies out there who are looking to profit from the uncertainty of Brexit. Prices for consumer goods have risen in the UK by more than 3% recently. This is not good news though, especially when wages and salaries are generally rising by a much lower amount. If this continues, then we could see consumer demand fall quite significantly as the population tightens its purse strings.
Added trade costs after Brexit could push up prices further which may filter through to the retail sector, which is crucial to the UK economy, with the sector alone worth £92.8 billion in 2017. That would undoubtedly lead to more companies facing uncertainty about the immediate future, which in turn could lead to a decrease in investment resulting in an increased number of insolvencies. Similar concerns regarding inflation and consumer confidence have been voiced by the Federation of Small Businesses.
Pissarides et al. (2019) have argued that traditional manufacturing employment has been declining for nearly four decades, with many struggling regions never recovering. Some constituencies in the North East, Midlands and Wales have over 30% of their employment in manufacturing and it is no coincidence that many Leave-voters reside in these areas most affected by deindustrialisation. The manufacturing industry is heavily dependent on international supply chains across the globe, especially for the production of more complex goods.
If tariffs are introduced for border-crossing, this will mean higher costs to firms, and reduced foreign demand for exports, both of which will put more jobs at risk. In the medium and longer term, there are abundant signs that manufacturing firms may decide to locate production plants outside the UK to reduce the frictional costs of trading.
Regions with high dependence on manufacturing employment are particularly exposed to these changes. According to the authors, a decline in the manufacturing sector caused by technological disruption will also put pressure on the transport sector, which accounts for as much as 31% of employment in many constituencies. Also, the retail sector comprising textiles, clothing and footwear will be among the hardest hit of UK industries, with Brexit likely to reduce the gross value added by up to 7%.
While job cuts can be a short-term measure, in the long-term British businesses need to find ways to plan to invest, innovate and grow. Given that many of the input supplies for building and making a product in the UK come from the EU, so tariffs and custom duties will put those costs up, thus inducing these businesses need to act now.
Businesses closely integrated into EU supply chains would therefore be well advised to consider and plan for sourcing elsewhere – locally or outside of the EU. And this advice is not just restricted to manufacturing but also to the professional services, like accountancy, where large numbers of people from inside and outside the EU are employed, so ease of movement is important. Businesses that have no contingency plans in place as formal Brexit approaches are the ones that are more likely to face specific Brexit related difficulties.
However, as noted in the Financial Times, Brussels did advise companies to be ready for a hard Brexit on March 29. Those who took that advice and prepared accordingly will actually be penalised as Britain’s exit is delayed now. Carmakers built their contingency plans around March 29, from booking warehouses and stockpiling parts to scheduling production holidays. They will struggle to adapt those plans to a short three-month delay, or worse still a series of short extensions. Money is likely to be wasted and plans torn up in the process.
For three years the world has been watching with bewilderment and wondering whether Brexit would happen in time, and if so under what terms. Hopes have not yet disappeared about a Brexit deal as Parliament attempts to find a cross-party consensus. We live in hope!