US must pay greater heed of Brexit

UK shock could strike European and global economies

It is tempting for Washington and for markets to dismiss the UK’s exit from the European Union as a problem affecting a former imperial power with little relevance to the US and global economies. That would be a grave mistake.

Brexit is casting a dark cloud over the UK, the world’s fifth largest economy, at the same time as other major European economies face meaningful difficulties. A deepening of the Brexit crisis has the potential to spill over from the UK to the rest of Europe, and even to reach the US.

The clock is ticking down to the 29 March deadline for Brexit’s two-year negotiating period. Prime Minister Theresa May’s Brexit deal faltered again in the House of Commons on Tuesday evening. It was rejected by a margin of 149 votes – an improvement over the 230-margin rejection in January, but still a massive defeat. Amendments to the deal, however, seem unlikely to materialise. As European Commission President Jean-Claude Juncker said on earlier Tuesday, ‘There will be no further interpretations of interpretations or reassurances on reassurances.’ Speaking in the European Parliament on Wednesday, Michel Barnier, the Commission’s chief negotiator, reiterated his worries about the UK crashing out of the EU ‘by accident’. That being said, the most probable short-term outcome seems to be that May will request an extension to the two-year negotiating period.

Such an extension almost certainly precludes the risk that the UK will crash out of Europe without a deal on 29 March. However, since a short extension would do nothing to resolve Britain’s underlying political divisions, it does not preclude the possibility of a hard Brexit once any proposed extension expires.

According to most impartial observers, including the Bank of England, the International Monetary Fund and the Organisation for Economic Co-operation and Development, a no-deal Brexit would deliver a crushing blow to the UK economy and more than probably tip it into recession. The UK’s global supply chains would be disrupted, and both domestic and foreign investors would take flight over worries about Britain’s diminished access to Europe’s single market, which consumes around half of UK exports. Major companies like Honda and Dyson have indicated their intention to relocate some, if not all, of their UK activities abroad to ensure continued smooth access to the single market post-Brexit.

In the two and a half years since the June 2016 Brexit referendum, the UK has gone from being the fastest to being the slowest growing economy in the G7. British politics has fractured and there has been a marked decline in the pound.

Requesting a short extension for further negotiations will only prolong the period of investor uncertainty, to the detriment of the UK economy. It will do little to restore order to UK politics, nor will it eliminate the risk that of British crashing out of Europe at the end of the new term.

A stumbling UK is the last thing that an already challenged European economy needs. The German economy is showing clear signs of sputtering in response to a slowing of the Chinese economy and fears of US tariffs on Europe’s automobile exports. Meanwhile, the rise of the ‘gilets jaunes’ is buffeting the French economy.

Worse yet, a highly indebted Italy has again slipped into recession for the third time in the past decade. Investor confidence is undermined by its populist government’s seeming disregard of the need for disciplined budget policies. This raises the risk that a further European economic setback could trigger another and more painful round of the European sovereign debt crisis in a country around 10 times the size of Greece.

At a time of considerable global financial market fragility, it would be in the US economic interest to promote a healthy UK and European economy. Hopefully the administration in Washington will remain alert to the risks to the US and global economies associated with a hard Brexit, and do whatever it can to help prevent such an eventuality.

Desmond Lachman is a Resident Fellow at the American Enterprise Institute. He was formerly a Deputy Director in the International Monetary Fund’s Policy Development and Review Department and the Chief Emerging Market Economic Strategist at Salomon Smith Barney.

Join Today

Connect with our membership team

Scroll to Top