The economic contagion of Brexit has not spread – yet

In the short-run, the softer the Brexit split the more positive for business confidence, but until a strategy has been developed we don’t know whether this would be politically sustainable

Hamish McRae
Saturday 23 July 2016 15:21
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The economic analysis post Brexit has been positive so far
The economic analysis post Brexit has been positive so far

Recession next year? Or, if you want to be truly gloomy, later this year? Or will we sail through more or less unaffected, with the policies designed to boost growth offsetting any uncertainty that followed the Brexit vote?

Until Friday, the evidence seemed to point towards the more positive end of the scale. Stock markets had recovered, with the FT100 index of large companies close to its 12-month high, and the medium-sized companies’ FT350, whose members are more dependent on the home market, recovering most of the ground lost since the vote.

The Bank of England agents, who monitor business sentiment across the country, reported a reasonable degree of confidence. And contrary to pre-vote stories, jobs continued to expand right up to the vote, bring unemployment down to 4.9 per cent.

Hammond on borrowing

Then came the PMIs. These are purchasing manager indices, an odd expression that describes surveys of business opinion, where managers are asked whether they expect to sell more goods, hire more people and so on over the coming months. Companies have to answer “more”, “same” or “worse” to a series of questions. All the plusses and minuses are added up and based to 100. So, if the plusses are more than the minuses, then the number is going to be higher than 50, signifying expansion. If below, contraction.

Markit, a research company, did a special post-Brexit poll. The results show that in Europe there was little change, in the US, if anything, people were more positive (though that would have had nothing to do with the vote), but in the UK there had been a huge shock to confidence. The overall index fell from 52.3 to 47.4.

That is massive: far worse than expected. But what does it mean?

We don’t know. If the usual relationship between these surveys and the economy holds true, it would indeed signal a recession. The issue is whether a poll taken in the immediate aftermath of the vote, when the Prime Minister had committed himself to resign and the Leave camp were so evidently unprepared for their victory, is really valid. We now have a new government, which at the time of polling had not been expected to be in place until September. The new chancellor has abandoned the fiscal targets of his predecessor. And the Bank of England seems set to take action in August to boost the economy.

Feed these in and some confidence will have returned. So future PMIs are likely to be a bit better, but maybe not much. My guess is that we will not have any real feeling for the economy until October, just ahead of the Chancellor’s Autumn Statement in either November or early December. Given the time lags in any response to a shock, a shrinkage of the economy is unlikely in the third quarter, but possible in the fourth.

Meanwhile the things to look for will be specific data. These include car sales, actual figures from retailers, home sales, numbers of people flying through airports, hotel occupancy and so on. In other words, not the official data, because those are likely to lag reality, but rather the actual hard numbers from companies.

The other thing to watch for will be indications as to whether it will be “hard Brexit” or “soft Brexit”. That depends to some extent on the rest of Europe, but also on what the UK wants. In the short-run the softer the split the more positive for business confidence, but until a strategy has been developed we don’t know whether this would be politically sustainable.

There is something else. What happens to the UK will turn not just on our relations with Europe but what happens to the world economy. The US seems to be putting on a growth spurt but elsewhere in the developed world growth is faltering, particularly in Japan and much of Europe. If the world economy continues to grow it will pull along even a laggard, such as the UK may become. If it weakens, then it would compound the disruption here. Fortunately there is no evidence at all that what has happened in the UK has led to any contagion, a small ray of hope in a rather obscure scene.

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