What to expect from Brexit

Brexit

As you know, the United Kingdom voted last week to leave the European Union.   Investors are asking “What can we expect?”  I asked my friend Ed Salazar, a former US diplomat who has been living and working in London since 2011, to send me his thoughts.  Here is his “on the scene” report.

“Since the days of the European Economic Community, the UK has chosen to operate on the fringes of the organization which evolved into the EU.  It has done so primarily to preserve as much of its freedom to act as possible under the terms of its membership.  Today, as a result, the UK has a "special relationship" with the EU that is unlike any other member state -- it is not part of the Eurozone, it is not in the Schengen area, it has opted out of many EU provisions to minimize EU encroachment on UK legislative freedom.  It has been reticent to cede any significant decision-making authority to the EU without direct British involvement.  The relationship with Brussels has evolved from one based on the common interests of a treaty-based common market, to one challenged by the ambitions of a supra-national organization that continues to embrace the Cold War-era notion of an “ever closer union” – a notion that is increasingly out-of-step with the politics of many member states, including some founding members.

One important fact regarding the UK-EU relationship that, barring unexpected developments, is not likely to change is that the UK and EU will still need each other, whether or not the UK is a member.  The UK and the EU need to have each other firmly embedded in their markets to sustain their economic potential.  Some believe that the UK need not be a member of the EU for this to continue.  Many of the mechanisms that allow financial and trade relations to continue as they have under the treaty are negotiable.  Politics aside, neither will want to put those at risk, so there is incentive on both sides to seal a deal as soon as possible.

Of course, this does not mean that there will not be a lengthy period of uncertainty, but both sides have an interest in narrowing the scope of the uncertainty in trade and financial markets as quickly as possible, barring other possible developments.  Where the uncertainty is less understood and harder to estimate is in the political consequences of the Brexit referendum both on the continent, as well as in Great Britain.  Some speculate that Brexit will fuel growing frustration with Brussels and other countries will follow suit -- France, Netherlands, Denmark, Sweden, Germany, and Spain.  Unless carefully managed, the EU could crumble, losing its status as a supra–national common market with growing centralized trade and regulatory authority.  If this is accompanied by a continuing rise in nationalism and protectionist policies, the resulting instability would be difficult to contain.

If you simply consider the mechanics of everything that must take place for a smooth UK exit, the economic consequences need not be severe or long lasting. However, it's the possible domestic political consequences that could envelope the UK into prolonged economic uncertainty and chaos. If Scotland leaves, and, under present circumstances, that is a real possibility, that is the virtual end of the UK. The departure of Northern Ireland may follow, reducing Great Britain to England and Wales. 

This is the frightening scenario that has everyone on edge.  It is an open question whether or not the UK can avert this disaster -- and whether the EU can weather this storm -- but that is not a foregone conclusion. Both major political parties and their leadership have become perhaps irreparably fractured as a result of Brexit, but a majority of members of parliament oppose Brexit; the public is calling for another referendum; and key political leaders from both sides of the question are already looking for compromise solutions.  There is some hope for a path to a compromise solution and the urgency of the situation could make that path visible soon. But the path could be long and rough and the destination uncertain.” 

 

Kenneth B. Petersen CFP®, EA, MBA, AIFA® is an investment advisor and Principal of Monterey Private Wealth, Inc., a Wealth Management Firm in Monterey.   He welcomes questions that you may have concerning investing, taxes, retirement, or estate planning.  Send your questions to: Ken Petersen, 2340 Garden Road Suite 202, Monterey, CA93940 or email them to ken@montereypw.com.