Volatility will subside and relationships can be repaired, but there are far more dangerous consequences ahead
By Sean Butters
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Four reasons why Brexit could spark a global meltdown
Plunging markets and political upheaval this morning are the immediate consequences of the vote to leave the EU.
But while volatility will subside and relationships can be repaired, Anatole Kaletsky, chief economist at Gavekal Dragonomics says there are far more dangerous consequences ahead.
The butterfly effect
Despite Britain’s share of global GBP generally varying between 2.5% and 4% (depending on markets and purchasing power parity exchange rates), Kaletsky said that London’s status as a global financial centre means the scope for contagion is very real.
'The UK is a significant part of the global economy and the prospects for trade, investment, asset prices and banking stability in Britain will be gravely damaged,’ he said.
‘As we learned from the sub-prime crisis, and again from Greece and Ireland, serious disruptions in a small part of the global economy can be magnified many times over by global interconnections, and this amplification process is much more powerful and much faster when it works through financial markets and investor expectations.
‘Given Britain’s very large current account deficit and the exposure of the British banking system to property values, the potential for a financial crisis and then contagion to the rest of the Europe is a clear and present danger.’
Herd mentality
The Brexit debate may be over, but what if other the EU-hostile nationalists such as France's Front National, push to leave the union?
‘The political impact of British withdrawal on other EU countries is potentially huge but also totally unpredictable,’ Kaletsky warned.
‘Whether this will mean a tightening or a loosening of ties among the other EU countries or even perhaps the total breakup of the EU or the eurozone will emerge only gradually in the months ahead. The credibility of the EU and European Central Bank’s efforts to prevent another outbreak of the euro crisis and to keep Spain, Greece and Italy within the euro will be severely tested and questioned by the markets – and, even more importantly, by the citizens of all these countries.’
Trump suit
Similarly, nativist and anti-globalist politicians across the world will be emboldend.
‘In the rest of Europe direct imitation is highly probable,’ he said. ‘In the US, the connection will be subtler but powerful nonetheless. Although US voters will not be inspired to support Donald Trump by the British example, financial markets and political pundits will be forced to take the Trump phenomenon much more seriously because expert opinion and prediction markets turned out to be so misguided in the British referendum result.
‘Trump will acquire greater credibility and financial support, and it also increases the risk that political uncertainty ahead of the presidential election will trigger a US financial crisis or recession.’
And most disturbingly…
Finally, and ‘perhaps most disturbingly’, Kaletsky highlighted the distinct possibility that once the Brexiteers realise that leaving the EU was not the solution for their grumbles after all we can expect a second wave of rebellion that may turn out to be more than just a domestic problem.
‘The referendum has produced an extremely fractured and polarised society,’ he said.
‘If, as is likely, Britain now suffers some kind of financial crisis and recession, the people who voted for Brexit will discover that leaving the EU has not resolved any of the economic problems and social grievances that provoked their protest against the political establishment.
‘If this happens, public anger will presumably intensify, rather than calm down. A similar disillusionment is likely in other countries whose voters decide simply to overthrow political elites and dismiss the analysis of economic “experts”, without having any serious alternatives to put in their place.’
What should you do?
‘Rather than trying to base a strategic response to this earthquake on purely speculative assumptions about British or European politics, trade negotiations or monetary policy, this is a time to behave tactically,’ Kaletsky said.
‘As in the immediate aftermath of the Lehman bust, the priority must be to protect positions, raise cash and retain optionality to respond to whatever opportunities or disasters may emerge in the coming weeks and months.’
Barry Bennett
Jun 24, 2016, 11:35