On September 1st the UK’s Manufacturing PMI (Purchasing Managers’ Index) released data that showed that incoming new orders and the output for manufacturers had rebounded following the June 23rd vote by the UK to leave the EU. The ten-month high has led many pro-Brexiters to claim that the scaremongers were proven wrong. A Conservative member of the Commons Treasury committee is even reported to have claimed that the Bank of England moved too early in cutting interest rates to 0.25 per cent in August. Are they right?
Setting the political hyperbole on both sides of the Brexit debate in the lead-up to the EU referendum to one side, the consensus of most economists was that Brexit would present challenges for the long-term growth of the UK economy. It’s not surprising that there was extreme volatility in the financial markets in the days following the leave-vote; markets tend to react, initially, emotionally to almost any trivial, much less significant bit of new information before reason resumes. This was quickly calmed by the decisive action of the Bank of England, which appears to have been the only part of our governing institutions that had a plan. Since then, the Bank of England has initiated a number of policy moves designed to mitigate against the risks to the economy posed by the ‘leave’ vote, and to stimulate business activity to stave-off any possible crises before it began, rather than wait until there is a crisis, and then deal with it.
The 10 per cent depreciation of the pound Sterling has made the UK’s manufacturing products cheaper, and resulted in a post-Brexit vote manufacturing ‘bounce’ in the intervening months. Of course, the 10 per cent depreciation of the pound also means that the UK is poorer than before Brexit. Over time this will result in higher input and import costs for manufacturers and retailers alike, as their costs of buying goods and services abroad go up. The higher costs of buying goods and services internationally will inevitably result in higher prices for consumers and manufactures over time.
To assume that a bounce in manufacturing data over the past few months is a sign that there won’t be any wider implications for the UK economy is both dangerous and profoundly naïve for two reasons. First, Brexit hasn’t been triggered yet (a small point that appears to have been largely missed by some commentators). And second, it’s not the way that business works.
Let’s take the second point first. There is a considerable academic literature, including my own research, that suggests that when businesses are faced with significant uncertainty over political or regulatory change they tend to adopt a ‘wait-and-see’ strategy. Waiting and seeing often means that future investments are put on hold, or at least reviewed. Some businesses will put in place contingency plans for different scenarios, but most wait to see what the direction of travel is within their political and/or regulatory environment before making business decisions about the future. Such business decisions might include where to locate/relocate, expand/contract, invest/divest business activity. When dealing with uncertainty, the lens that business leaders use to make sense of it is made up of the factors that impact most directly on their business activities. They include how the changing landscape will affect their costs and profitability generally, and their customers, employees, shareholders, suppliers and access to markets more specifically. They will weigh up both risks and opportunities, at first informally, and as the future becomes more clear, formally.
A vote to leave the EU was never going to mean that businesses in the UK would simply close their doors and turn their backs on previous investments (indeed, I argued this in a BIS Select Committee hearing before the referendum
). It should, therefore, be no surprise that for most businesses it is ‘business-as-usual’ as they wait to see the direction of travel, and that demand for UK manufactured goods is enjoying a short-term boost due to macroeconomic factors such as a depreciated currency and the decisive action taken by the Bank of England to stimulate the economy.
As for the first point, Brexit (in whatever form) has yet to be triggered. What became clear immediately following the June 23rd vote to leave the UK is that the UK government had no plan for what would happen if there was a ‘leave’ vote, and no idea of what a new set of relationships between the UK, the EU and the rest of the world might look like in that event. As of yet, the direction of travel remains uncertain. So far what we have seen is: an ‘unexpected’ vote to leave the UK; the resignation of the Prime Minister; political machinations in the governing party and the implosion of the official opposition party; the ‘election’ of a new Prime Minister, the appointment of ‘Brexit’ ministers and the establishment of a shiny new ‘Brexit’ ministry; the new PM and the old PM going off on vacation while the three new Brexit ministers argue in Starbucks about who gets what office space (or something along these lines).
Aside from statements that ‘Brexit means Brexit’, there is still little evidence that there is a clear UK negotiating position with the EU, a plan, an idea of the timing of when Brexit will be triggered, or even a broadly-defined vision of what the future UK-EU relationship might look like.
How businesses react and the long term effects on UK economic growth, jobs, living standards and prosperity will, therefore, depend on the different scenarios that could emerge after Brexit is triggered. A Brexit-lite scenario, where the UK maintains membership of the European single market with perhaps opt-outs from further political and regulatory integration, continuing free-movement of people with possibly some controls over immigration surges, or something akin to this, may well mean that there is little negative economic impact at all from the referendum on EU membership. It’s possible that such a scenario might even have a positive impact on economic growth if it makes the UK an even more attractive business and economic environment to invest in. This would obviously be a much more politically and technically difficult deal to negotiate, and would most likely have to be done through Article 48 of the Lisbon Treaty (the mechanism for amending the EU Treaties), rather than Article 50 (the mechanism for leaving the EU).
A hard-Brexit scenario, which appears to be the emerging consensus within the Conservative Party, which has been buoyed by the recently misinterpreted manufacturing data, also has different possible outcomes. An outcome where the UK simply reverts to World Trade Organization (WTO) rules and effectively cuts the Gordian knot of the UK’s continuing membership of the EU would almost certainly be costly for the UK and result in companies who depend on the EU as a major export market directing future investment elsewhere. But the effects of this would take time to filter through the economic system, and over a period of years the UK would experience lower business investment, less high-quality employment, dampened growth and diminished living standards compared to what it would have had if it had remained part of the EU.
Of course, there is also a hard-Brexit scenario where the UK thrives (depending on what your definition of this is). In this scenario the UK sets itself up as an attractive low-tax (and its corollary low-public spend) jurisdiction, and does trade ‘deals’ with the rest of the world, which could be very attractive to multinationals like Apple (who has also been in the media this week over their arrangement with Ireland for minimising their corporate taxes paid in other countries), global wealth managers, exporters etc. to set up or expand their activities. In other words, in such a future the UK, by de-tethering itself from Europe, becomes more dependent on, and exposed to the vagaries of globalisation, including what some would argue are the more pernicious trends that have accompanied it (increasing inequality between those that benefit from globalisation and those that have been left behind, for instance). These, of course, would be policy directions the UK government would have to balance against the ‘spirit’ of what people voted on in the referendum and a more simplistic interpretation of the the vote itself – i.e. ‘Brexit means Brexit’.
In sum, the recent manufacturing data tells us almost nothing about the economic implications of the ‘leave’ vote in the EU-UK referendum for the UK economy, investment for the future or how business sees it. They do, however, tell us quite a lot about short-term macroeconomic fluctuations in exchange rates and supply and demand. To read too much into statistics such as these is to misunderstand how business behaves, their strategic intent and the long-term implications of Brexit under different scenarios. Businesses will wait to see the direction of travel, and develop their decision-making strategies from there.