Brexit: Its uncertainty everywhere – Rabobank

Jane Foley, Research Analyst at Rabobank, suggests that the opinion polls have been warning of the possibility of a Brexit for some time, nevertheless the scale of the move in asset prices overnight reflect the immense shock that has been unleased on the global economy.

Key Quotes

“Although it is currently off its lows, the 11% plunge in the value of cable overnight from yesterday’s highs mirrors the almost overwhelming degree of uncertainty that now shroud the UK economic and political outlooks. The position of PM Cameron may prove to be untenable and the discord in the government over EU membership suggests that there may not be strong leader to take the take the country through the complex procedure of divorce with the EU.

What’s more, the binds the tie together the United Kingdom may have been loosened with Scotland’s SNP stated that it “sees its future as part of the EU” and Ireland’s Sinn Fein calling for Irish unity in the wake of Northern Ireland’s preference to remain within the EU. That said, the real legacy of the Brexit is likely to be far larger that its impact on the UK economy.

EUR/USD has dropped over 4% since yesterday’s highs as the investors question the cohesion and coherence of the broader EU. Anti-EU sentiment is already a strong force in many European countries and a Brexit has the capacity to widen these fissures.

In the wake of Brexit, several countries will be examining their relationship with the EU. Surveys have highlighted that anti-EU sentiment is high in countries such as Italy, Spain and France. While countries such as Denmark, Sweden and the Netherlands will have to come to terms with an EU which has a different centre of gravity. In reference to whether a Brexit could spark other countries to follow suit, German Finance Minister Schauble recently remarked that “you can’t rule it out”.

In terms of economic impact it is possible that countries such as Ireland and the Netherlands may find themselves hit hardest by Brexit. The German Institute for Economic Research has warned that a drop in German exports could reduce German growth by as much as 3% over the longer term. These forecasts, however, assume the political status quo holds in Europe. If political disharmony in Europe grow this will spread the economic fallout. Although it is impossible to currently fathom how substantial this could be, the uncertainty would have a negative impact on the EUR long before the effects on growth became clear.

Given the economic risks the market is pushing back on expectations of Fed rate hikes and embracing the likelihood that a host of other central banks may be more inclined to ease. While central banks will be ensuring liquidity as a first line of defence, rate cuts from the ECB, BoJ, RBNZ, DNB, SNB look most likely over the coming months in view of their existing dovish dispositions. A move from the BoE has also been enhanced. Amongst all the uncertainty, volatility in FX can be expected to remain heighted for some time.”