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Brexit - still bordering on the ridiculous

Brexit - still bordering on the ridiculous

16-10-2018 | Insight

Stalemate over the Irish border is raising the risk that the UK will crash out of the EU without a deal, says Robeco Chief Economist Léon Cornelissen.

  • Léon  Cornelissen
    Léon
    Cornelissen
    Chief Economist

Speed read

  • Brexit issue to be discussed at EU summit from 17-18 October
  • Core issue remains over how to solve problem of Irish border
  • UK faces real risk of crashing out in March without a deal

The Brexit issue takes center stage at an EU summit on 17-18 October, with the two sides no closer to “squaring the circle” before the UK leaves the EU on 29 March 2019. It means investors face more uncertainty, with a real risk that sterling and European stocks will remain subdued, Cornelissen says.

“They are still kicking the can down the road, but hopefully the time pressure will lead to a compromise in December,” he says. “We still believe that the pound has upwards potential if it comes to an agreement, but in the meantime there will be continued volatility.”

“We think that Brexit is one of the factors (apart from Italy) that is holding back European equities, and if the Brexit risk factor disappears, then this would be positive for European stocks. A hard Brexit though would be disastrous for sterling.”

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Hard versus soft

The main sticking point is what to do with the UK’s land border between Northern Ireland and the Republic of Ireland, which remains in the EU. A soft Brexit, in which the UK stays in the Single Market or Customs Union, means goods can still travel freely between the two countries. However, a hard Brexit in which the UK leaves the bloc entirely, would require checkpoints – and possible future tariff collections – without some kind of deal.

A compromise solution in which Northern Ireland remains part of the Single Market would create a sea border between the whole island of Ireland and the British mainland. This would be much easier to police, since checks could be done at major seaports, rather than on the land border. The meandering 300 km-long land frontier has 275 known crossing points, or more than the entire frontier between the EU and Russia. 

However, this has been ruled out by the pro-Leave Democratic Unionist Party (DUP), which holds the balance of power in the UK parliament. Following a disastrous decision by UK Prime Minister Theresa May to hold a snap general election in April 2017, she lost her overall majority in the 650-seat House of Commons. She now relies on the 10-member DUP to prop up her ruling Conservative party during any major vote, including the Brexit legislation.

Playing for time

“We don’t think there is a majority for a hard Brexit in the UK parliament, but whether the British cabinet can survive the current political tensions is less clear,” Cornelissen says. “The squaring of the circle didn’t take place during talks with the EU this weekend, so it seems that the UK government is playing for time, and this could mean that the Brexit agreement is only finalized in December.”

“The core problem is the wish to keep the border open, combined with the incompatible wish to have no special position for Northern Ireland. The lack of willingness to accept a border in the Irish Sea, which would be the most practical solution, could therefore make it impossible for the UK to leave the EU.” 

“This increases the likelihood that for all practical purposes, the UK will remain a member of the single market indefinitely, and this is unacceptable to many Conservative MPs. That’s why the UK government is pressing for an end-date to membership of the single market.”

No trade deal yet

Aside from the Irish issue, the UK also still lacks some kind of trade deal to replace the unfettered access it has enjoyed to the Single Market. With time running out, May has suggested a temporary solution in which the UK remains part of the Customs Union for two years after March, though with restrictions on either side. 

This plan was formulated at the prime minister’s country residence at Chequers in Buckinghamshire in July, prompting the staunchly pro-Leave Brexit Secretary David Davis and Foreign Secretary Boris Johnson to quit in protest. Both claim that up to 80 Conservative MPs are prepared to vote against it, which would make it untenable, and likely bring down May. 

“The UK government intends to finalize a future trade agreement with the EU by December 2020, but most observers consider this to be highly unlikely, as trade negotiations tend to take much longer,” Cornelissen says. “And of course, any future trade agreement will be worse than the current arrangement, so that makes negotiations difficult.” 

Crashing out

“Brexit could still be postponed, but that would mean all sorts of problems with the European parliamentary elections of May 2019 in which the UK would have to participate. So we really need the 29 March deadline to force the UK government and parliament to come to a deal. Just how farcical can this get?” 

“This all increases the risk that the UK will crash out of the EU without a deal. Given the severe economic costs of such a crashing out, which would also immediately raise the necessity for actively creating a hard Irish border, we still think that no rational government or parliament will do it. In our opinion, somehow a compromise has to be found, and it will most likely be a fudge, because it’s hard to see how you can square the circle otherwise.” 

“Meanwhile, at the summit, the EU will stress the need to prepare for a no-deal scenario, just in case. May has tried to lower tension by telling MPs it was time for ‘cool and calm heads’, and that she doesn’t believe that the UK and EU are that far apart. So it all hangs on a compromise on the conundrum of the Irish border.”

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