In 2002, the notoriously evasive US Secretary of Defence Donald Rumsfeld made his famous observations on “known knowns”, “known unknowns” and “unknown unknowns”.
While far from an issue of war, these descriptions seem pretty apt when assessing the current political and economic position of the UK in the aftermath of its vote to leave the EU.
The decision has been made by the UK electorate, but we are all at a loss to explain what it will mean in reality.
Every day seems to bring about a new, seemingly unforeseen, angle to the decision. There will be short-term and long-term economic implications of the UK’s decision to leave the EU.
The short-term impacts of the decision are only now starting to make themselves known. This week we received confirmation that the UK manufacturing sector contracted in the immediate aftermath of the vote.
A survey of chief financial officers by Deloitte showed that confidence plummeted in the immediate aftermath of the Brexit vote.
These individuals are at the coalface of business, so their views generally feed through to investment and hiring intentions.
We argue the UK was coming close to the end of its current economic cycle even prior to the decision to vote out of the EU.
A record high current account deficit and an all-time low household-savings ratio made the UK extremely vulnerable to a shock to confidence. That shock has arrived. For us, it is inevitable that the British economy will go into recession in the coming months.
The known unknown is its extent and duration.
To gauge the potential impact, even though all recessions are different, we can look to history as a guide. The late 2000s recession is not an appropriate comparison, given that a global credit crunch caused a very rapid contraction in economic activity.
UK banks are significantly better capitalised this time around so a repeat is highly unlikely. The downturn in early 1990s immediately followed a housing boom and was triggered by high interest rates.
This in turn caused a 20% fall in investment spending, while the economy overall contracted by 2% over two years.
High interest rates will not be the trigger this time (quite the opposite), but uncertainty should lead to a deferral or cancellation of business investments and construction projects.
The duration of the economic malaise will very much depend on the outcome of policy discussions on the shape of the post-Brexit trading arrangement between the UK and the rest of the world. This is where there is a litany of unknowns, identified and unidentified as yet.
There is a belief that the Article 50 exit clause will be triggered at some point over the next six months.
This belief may be misplaced, as it is in the UK’s interest, from a negotiating perspective, to delay the triggering for as long as possible. Post-exit, there is a range of outcomes after what are likely to be fractious negotiations over the coming years.
While you could easily argue that this is the biggest issue that has faced the EU since its foundation EU leaders have plenty more on their plate.
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