With just 10 days to go, so much is riding on the outcome of the UK’s in-out referendum on Europe that it is wise to follow the money.
Billions have been wagered on betting markets and billions more on global stockmarkets.
Hundreds of billions are positioned on all sorts of sterling contracts on the huge foreign exchange markets, as investors try to be on the right side of the exit polls late evening on June 23.
Opinion polls suggesting a close race have spooked many financial markets. The dismal record of British election polling hasn’t helped.
Through the haze, it’s worth noting that the really serious money wagered by the City of London has been plumped on the UK remaining within the EU.
We know this because sterling — a global reserve currency after all — has, whisper it, been trading fairly quietly. Take away the day-to-day market turmoil and a clearer picture of the UK currency emerges.
Sterling has been sticking around the 78p level against the euro for a while now. That may explain why despite polls suggesting the Brexiters are trashing the Remainers, the bookies still predict more than a 70% probability the UK will opt to stay.
However, what are the implications in the short term and long term for financial markets and the UK and Irish economies, if on the night of June 23 the exit polls were to show the UK is heading out of the EU?
The Irish Examiner spoke to Edgar Morgenroth, associate research professor at the Economic and Social Research Institute. He is the leading external adviser on Brexit to the multi-departmental committee led by a senior civil servant at the Department of the Taoiseach.
Eamon Quinn: Sterling is forecast to tumble up to 20% if the UK votes to leave. What would likely happen in the following few months?
Edgar Morgenroth: Exchange rates over time do tend to normalise, but in the meantime it can be destructive to firms. It depends on contracts. The exchange rate issue is a short-term issue but that is not to say that it is important. If you have a contract to supply widgets for so much sterling and what you get is 20% less, it can put you under pressure if you are a firm.
It can be very disruptive in the short term. After a while, you figure out what the right price is and you charge the right price. I would expect there to be an extreme spike immediately after.
I would expect it (sterling) to overshoot a bit and then slowly to get back up. When you look at polls, sterling goes up and down quite a bit. The volatility has increased quite a bit. You can imagine that before the negotiations (with the EU over a Brexit) are concluded that you would have continued volatility. Volatility is not a good thing.
EQ: What would Ireland be best advised to do?
EM: Ireland and the UK have significant economic connections. Those will change if there is a post-Brexit trade agreement, or worse if it operated on a World Trade Organisation basis in which the UK operated as “a most-favoured nation”, which implies the introduction of tariffs on individual items.
Increased costs impede trade and a trade relationship is threatened by a Brexit and that possibly is the most significant economic impact.
In terms of what the Government can do, up to the point of the referendum, not an awful amount. Clearly it is in the interests of Ireland that the UK stays in. And in the opinion of most economists, it is not in the interest of the UK to leave either.
All the Government can do is to plan a little bit if the UK does decide to leave. If it does decide to leave, the UK will have to write to the Commission and initiate the process of negotiating the divorce. That would happen under Article 50 of the Lisbon Treaty which sets out a two-year period for those negotiations.
[There is] also a possibility of an extension but that extension is only possible with a unanimous vote and that is not a given in any issue in the EU.
So, some people are talking about an everlasting negotiation but that only happens if there is unanimity. Two years after the letter is sent to the EU Commission the UK will no longer be a member. There is, therefore, a default position if the negotiation is not completed.
Then you have to think what subsequently the trade relationship would be. It is likely to take longer than two years to negotiate. For voters in the UK, it may be that they may not be negotiating very much and that the EU may tell them what the deal is, and they will have to take it or leave it.
That has been the position in the past with EU trade deals; the EU decides what the deal should be and the other side just takes it. The only place this has been different is negotiations on TTIP (the Transatlantic Trade and Investment Partnership), and with Canada. But with other agreements the EU has signed previously it has been a very one-sided process.
The UK would also need to join the WTO (the World Trade Organisation) and seek out a trade negotiating team.
That’s something that no country in the EU has these days because the Commission negotiates on behalf of member states. There is an issue [whether] competencies are there in the UK administration.
Clearly, the UK has to decide what it wants to do with the free movement of people. The EU has to decide what to do with the free movement of people.
There are a few other things, some of which may be agreed on the bilateral basis. Perhaps, on the energy side some of the issues can be agreed between the UK and Ireland without EU interventions.
The Government on June 24 will need to identify the sort of issues that are sensitive to Ireland and attempt to ensure that these are appropriately reflected in the negotiations between the EU and the UK. I think that is all Government can do on that front; to press Ireland’s issues and make sure they are dealt with satisfactorily. The issue is what we want.
EQ: What are the implications on the North and the Republic?
EM: Trade itself may reintroduce border controls. We are definitely back to customs posts and the issue of border crossings — all that stuff becomes relevant again.
If it is not an EEA solution, then we are back to that because you would then have to check what comes in and what goes out.
On milk, it is more an issue for Northern Ireland because the milk flows from the North to the south. Agricultural products are very interesting because under WTO arrangements — the most favoured nations’ arrangements —agricultural products tend to be the most subject to tariffs.
EQ: What happens to our island economy under the contrasting EEA v WTO outcomes for the UK trade negotiations post-Brexit?
EM: It is difficult to have a special island arrangement because if you can export to the North then you can export to the UK and vice versa.
For most things if we were in a situation other than EEA it wouldn’t be feasible or likely that there would be a special island deal because it would be impossible to police. It becomes pretty tricky.
There is unlikely to be many special Ireland arrangements because it will not be feasible. It is [a fact] that the EU negotiates on our behalf. On the main trade issues, there is no scope for bilaterals.
The EEA is the Norway model and is very close to de facto membership without having a say. They (the UK) would have to transcribe all the EU laws and accept the free movement of people. That’s not what they (the Brexit side) wants. So, it is difficult to see an outcome like that. The only way you get an outcome like that is if they vote for a Brexit, and then regret it.
EQ: Any room for bilateral trade agreements between Ireland and Britain?
EM: Bilaterals could [apply] in energy because trading electricity outside the EU is not unusual. Germany gets a good chunk of its gas from Russia and it would not be a big deal for Ireland to get gas from Britain. It is just a matter of contracts.
EQ: What would strengthen Dublin’s hand with Brussels in the event of a Brexit?
EM: In the Commission and the member states there would be a realisation that Ireland, given its geographical and historical position, would be more affected by any significant barriers between the UK and the EU.
In that context, there would be [a focus] on preserving the links to the wider EU market, supporting financially the connection to the EU electricity grids.
You can’t do [trade] bilaterals, but within the EU we have the situation where currently we have a peace fund for Northern Ireland, where we don’t see anywhere else. So, there is scope for the Government to argue, given the special impacts and potential budget constraints, that some help is required and warranted. I think you can make a pretty cogent argument.
Where there are immediate impacts that need immediate expenditures, Ireland could make the case about the island’s remoteness — for more transport. There may well be existing measures out there that could be beefed up a bit because the EU has its major corridor development — and one of our major corridors is through Wales.
EQ: The impact across Ireland on immigration and free movement of people?
EM: With respect to borders, you could have the border controls in Ireland, or you could have controls between Britain and Ireland.
The Unionists would not be very happy. Clearly a hard border with controls would be something of a ‘red flag’ for Republican dissidents. History would suggest that would not help the peace process.
EQ: Implications for the North’s economy?
EM: The North, in my view, is the most exposed part of the UK to a Brexit in terms of a negative impact. About 60% of [the North’s] merchandise exports go to the EU. It’s less than 50% for the rest of the UK. A loss of access to EU markets would have very adverse impact on foreign direct investment in Northern Ireland.
Our estimates suggest the loss of EU access would diminish the benefits of [the North] going to a 12.5% corporation tax rate. And because the 12.5% rate is supposed to be self-financed it would actually imply a net loss to Northern Ireland.
EQ: Rebellion by pro-EU MPs in Westminster?
EM: It is a constitutional crisis. A Brexit vote is I think a recipe for disaster on political and economic issues. Ireland will, I think, survive this. I do not think it is a catastrophe. We do not need to panic. But it isn’t good. It is not going to be as bad as the financial crisis, but for the UK it might be.
EQ: The bookies suggest that there is more than a 70% chance of the UK staying in?
EM: There is a distinct possibility that they will leave. It will depend on turnout and things like that. A 30% [Brexit] risk is a very significant risk.
If you were a 30% accident risk you would find it hard to get car insurance. Once you are in double figures it is a significant risk. If you believe some of the polls, it is 50:50. London itself is probably going to vote to stay in. It is other parts you have to worry about.
The opinion polls can get it very wrong if the people do not turn up on the day. I think they (the UK) are gone if turnout is low. A few percentage points either way can swing it. At the moment the momentum looks to be in the favour of Brexit, but that can change.
© Irish Examiner Ltd. All rights reserved