Brexit: three scenarios reveal how politics could unravel from here

Mercers, the global multi-asset class investment consultant, outlines three possible scenarios for how Brexit could unravel over the coming months and considers the investment implications.

Scenario 1: renegotiation

Prime minister Boris Johnson’s stated preferred option is to renegotiate, and the pass, a revised Withdrawal Agreement (WA). Despite the new PM aggressively dismissing the current WA, he once voted in favour of it, according to Mercers.

The renegotiation features getting rid of the backstop as a key component. However, most commentators see the renegotiation route as highly unlikely.

Mercers explains:

“The EU has repeated and consistently said that the WA is not open for renegotiation and it seems very unlikely that they would concede on this. In particular, the EU will not get rid of the backstop as this is expressly against the wishes of Ireland. The WA cannot pass without Ireland’s support, and if the EU even attempted to ignore Ireland’s wishes, it would risk the collapse of the EU.

“Johnson and some on the UK side think technical solutions are available to solve the border issue, but that is a minority view, although one that the EU will explore along with other options in detail once the WA is passed.

“The EU has responded to the new PM’s plan and has rejected it outright. It has said it is happy to meet Johnson, but while modifications could be made to the political declaration, they can’t be made to the WA, and in particular the backstop can’t be removed. It seems likely therefore that perhaps fairly soon Johnson will announce that talks have failed and that the UK will step up its no-deal planning and that, unless the EU changes course, Britain will exit on 31 October without a deal.”

Scenario 2: no deal

In parallel, the new PM intends to aggressively dial up the UK’s preparation for no-deal, both to strengthen the UK’s negotiating position and to prepare the UK if no-deal does materialize.

HM Treasury estimates that a no-deal Brexit would cost the UK economy close to 10% of GDP. Many of those close to the PM argue that the number is much smaller, with much of the damage being largely eliminated if the UK plans appropriately, while noting that much of the world (including the US, China) trade with the EU on World Trade Organisation (WTO) rules only.

However, Mercers insists:

“In our view, this is simply not true. While the EU does not have a free trade deal with the US and China, it has a broad array of agreements with China and the US. In fact, the EU does not trade with any countries in the world on the basis of WTO rules only. In addition to the Treaties, there is a broad array of agreements that facilitate trade that are at a lower level than the Treaties.

“Thus, if the UK leaves the EU without a deal, the whole legal framework under which the UK trades with the EU falls away overnight. The EU has unilaterally agreed some mitigants in the event of no-deal so that there is some legal framework over and above general public international law including the WTO. However, these are a small fraction of what is in place now and would need to be in place if a no-deal Brexit was to occur. The EU has designed this framework to mitigate some of the downside on the EU side rather than the UK side.”

In the concluding part of Mercer’s Brexit analysis, tomorrow we consider a general election scenario and implications for investors.

james.wallace@realassetmedia.com