Brexit: an economic uncertainty few were prepared for

Measures have been taken to control the effects of UK referendum

NORTHAMPTON: Academics and policymakers have long regarded uncertainty as a crucial variable affecting investment decisions and hence growth of an economy.

At the micro level, uncertainty affects a firm’s decisions including increasing the capital stock or hiring.

Ben Bernanke, former chairman of the Federal Reserve, wrote in his seminal paper in 1983 that changes in macroeconomic policies such as fiscal or monetary policies, change in oil prices, advent of new technologies or any structural shift are as important at the micro level as are their impacts on long term investment decisions.



Presently, the biggest uncertainty impacting global growth is the major structural shift — Britain leaving the European Union, popularised by the term ‘Brexit’. This theme has been made the focus of the recent World Economic Outlook of July 2016.

The report has mentioned that prior to the outcome of the vote, economic data and financial market developments were broadly in line with that forecasted by the World Economic Outlook of April 2016. However, post-Brexit – an outcome which surprised financial markets – has implied a significant downside risk for the world economy. The Brexit vote has resulted in a substantial economic, political and institutional uncertainty, which is projected to have negative consequences especially for advanced economies. The bigger issue is that with the event still unfolding it makes it almost impossible to precisely predict its repercussions on the global economy.



Uncertainty and its impacts on advanced economies

The event has adversely affected forecasts for global growth with it being revised downward to 3.1% in 2016 and 3.4% in 2017. Furthermore, the pound has lost 10% of its value. It has also resulted in a decline in yields for safe assets and of equity prices. Resolving legal issues related to Brexit continue to pose downside risks to growth in euro areas. Potential bank stresses and a loss in investor confidence also contribute to significant downside risks towards growth in the euro area.



Uncertainty and its impacts on emerging markets

Emerging markets are already facing broad-based slowdowns and the uncertainty in terms of output growth in industrialising countries has a further potential to exacerbate it. Analysts have also claimed that the uncertainty unleashed due to Brexit is being witnessed as volatility in emerging market currencies. Emerging markets also face an increase in their debt burden as their currencies depreciate against a strong dollar.

The Wall Street Journal has quoted Robert Kahn, a senior fellow for international economics at the Council on Foreign Relations, “as long as China’s economy remains on track, commodity prices hold up, and the Fed is on hold, emerging markets should weather the Brexit shock”.

Policy responses

Central banks were prepared to deal with the results of the referendum and appropriately responded with measures to deal with the crisis. Policymakers in the United Kingdom and the European Union have a key role to play in helping to reduce uncertainty. As the World Economic Outlook report states, it is imperative that a smooth and predictable transition to a new set of post-exit trading and financial relationships occurs - one that is mutually beneficial to both the areas.

The writer is an economist and
ex-central banker

Published in The Express Tribune, August 1^st, 2016.

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