Slouching Towards Brexit

Published March 27th, 2019 by JMSCapitalGroup

With the original March 29th deadline about to pass, we still don’t know how, or even if, the United Kingdom will leave the European Union. Like a college student rewriting a 15-page term paper at 3am on the due date, Prime Minister Theresa May has been herding cats at Parliament as she seeks passage of the plan she negotiated with the EU.

And like the aforementioned college student, May then sought and received a brief extension to finalize her exit plan. The hope is that Parliament will pass the deal May is proposing. It should be mentioned, however, that the proposal May is seeking to put to Parliament is the same deal that Parliament rejected by a 230 vote margin in January and a 149 vote margin in February. May is hoping that a third bite at the apple may prove less unappetizing.

However, such a vote may not even happen, as Speaker John Becrow ruled last week that Parliament may not hold a vote on the same measure again without substantial changes. Perhaps the EU’s granting of a conditional extension—until May 22nd if May’s plan passes, and April 12th if it doesn’t—represents a sufficient change in circumstance to persuade Becrow to allow a vote. Of course, she would still need 75 MPs (Members of Parliament) to change their minds from a month ago.

How will markets react to all of this Brexit chaos? The presumption has been that the EU and the UK have so much incentive to make a deal that a Hard Brexit is unlikely—that somehow, someway, the two sides would find something to agree on—whether that’s an approved exit plan, an extension, or a revote by the UK on whether to leave or remain. If no deal is made, the impact on the UK’s economy, already significant1, could mushroom, but the effects on the rest of the world would be more indirect—after all, if two large economies with every incentive to negotiate a deal fail to do so, what does that say about political functionality? How much confidence would we have that the US and China can work out their trade differences, even though both sides have incentive to do so? Furthermore, if the UK can’t cobble enough votes together even though the majority of MPs want a deal (just not the deal they’re voting on, apparently), what does that say about the larger functioning of democracies, given that the US has also had a long standing problem with congressional gridlock?

So we believe that markets are watching and waiting to see if the threat of a disorderly Brexit will be curtailed. The details of a deal would be less important than the fact that all sides came to an agreement. Given that the UK has had 2 years to assemble the votes for a deal and has failed to do so, we could be discouraged, but we would also note that the ticking clock may shift some political posturing, as necessity becomes the mother of invention.

Still, we acknowledge that the impulse that everything will work out expresses hopes more so than confidence. Goldman Sachs lowered its estimate to just a 50% chance May’s plan will pass, raised to 15% the chance that Brexit will occur without a deal, and surmised a 35% chance that Brexit will not happen at all2. French President Emmanuel Macron was more pessimistic, telling European leaders that the chances of the deal passing Parliament were 5%3.

In short, we are in uncharted waters at the moment. Goldman’s 35% chance of Brexit not happening flies directly in the face of Theresa May’s declaration on March 21st that “Yes, we will be leaving the European Union.” Again, while there are strong incentives for all parties to negotiate a Brexit settlement, these incentives may yet prove insufficient. In the interim, we acknowledge the words of the late, great screenwriter William Goldman who, when describing what makes a hit movie in Hollywood, stated that “nobody knows anything.”

— JMS Team


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