An American’s Guide to Brexit

BACKGROUND

Let’s start with a geography lesson since this can be confusing but it is important if you want to understand the Brexit. UK is shorthand for The United Kingdom of Great Britain and Northern Ireland. Great Britain includes those parts of the UK that all sit on the same island: England, Scotland, and Wales. Northern Ireland sits on the same island as the Republic of Ireland and we won’t spend time on how it came to be part of the UK. That would take a lot of ink.
The UK sits off of the west coast of Europe. If its geography matched its culture, it would probably sit a little further off the coast but with Scotland closest to the mainland of Europe. Scotland is more culturally connected with the rest of Europe than are the other parts of the UK. This may be due to its historic proclivity for finding friends to help it battle the English but, whatever the origins, it still seems to hold true.
As someone who grew up in Scotland and now lives in the USA, I am sometimes asked if Scotland is a country or a state. The answer is ‘yes, kind of’. Scotland and England are the two largest parts of the UK and were separate countries for a long time. A Scottish king inherited the English throne four hundred years ago, merging the countries from a monarchic perspective, and their parliaments merged about a hundred years later when the Scottish economy got itself into trouble. Today, the UK parliament in London has more power over Scotland and England than the federal government in the USA has over the states, but Scotland and England retain separate legal systems, separate educational systems and (perhaps most importantly for many) separate national sports teams.
I realize that I’m giving Wales and Northern Ireland short thrift in this history lesson but the history of Northern Ireland is long, bloody and contentious and doesn’t add much to this paper. Wales has a less bloody and contentious history but it has behaved like England in the Brexit so going into detail won’t add much to the reader’s understanding.
Now we need to distinguish between Europe and the European Union (EU). Europe is the geographical region while the EU is a trading zone that includes most European countries. The EU is like NAFTA on steroids. It has an open border policy with regards to not just goods but also people. This means that someone who is born and grows up in France can move to Germany to live and work without having to worry about visas and work permits. There are no border controls once you are inside the EU. Several countries adopted a common currency, the Euro, in place of their own national currency in order to make trade between the countries even easier. However, the individual countries that make up the EU are still responsible for their own defense, their own welfare systems, their own legal systems, and so no. The only area in which they align is the economy although they do have laws that have to be enacted in each member’s legal system, largely concerned with labor rights in order to ensure a level playing field.
The UK has been a member of the EU since 1973 although it has retained its own currency, the pound, rather than adopting the Euro.

WHY DID THE UK VOTE TO LEAVE THE EU?

Why, with the benefits of open borders and with every expert saying that the UK economy would suffer if it left, would the UK elect to leave the EU? There are several reasons, some valid and some jingoistic:
1. The EU is a bureaucratic nightmare that wastes billions of pounds on red tape. This one has a kernel of truth but is mainly a misrepresentation. For goods to flow freely between countries, there has to be a common understanding of what the good is and a basic level of quality. For example, someone in France knows what Champagne is and doesn’t want a fizzy drink from Sweden being sold by that name. There are therefore a large number of rule books defining the goods and services that can be moved between countries. This is interpreted as bureaucratic and there is sure to be waste in the process. However, if the EU didn’t exist, pairs of countries would have to come up with their own trade agreements with definitions of the goods and services included.
2. The UK sends $500M to the EU every week and this could be better spent in the UK. This one is true in that $400 – 500M is contributed each week by the UK to the EU’s budget but the UK gets half of that money back immediately in the form of grants, the largest block going to farmers. If the EU didn’t exist, the UK would have to fund these grants directly.
3. Europe is being overrun with immigrants because of the EU. Refugees are flooding in from Syria and others are taking advantage of the situation to leave Pakistan, Afghanistan, and a dozen other countries to join those refugees entering Europe. It is a major concern for many people in Europe. Europe needs immigrants – its own population is declining – but there is a feeling that things are out of control. However, this has a minor impact on the UK. It is impossible to walk over the border into the UK given that it sits on islands, and the UK has implemented a ban on the free flow of non-EU citizens entering the country. The bigger issue for the UK is the flow of people from Eastern Europe entering the country. Just as UK citizens can pack up their bags and go live in Spain or France, so Eastern Europeans can pack up their bags and go live in the UK. Many have; far more than were expected and this has had a backlash, stoking nationalistic fears.
4. The EU is another German attempt to take over Europe. Seriously, some people believe this. Just because they have English accents, it doesn’t make them all smart.
Why did the UK have a referendum on leaving the EU? This is perhaps the sorriest part of the whole Brexit affair for those who believe that it is a bad idea. There was no need for a referendum. The UK has two major parties that have run parliament for more than a hundred years: the Conservatives and the Labour party. The Conservatives are like the Republicans in the USA but without the guns, bibles, or talk about banning abortion. The Labour party started as a vehicle for the trade unions and still has a strong socialist flavor. Unlike the USA, where the electorate vote for the President, in the UK, the winning party decides who the Prime Minister will be.
David Cameron, the leader of the Conservative Party, has been the Prime Minister for the last six years. However, David Cameron isn’t particularly popular and several members of his own party spotted a weakness a few years ago concerning Europe. Many of the people who have been campaigning for the UK to leave the EU may not actually want the UK to leave; they have just been using the issue to increase their own standing within the party. To quiet the dissent, David Cameron pledged two years ago to hold a referendum on EU membership, thinking that it would be an easy win for the ‘Remain’ campaign.

WHY HAS THE REACTION TO THE BREXIT REFERENDUM BEEN SO STRONG?

The leaders of both the Conservative and Labour parties campaigned for a Remain vote. Every economist who was asked said that the UK would be worse off if it left the EU. Every world leader who expressed a preference, and there were many, was clear on the fact that they wanted the UK to remain in the EU. A cursory look at the arguments for leaving found that they weren’t very substantial. Every opinion poll up till the evening before the vote showed an advantage to the Remain camp. It looked as if sanity would prevail…..and then it didn’t.
It is already becoming clear that the people who voted in favor of leaving were duped. The Leave campaign indicated that the $500M that is being sent to the EU very week could be spent on healthcare instead. That was never feasible and the politicians are already backing off from this claim. The Leave campaign claimed that UK citizens would still be able to move freely around the rest of Europe but this is something that has to be negotiated with the EU and the EU isn’t particularly happy with the UK at this point in time. The Leave campaign claimed that the economy would be stronger outside of the EU. The financial markets have already said quite loudly that they disagree with this; the pound lost more than 10% of its value against the dollar in the two days following the referendum and the UK stock index fell by 15% in the same time period. The Leave campaign claimed that this vote would give the UK the power to control immigration and this could be true but it could also be negotiated away if the UK wants its citizens to work freely in the EU.
It is notable that there was a clear split between the old and the young in the referendum. Young people, those most likely to travel and work in the rest of Europe, voted by a margin of three to one to remain in the EU. Old people voted to leave.

WHY ALL THE ARTICLES ABOUT SCOTLAND?

There were three regions of the UK that voted in favor of remaining within the EU: Scotland, Northern Ireland and the London area. Northern Ireland would find it difficult to split off due to its sectarian troubles and London couldn’t split from England. Scotland, however, has already voted once on the topic of independence and the Brexit will give it a reason to vote again. When Scotland voted in 2014 to remain in the UK, it was partly due to the fear that a split would mean leaving the EU. Staying within the UK now means leaving the EU and many Scots would rather align themselves with the EU than with the rest of the UK. When Scotland was voting two years ago, I was often asked why they would want to split off. I can now just point to the fiasco that is UK politics to explain why.
However, a vote for independence isn’t certain and there is a small straw for the Remain camp to grasp at in the laws that set up the Scottish Parliament. Although the UK Parliament is in London, there is a parliament in Edinburgh that determines local issues on Scotland’s behalf. The Scottish Parliament refers to EU rules in its charter and there is an argument being formed that says that that the UK Parliament cannot decide to leave the EU without being granted permission from the Scottish Parliament, something that the Scottish Parliament will not grant given that more than 60% of voters in Scotland elected to remain in the EU. This may work itself out in the next few days and come to nothing but it is notable if only as an indication of the extraordinary situation that the UK finds itself in because of the Brexit vote.

WHAT COMES NEXT?

The UK has two years in which to negotiate its exit from the EU from the time when they invoke article 50 of the Lisbon Treaty, which is the procedure for notifying intent to leave the EU (the so-called exit clause). Given that it took 43 years to reach the existing negotiated position, this is not going to be easy. It is made even more difficult by the fact that the two party main parliamentary heads in the UK are on their way out: David Cameron has resigned as Prime Minister and the leader of the Labour Party, Jeremy Corbyn, is in the process of being forced out. In both cases, charges of ineptitude can be made without a lot of disagreement from people in the UK. However, David Cameron’s replacement looks likely to be Boris Johnson, the former mayor of London who has shown a cult of personality rather than a grasp of policy in his ascendency. He is not the best person to head the renegotiation of 80,000 pages of agreements.
Can the Brexit be stopped? Almost certainly not. Although there may be constitutional issues in Scotland, the results represent the voters will as of Thursday 23rd June 2016. If asked again today, they may show some buyer’s remorse, but the decision is made. The EU has made it clear that it wants the UK to implement the exit quickly to minimize the pain to the rest of the EU and David Cameron’s replacement will be someone who supported the Leave campaign.

HOW DOES THIS IMPACT PEOPLE OUTSIDE OF EUROPE?

The EU is the largest trade zone in the world, larger even than NAFTA. There is an immediate worry about the distraction caused to the EU while it negotiates the UK’s exit. There is also a wider concern about other countries with nationalistic tendencies deciding to hold analogous referendums on exiting the EU. If the EU economies slow down, as would happen if the EU was to unwind, then the entire world economy will be impacted. The UK, as the second largest economy in Europe and the fifth largest in the world, will independently have an impact on the global economy.
Many companies that are based outside of the EU use the UK as their EU base. This is due largely to the English language but also because the UK has a long trading history around the globe. Fear that exiting the EU will make it more difficult to trade with the rest of Europe will lead many companies to reconsider the location for their EU operations. Services, particularly banking, are very important to the UK economy and the City of London, a one square mile zone full of financial institutions, is the de facto banking center for Europe. The UK may be able to negotiate terms with the EU that help financial institutions to continue to work freely within Europe but this could come too late. Many banks are already talking of moving parts of their operations to Germany in order to avoid the uncertainty that now comes with a London base.
How does this impact you as an individual? If you were planning a holiday to Europe this summer, then you can celebrate; your money will buy more as the dollar strengthened. However, you probably don’t want to check your brokerage account any time soon. The financial markets like predictability and they don’t like shocks to the system. The threat of the largest trading block in the world falling apart is definitely in the latter category. Fund managers are checking their exposure to the pound and the UK economy. They are going to be in a hurry to sell off both. This doesn’t just mean selling UK stocks. Many US businesses have operations in the UK and will be impacted directly. Markets will continue to be concerned until the repercussions have fully worked their way through. This means understanding if any other countries are likely to have a referendum on leaving the EU, knowing if the UK is going to break up, and understanding any changes that the EU makes in order to shore itself up as it soaks up this blow.

SUMMARY

In summary, this is a period of uncertainty caused by an unexpected result from an unnecessary referendum, which occurred due to internal party politics and was exploited by power hungry and xenophobic individuals who misled the electorate and stoked anti-immigrant sentiment. There is, sadly, no user manual to refer to.

If you would like to discuss this topic in more detail, please contact us at inquiries@aptussc.com.