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Into the unknown 

When news of a Brexit deal emerged earlier this week, the pound rallied. On Thursday, as the details emerged and the government began to unravel, the pound fell. People began to say that members of parliament would be persuaded to vote for the Brexit deal to halt the slide in sterling. One suggestion – made on BBC Newsnight – was that there were parallels with the attempt by President George Bush to pass legislation for the Troubled Asset Relief Programme, during the financial crisis in 2008. The United States Congress initially rejected the bailout plan but market turmoil encouraged it to pass a slightly amended plan a few days later. Might something similar happen in the United Kingdom? How should MPs approach the Brexit deal?

Investors reacted in a number of ways to the disturbing newsflow on Thursday, and similarly to the day after the referendum. Sterling fell almost 2 per cent against both the US dollar and the Euro. Gilt (UK government bond) prices rose, probably reflecting some ‘safe haven’ buying. Meanwhile, share prices in domestically orientated companies fell. For example, shares in large housebuilder Persimmon were down over 7 per cent on the day. The problem with market moves is that they can have more than one convincing explanation. It is possible to identify three ways politics has been affecting markets.

The first explanation is that Brexit will cost the UK economy. The details of Theresa May’s deal have made this clear to the country and to markets. We will be worse off, not only constitutionally but economically too. Our sovereignty in economic affairs will be severely reduced, which means our businesses will have to abide by European Union laws and regulations made without reference to UK government representation on their behalf. The transition arrangement is sub optimal and there is no clear idea what will come after it. Outside the EU, the productive potential of the UK will be lower than it could have been. Investors and traders are attempting to anticipate this.

A second political factor affecting markets is a perception that an early general election leading to a Labour government is more likely. This seems to be why share prices in Royal Bank of Scotland and some utilities fell as investors weighed up the likelihood of breakups and nationalisations.

A third factor is simply uncertainty. Any deal reduces uncertainty. Businesses are waiting to see what the Brexit arrangement will be and have been holding back investment plans, which will already hit future growth. Business investment could pick up on a deal simply because there is more certainty about the future even if investment levels are lower than they would be in the EU. The same thinking applies to markets. The Conservatives are making things worse with the attempt to change leader and their focus on internal ideological battles. A rejection of the deal, negotiation for a new deal, a change of leader, a general election, or even a new referendum, lead us into unknowns.

Nevertheless, it would be wrong for MPs to delegate decision-making to markets. That would mean they would be voting on the basis of how investors thought they would vote. That is not the way of the wise. It would also mean they would be forgetting that investors and traders can change their minds rapidly. Markets might move in one direction at first, before attention turned to the longer term and asset prices were reassessed, by which time it would be too late to change our Brexit terms. The deal on offer promises years of uncertainty which will not be without economic impact. The fact is, we do not know how markets will react (whether positively or negatively) and it is in their nature to be volatile, although we are not in the midst of a systemic global financial crisis as in 2008.

What is required is a clear sense of direction. This in itself could help reassure markets. Labour has work to do here too, exercising its duty to provide a credible alternative plan. MPs need to show they are promoting the long term prosperity of the country. A strong vote for a second referendum, offering a clear and informed choice with the option to remain in the EU, would provide this.

This article was first published by Progress on 16 November 2018.

Progress, 16 November 2018, 16/11/2018

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