Almost two months have passed since the referendum on Britain leaving the European Union. Still, the date on which the European Council will be notified about the intention to withdraw, seems more distant, officials proposing the year 2017, given that the structures that will manage this process are under organization. A confirmation in this respect came from the British Prime Minister, Theresa May, who announced that article 50 of the Lisbon Treaty will not be notified by the end of 2016.
As I already mentioned in my previous statements, implementation of the Brexit decision proves to be a complex and lengthy process that requires a long period of analysis and preparation in formulating a strategy and concrete steps to transpose it, both for decision makers in the UK and EU. Brexit decision will trigger structural changes in the economic and commercial arrangements, including not only economic aspect but also social ones, depending on the co-operation agreement to be identified by the parties involved.
Given that negotiations will cover key aspects that will define how EU cooperation on substantive matters related to the existence of the single market (free movement of capital, people, goods and services) will function, practical solutions, to the mutual benefit, will have to be identified. At the same time, a convenient and balanced formula has to be agreed on, bearing in mind the global environment characterized by fragile global demand, and therefore sluggish development of trade, combined with reluctance towards new investments.
Delaying the process increases the uncertainty and concerns on how the four freedoms of movement, i.e. of persons, goods, services and capital will be accommodated.
Meanwhile, economic impact, i.e. the pound fell 12% against the USD to 1.30 USD / GBP in August and the euro went up to 1.14 compared to 1.3 before Brexit, show that the economics react independently of political decisions. In the aftermath of the Brexit, the Bank of England decided in August to cut the interest rates from 0.50% to 0.25%, in order to provide a stimulus to the economy. The same motivation stands behind the decision to expand the asset purchasing scheme for UK government bonds of 60 billion GBP in the next 6 months, as an expansion of the QE program started in 2009, while the 10 years’ bond yields reached a minimum of 0.53% in August. Additionally, the Bank of England decided on the purchase of investment grade corporate bonds up to 10 billion GBP, given the fact that growth forecast, was already lowered from 2.3% to 0.8%. Meanwhile the inflation rate is expected to increase from 0.8% to 1.9%, still below the 2% target, while the unemployment rate is expected to rise from 5% to 5.4%.
In terms of trade, UK has a quasi-neutral position in relation to the EU, with 44% exports and 53% import to/from third countries in 2015, while EU exports to UK count for 3% of the EU GDP.
The trade volume between Romania and UK reached 3.93 billion euro in 2015, exports to UK amounting to 4.36%, whereas imports reached only 2.49%. Therefore, the impact of the Brexit will not be significant, but nonetheless a free trade treaty at the community level will be beneficial.
UK has a strong financial sector, with a significant contribution of 7% to the GDP in 2015. Worth mentioning is the fact that around 75% of financial institutions, that use the passport for providing financial services within the EU, are located in the UK, taking into consideration that UK was in favour of the liberalization of the internal market for financial services.
Such being the case, the arrangements regarding financial services will be very important and difficult, considering that US and third countries bank passport their services to European clients through companies registered in the UK. The European mainland capital markets are connected to the London City, so that separation may prove to be costly and lengthy.
Hence, it may be hazardous to anticipate now the consequences of the Brexit upon the financial services sector.
The European project of Capital Markets Union (CMU) may undergo changes, in the aftermath of the Brexit, considering UK’s dedication to the project. CMU was intended to reduce the barriers to cross-border investments, in consideration that capital markets need to ensure more consistent funding of the economy, having the example of US markets, where around 80% of the companies are financed through the stock exchange, as compared to 20% in case of European companies. More efficient capital markets would help European economic recovery and would reduce the dependency of banks financing.
Capital market in Romania witnessed a relative stability of financial asset prices, mainly due to low liquidity and depth. As indices are below the 2008 values, growth potential still exists. Nevertheless, indirect influences on the stock exchange, due to the leaving process, may not be excluded. Except the next days “shock” following the outcome of the referendum, investors seemed not to express fear in the long run, until negotiations point to a direction.
Indirect effects cannot be avoided and it is difficult now to assess the impact, as many things depend on future relationship and concrete arrangements to be agreed upon. The financial industry main concern is related to the access to EU single market, to free movement of services and capital by means of passport. Increased uncertainty will some time have repercussions on confidence and investment decisions, markets may become worried of lack of predictability of the outcome.
Post-crisis economic reforms, especially those related to the financial system were implemented at a fast pace, for better integration and for refraining from using public funds for rescuing financial institutions of systemic importance. The measures are meant to increase confidence in financial institutions, competitiveness and resilience.
In today’s challenging economic environment, financial education and consumer protection is a must for sound growth of financial intermediation. Financial institutions have to improve communication and transparency related to their operations towards their customers in order to maintain a relationship based on trust.
International economic environment as a result of the crisis, amid globalization challenges, combined with weak global economic growth may lead to young and elderly people’s growing dissatisfaction. For this reason, a new approach and new solutions to the social and economic challenges have to be considered at some moment.
*Cornel Coca Constantinescu is First Vice-President of the Financial Supervisory Authority (ASF)