FORGET Grexit, Spexit or any other possible departures from the euro. Despite yesterday’s news that the Eurozone is now back in recession, the markets should focus on another potential exit. The Brixit – a British departure from the European Union.
For the first time in a generation it’s realistic. But would it hurt the UK economy? This question is usually framed in terms of exports and market access. But the relative decline of the EU as a percentage of the global economy makes those two issues less relevant.
In fact, if the UK did pull out of the EU, it would be better off. There would be costs, but sterling would benefit from becoming a quasi reserve currency. And UK businesses would get a one-off competitiveness boost.
For the UK, the European question is changing very rapidly. First, if the euro is to survive, there will need to be full fiscal union. Tax and spending decisions will be made by a treasury minister in Brussels. Members will have to relinquish control over their national economies, and Britain won’t want to be part of that. So the UK may soon have left anyway, in that it is no longer involved in the EU’s most important decisions.
Second, the world has moved on. The global economy is now dominated by rising emerging economies. In contrast, the slow-growth EU doesn’t look like a partner anyone would want to stay married to anymore.
And it’s highly likely Britain will have a referendum on EU membership in the next five years. Labour is committed to one, and the Conservatives won’t want to be trumped by Ed Miliband. When the referendum happens, Britain might vote to leave. By this stage, the core Eurozone may well be stuck in a deep recession. That can only tip the popular mood further towards leaving the EU.
If a British exit becomes possible, the markets will take fright. Sterling will tank. The FTSE would dive. Most mainstream business opinion for 30 years has held that Britain needs to be in the EU. It needs access to that market. Lose it, and trade would collapse. But on a medium-term view, it will boost the UK economy. Here’s why.
True, there would be losers. The City would suffer. It has been the key financial market for the EU, but it is unlikely France and Germany would tolerate this situation if the UK was outside the club. Some global banks could move their operations to Frankfurt or Paris, and the wealth they generate would flow elsewhere. As the mass redundancies at the London office of the Swiss bank UBS demonstrate, however, this is now less of a worry than it would have been a decade ago.
Also, while the UK could negotiate the same kind of free access to EU markets enjoyed by the Swiss, hidden barriers to our exports may be put in place. And while the importance of exports to the EU is often exaggerated – only about 13 per cent of the economy relies on selling to EU markets – some businesses would suffer.
But there would also be two big advantages. First, sterling would emerge as an island of stability. The pound is already emerging as a partial reserve currency – a status it hasn’t held for fifty years. The Swiss National Bank, for example, revealed this month that it had doubled its holdings of sterling, while cutting back on euros. The Russian central bank recently said that 9 per cent of its reserves are held in sterling. Despite the UK’s problems, it is still a stable nation, and is not caught up in the Eurozone mess. If Britain was further detached from the euro crisis, its attractiveness would increase.
Second, Britain could expect a one-off competitiveness boost. While it may have started as a free trade zone, the EU has turned into a spending and regulating machine. Its agricultural policies keep food prices high. Its employment regulations make it hard to fire people – and companies reluctant to hire. Health and safety laws put barriers in the way of innovation. Discard them, and businesses would be freed of a massive burden of red-tape. There are few better ways of stimulating growth than tearing up regulations. Though it would only happen once, it would help the UK grow again – and that would help the equity markets.
There are few reasons to be optimistic about the UK economy. State spending is too high, taxes keep going up, and growth has been flat-lining for four years. But an exit from the EU might be the “growth shock” the UK needs – and could be the one thing to get the economy moving again.
Matthew Lynn is chief executive of Strategy Economics.