Bit by bit, the Brexit narrative advanced by “Leave” supporters about Britain’s superior economic credentials in Europe is falling apart. Not only are we seeing a slow-motion fade in the UK’s economic resilience, but the contrast with an economically feistier Euro Area couldn’t be starker. Last month, Duncan Weldon, looking at the divergent trends of the UK and the Euro Area, suggested here that the title of “sick man of Europe” was very likely to shift back to the UK. Even if the Euro Area’s economic “renaissance” is slightly exaggerated by the latest batch of figures, he’s still likely to be right.
In the UK, most economists were taken by surprise by the bounce in the economy in the second half of 2016, after the Brexit vote. Good as it was, it didn’t last. In the first quarter of 2017, GDP rose just 0.2 per cent, and it was reported recently that in the second quarter it was just 0.3 per cent. At roughly 0.5 per cent for the first half of this year, that’s the equivalent of just 1 per cent growth at an underlying rate. The annual rate of growth has already slipped from over 2 per cent last year to 1.7 per cent and is bound to slide further, bearing in mind the average 0.6 per cent quarterly rise in GDP in the second half of last year. By the end of 2017, I’d expect the reported annual growth rate to be pretty close to that 1 per cent underlying rate.
That’s not a recession, of course, but it means that we might be especially vulnerable to one during 2018 in view of the slow speed of the economy, and especially if the Brexit negotiations go badly, or result in rising levels of uncertainty about the country’s economic future.
"The 'Leave' narrative about Britain’s superior economic credentials in Europe is falling apart"Cross the Channel and things couldn’t be more different. The political mood in Europe has lightened considerably in the wake of Emmanuel Macron’s election in May and his large majority in the National Assembly following parliamentary elections in June. He may not be quite the liberal force that many expected, and some of his early actions, for example in nationalising a French shipyard to prevent it falling into Italian hands, have caused more than raised eyebrows in Europe. Nevertheless, his momentum and apparent commitment to economic reform are holding sway. With Angela Merkel headed for another victory in Germany’s elections after the summer, there is still some optimism that least some new German-French initiatives to improve decision-making in the Euro Area will be forthcoming.
Economically, Europe is on a roll, at least by its own standards and relative to the UK. Having been the laggard among economically advanced countries and regions, GDP surpassed its 2008 level finally in the first quarter, and is now comfortably above it. Indeed, after a 0.6 per cent rise in GDP in the first quarter, the second quarter looks as though something comparable was achieved. We already have data showing that GDP in the first half of the year rose by 1 per cent in France, or 2 per cent at annual rate, 1.2 per cent in Germany, 1.7 per cent in Spain and Austria, and an impressive 2.1 per cent in Sweden. For the year as a whole, growth of 2 per cent or more is no longer inconceivable. It isn't that farfetched to think that Euro Area growth will be running nearly twice as fast as UK growth by the end of the year. Aggregate EU unemployment has fallen to a (still elevated) 9.1 per cent, and youth rates of unemployment are still high, and so there is no reason yet to crow.
Europe can make a bit of hay, but has to bear in mind that the European Central Bank may not—and cyclical recoveries do not last forever. Italian politics and the prospects for the populist Five Star Movement hang in the balance ahead of elections scheduled for 2018, especially with the refugee crisis worsening again this summer. Political illiberalism and denigration of the rule of law continue to cast worrying shadows over parts of Eastern Europe, notably Poland and Hungary.
"The annual rate of UK growth has already slipped from over 2 per cent last year to 1.7 per cent and is bound to slide further"Germany’s external surplus of over 8 per cent of GDP and its conservative approach to the use of fiscal policies continue to loom as restraints over the European economy, and no one should imagine that just because Greece was able to return to international capital markets for the first time in three years recently to raise €3bn, that it is out of the woods. The Euro Area also faces the same medium-term issues as for example the US and the UK, namely to how to boost productivity growth, and where to find coping mechanisms to address the economics of ageing societies.
The current optimism about Europe can’t be extrapolated too far into the future, but Europe isn’t engaged in a political experiment, such as Brexit, that is essentially about impoverishment. If you want to follow the money, the Euro is sitting pretty on the foreign exchange markets, and financial firms are starting to say some goodbyes.
This week, it was reported that Japan’s largest bank, Mitsubishi UFJ Financial Group has decided to move the European base for its investment banking operations from London to Amsterdam. Other Japanese banks, including Daiwa, Nomura and Sumitomo Mitsui Financial have already decided to go to Frankfurt. US and UK banks have also decided to shift operations and jobs to Frankfurt, Dublin or Paris, perhaps slowly to start with, but doubtless more significantly if more and more financial firms leave. Citi, JP Morgan and Morgan Stanley, Bank of America, Barclays, Standard Chartered and HSBC have all said they will be moving some of their business to the Euro Area in light of Brexit. They can’t afford to wait until 2019, or even the middle of next year for that matter.
Ultimately, painful as it would be, we could lose some financial services business without too much discomfort. Yet, if we risk the diversion of a lot of trade and investment by UK and foreign companies the consequences would be truly worrying. We were the sick man of Europe in the 1960s and 1970s as we succumbed to poor economic performance. Fifty years on, will we do to it to ourselves again?
