Brexit: The day we entered the eye of the maelstrom
from Thomas Palley
In years to come, the Brexit referendum may come to be seen as the day we entered the eye of the maelstrom that now promises enormous destruction. The immediate consequence looks to be a possible financial crisis, but even if that is avoided the other costs of Brexit will not be.
The European economy was already on the outer circle of the maelstrom. Brexit has swept it into the eye, accelerating the process whereby social alienation and bad economic outcomes produce bad political outcomes, and bad political outcomes produce worsened economic outcomes and further social alienation.
The leading edge of events will be financial markets. Even if an immediate financial bloodbath is contained, the reasonable expectation is for significant downside turbulence over the coming months that will ripple into the real economy. Moreover, a bloodbath now would not be panic. Instead, it can be rationally justified by the economic and political outlook and the fact that asset markets were already richly valued.
British financial markets and the British economy will be the epicenter. The shock to London’s stock market will hit wealth and household confidence, negatively impacting consumer spending and the United Kingdom (UK) real economy.
Britain’s real estate market (especially London) was already highly priced, and it is now very vulnerable to reduced local and foreign buying. British banks are financed in sterling and a lower sterling exchange rate has unpredictable negative implications for them and their counter-parties.
Business will cut back further on investment in the UK because business dislikes uncertainty. Big ticket investments will be placed on hold until the status of the UK’s access to European markets is clarified.
All these impacts will ramify outward, hitting other economies, including the US. The mechanisms are financial contagion, currency turbulence, and uncertainty, all of which generate negative aggregate demand effects that are then multiplied via the contraction process. The first port of call will be European economy, which is already in a fragile condition and is most integrated with the UK.
Bad as the economic news is, the political shocks to come may be worse.
The Brexit electoral outcome map shows all of Scotland voted to remain. That means the UK’s constitutional crisis regarding Scottish independence is likely back on.
In Spain, there is the long-standing issue of Catalonia’s demand for independence, which Brexit further mainstreams and encourages. Now, Italy’s Northern League, which is politically powerful in the rich northern half of the country, is calling for an EU exit referendum.
In effect, Brexit is a green flag for separatisms of all stripe. That has adverse implications for the euro, which is already under the threat of Grexit. Consequently, sterling’s weakness stands to be accompanied by a weakening of the euro, providing an additional currency channel for spreading Brexit’s shockwaves into the global economy.
With regard to US politics, negative economic fall-out from Brexit will injure the incumbent candidate Hillary Clinton and benefit Donald Trump.
Beyond that, Brexit carries vital political lessons for the Obama administration and Clinton campaign, both of which must not give reason for US voters to further disdain the establishment.
Brexit has structural similarities with Trump’s rise. It is the logical outcome of the Conservative Party’s political strategy of the past twenty years. Conservatives used the European Union (EU) as a whipping boy to help smuggle in their “Thatcher – Reagan” neoliberal economic policies. The Labor Party spoke out in defense of minorities, but it did not defend the EU and nor did it adequately confront neoliberalism.
In the US, Trump is the analogue “exit” candidate. His rise is the logical outcome of thirty years, during which Republicans used dog-whistle racism and the culture war to smuggle through their neoliberal economic agenda that has wrought the destruction of shared prosperity. Democrats resisted racism and the culture war, but were complicit in the promotion of neoliberalism.
The lesson for the Clinton campaign is it must move beyond rhetoric criticizing neoliberalism and adopt serious remedies that tackle its legacy of inequality, economic insecurity and loss of hope. Neoliberalism is the ultimate cause of the establishment’s rejection. Racism, immigration and nationalism may be the match for the anti-establishment fire: wage stagnation and off-shoring of jobs are the fuel.
As regards the Obama administration, the lesson concerns the Trans-Pacific Partnership (TPP). On all sides, the US electorate has rejected the TPP, but the Obama administration keeps pushing it. That further discredits the establishment and benefits Trump who is the outsider candidate. Clinton is the insider who has openly touted her links to President Obama, and she still lacks credibility on her opposition to TPP because of her past endorsement.
In this environment, the Obama administration’s pushing of the TPP is recklessly irresponsible politics that send us nose down, into the eye of the maelstrom.