REACTING TO BREXIT: FOCUS ON THE ILLNESS, NOT THE SYMPTOM
All right. Now that everyone has had a chance to catch their breath, let’s talk about what Brexit really means.
In fact, one of our TIGER 21 Members has a three-day rule: he recommends waiting three days before making investment decisions in reaction to unexpected events. Markets don’t always allow us that luxury, but certainly it is better to wait for perspective than to resort to panic.
So, now that an appropriate amount of time has passed, let’s start to put Brexit in perspective.
A tempest in a teapot?
Britain has long played an outsized role on the world stage, and the initial reaction in global financial markets suggests that it continues to cast a longer shadow than most countries of similar size. That’s not to say that Brexit is an insignificant event, but people seem to have lost all sense of its proportion, particularly with regard to its impact on the US.
Sales in Britain represent only 3% of the revenues of S&P 500 companies. No company wants to see even 3% of its sales put at risk, but there is no reason to think that those revenues will dry up all together. Since any change in sales will represent a fraction of that 3%, clearly, Britain is not a dominant factor in the fortunes of the average American company.
On a macro level, the result of the Brexit vote reduced forecasted US real GDP growth from 2.0% percent to 1.8% – a change that falls well within the margin of error for GDP forecasts. After all, the official estimate of first quarter US growth was revised by a greater amount than that from the end of May to the end of June, and that was an after-the-fact measure. Certainly, a 0.2% adjustment to a forecast of future growth should not definitively reshape anyone’s investment approach.
By whatever measure you use, the size of the Brexit impact should make it containable in the context of the world economy. Perhaps more importantly, it is not a one-size-fits-all impact. It varies for different industries in different places.
For example, what about US companies that do business entirely in this country, with little or no foreign competition? Why should Brexit materially impact their fortunes? What about British exporters who trade primarily with Asia or the US? They did not lose trade agreements, but they did just gain a currency advantage (i.e. a lower pound makes their prices more competitive).
Certainly, the European Union is diminished by the exit of one of its members, but in Britain’s case, it is a member that has long held the EU at arm’s length to some extent, and has not been a participant in the unified currency. It should also be noted that the Brexit vote is a reflection of problems with the EU, not the cause of those problems.
So, it is not just the size of the Brexit impact that is limited, but its scope. That scope does not reach everywhere, so investors can still look for opportunities that are not diminished by ‚Äì and are possibly enhanced by ‚Äì Brexit.
Perhaps it is going too far for the sake of an Anglo-tinged pun to call this a tempest in a teapot, but that metaphor may be more accurate than some of the more dire assessments of Brexit’s immediate impact on the world economy.
More a political than an economic movement
While putting the economic impact in an appropriate context, we should not dismiss the significance of Brexit as a political statement. After all, that’s probably what motivated many of the “leave” voters. What percentage of those voters do you imagine truly grasped the details of Britain’s trade terms with Europe? It seems probable that well-informed voters were a minority compared to the percentage who were just expressing a general dissatisfaction with their lives and their livings.
From the Arab Spring to the latest Donald Trump rally, around the world we are seeing vivid demonstrations of popular discontent with the status quo. Whether it is the growing income gap between rich and poor or a sense that global policies are intruding on domestic lifestyles, there are plenty of causes to drive that discontent. Certainly the tone and content of the Brexit debate suggest that this was a central factor in how the vote went.
This, more than any tweaking of growth forecasts, is the development to watch coming out of the Brexit vote ‚Äì not because of that vote itself, but because it is symptomatic of a broader political force. Populism can be democracy’s dark side, to the extent it pushes policy in destructive directions. Economically, such directions could point towards protectionism and punitive tax policies. For the European Union, populism could mean more defections from that organization, including the more disruptive shock of having countries leave the euro.
This is still more reason not to react to the Brexit vote too quickly. The wheel is still very much in spin, and the trend to watch is not whether or not the pound is up against the dollar tomorrow, but whether populism is truly gaining a hold of economic policies around the globe.
Barbara GoodsteinPresident & CEO of TIGER 21