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Brexit battle begins. Judgment day for the pound

15 Nov 2018 8:45|Marcin Lipka

“Five hours of negotiations, threats of resignations from the ministers and even tears of despair presented by Esther McVey, Eurosceptics Work and Pensions Secretary. In short, this was the scene from the negotiations in the British government on the approval of the initial Brexit plan. Although on Wednesday emotions reached their peak, the cumulation of political battle and risks for the pound are still ahead of us,” says Marcin Lipka, Conotoxia Senior Analyst.

What was agreed? Above all, the border structure between Northern Ireland (a part of Great Britain) and the Republic of Ireland was presented. There will be no controls put in place because the whole of the United Kingdom will remain within the customs union with the EU until the new trade agreement is negotiated. Besides, Northern Ireland will have deeper connections with the EU (VAT, food, state aid) to “allow all Northern Ireland goods to have access to the EU market on the existing basis,” Reuters reports.

For a long time, the customs union was rejected by the vast majority of the ruling Conservatives as it meant that it was unable to conduct its own trade policy. This has been softened by the assurance that the customs union will not last forever and the final goal is to develop new relations between Great Britain and the EU.

The presented provisions could possibly generate another problem, concerning territorial cohesion of Great Britain. This may mean that, for a long time, Northern Ireland will have different legal regulations than the main British island. There is a chance that this is accepted by the Irish Democratic Unionist Party (DUP), which creates a parliamentary coalition with the Conservatives of Prime Minister Theresa May.

The real test is parliament

The government's acceptance of Brexit is only the first step and not the most important one. The real test for the deal between the EU and the British negotiators will take place in the House of Commons.

The lower chamber of the British parliament is incredibly divided. Estimations say that from 30 to 50 members of the ruling Tories will oppose Brexit, claiming that it is not an appropriate exit from the EU, and it prevents, along with others, independent trade and economic policies.

A small proportion of the ruling Conservatives (who didn't want to leave the EU) may think that the agreement breaks ties with the EU too much, which will cause more damage to the British economy. In this case, the DUP, with the coalition of the Tories, will try to assure that the risks for Northern Ireland will rise, if their regulations are different to those in the other parts of the UK.

It is practically certain that the vast majority of opposition Labourists in Parliament will reject the proposed agreement. This may be due not only to ideological differences but also to the assumption that Jeremy Corbyn's party will see the refusal of the plan as a chance to take over the power of the Isles.

Scenarios for the pound

Acceptance of a relatively soft Brexit is a chance for significant increases in the pound’s valuation. If the House of Commons (according to the government’s plans) accepts Prime Minister May’s plan, then a strong appreciation of the sterling can be expected. It is likely that the British currency in relation to the zloty would increase to 5.20-5.30 PLN. An agreement with the EU would support the pound due to reduced uncertainty about economic conditions, but it would also pave the way for faster interest rate increases by the Bank of England.

At present, it seems that the House of Commons will reject the plan. The Conservatives and the DUP have 325 out of 650 seats. Even taking into account the possibility of persuading a fraction of the Labour Party to the plan, the internal opposition of the Tories in the form of 30-50 supporters of limited relations with the EU is likely to counter the government's Brexit plan. It will cause a drastic depreciation of the pound (about 0.20 PLN), especially if events start to take an unruly course.

Plan rejected. What’s next?

The rejection of the government's plan (the vote will probably take place in the second half of December) creates at least three possible outcomes. The first one is an unstructured Brexit, that would cause deep trading problems, diminishing the prominence of London City and general regulatory chaos that would undermine Britain's economic credibility and credit rating.

Another possibility is an early election, which would form a new government. Campaigning during political chaos would not help the economy or the pound. In addition, the hypothetical victory of the Labourists, given their extreme left-wing economic plan, is not the preferred solution for the market, even given that it was the Conservatives who led to Brexit and the whole commotion in the first place.

The last scenario under consideration seems to be another referendum. Some Labourists report the need to repeat the vote, arguing that more than two years ago the public did not fully understand what they were actually voting for. However, a referendum would not take place overnight, and its outcome does not seem to be obvious. In result, the rejection of the plan by the parliament in December would probably lead to a strong global pound depreciation and a drop in relation to the zloty to around 4.60 PLN.

Fluctuations possible later this year

The acceptance of the Brexit plan by Theresa May’s government is only the first step in the process of leaving the EU. It paves the way for the House of Commons to vote on the agreement and it is the result of the parliamentary negotiations that will be most important for the sterling. Considering the current distribution of votes and the negative attitude towards the government proposal, the risk of rejecting the negotiated plan and major changes this year are relatively high.

15 Nov 2018 8:45|Marcin Lipka

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