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Chaos in the UK may plunge the pound. How much will it cost?

24 Sept 2018 11:31|Marcin Lipka

"If London does not reach an agreement with Brussels within a few weeks, the pound exchange rate may fall by as much as 0.20-0.30 PLN. To make things even worse for the British people, there are no chances of reaching a compromise over Brexit," writes Marcin Lipka, Conotoxia Senior Analyst.

The rejection of Prime Minister Theresa May's proposals for future trade relations with the UK by EU leaders complicates the political situation in the UK. This could lead to accelerated parliamentary elections, another referendum on Brexit and even a completely unorganised departure from the Commonwealth. The latter scenario would be a disaster for London.

A total lack of agreement between London and Brussels

“A lack of agreement is better than a bad agreement," said Prime Minister May in the context of leaving the EU, at the end of last week. This is a consequence of the rejection by the EU legislators of a plan for a relatively soft Brexit, which would allow the free movement of goods between the UK and the EU and the absence of border crossings between Northern Ireland and the Republic of Ireland.

Brussels is sceptical of the Tory’s plans, including Prime Minister May. According to EU leaders, their implementation would disrupt the Single Market foundation (EU goods, persons, capital and services movement freedom, indivisible according to the EU). London, on the other hand, cannot agree to remain within the single market, as this would disrupt Brexit’s key concept of limiting migration and avoiding the obligation to pay contributions to the common budget.

Nor can the United Kingdom accept the idea that only Northern Ireland should remain in the single market, although it is worth pointing out that its citizens voted in favour of remaining in the EU structures during the referendum in June 2016. In such a situation, however, border controls between Northern Ireland and the main British island would have to be put in place, which is, of course, unacceptable to the United Kingdom.

Split governing party and risk of early elections

Prime Minister May does not only have a problem with Brussels. She also has to deal with the opposition within her own party. Some leading representatives of the Tories (Boris Johnson, Michael Gove, Jacob Rees-Mogg) want a so-called ‘pure Brexit’, which means limited relations with the EU, similar to the customs agreement reached with Canada. This would exclude the introduction of any element of the common market, but would also generate a physical border problem between Northern Ireland and the Republic of Ireland. This subject is also sensitive because of the conflict between the 1960s and 1998, which claimed more than 3,000 victims.

The rejection of Prime Minister May's proposal at last week's summit in Salzburg increases the strength of the opposition within the group. This generates the risk of early elections initiated both by the pure brexit supporters and some of the politicians close to the head of government.

More than a year ago, elections to the House of Commons were held, but instead of strengthening the Conservative party, they actually weakened it. Current polls show that the Tories are about 2% ahead of the Labour party, practically confirming the result from June 2017. The risk is, therefore, disproportionate to the benefits, although a protracted dispute within the party, as well as with Brussels, may force early elections.

The opposition has no common position on Brexit

It is simply assumed that the opposing Labour Party would be more willing to enter into an agreement with Brussels, but this is not entirely certain. First, its leader, Jeremy Corbyn, often spoke out against the EU, even before the referendum over two years ago. Secondly, there is no unified position on the next moves amongst the members.

It is not clear whether they want another referendum on Brexit. They may be inclined to ask for a referendum, but not so much on the question of staying in the Union as on the new relations between London and Brussels (the current plan states that it is up to Parliament to give its opinion on this issue).

The companies situation in the scenario of taking power by labourists also hovers as a big question mark. Over the past few years, this party has become seriously radicalised. Its leaders are considering the nationalisation of public utility companies, the introduction of additional taxes for owners of more than one property, or forcing private companies employing more than 250 people to transfer 10% of their shares to their employees.

Extremely important conventions from both parties

The next few days will be extremely important for politicians from both leading groups in the UK. The Labour Convention (conclusions will arise on Tuesday) has been running since September 23rd. It should answer the question whether the opposition will strive primarily for accelerated parliamentary elections and its own negotiations with Brussels, or whether it wants to play va banque and promote the idea of another referendum.

The annual meeting of the Conservatives will also take place between September 30th and October 3rd. It is likely that Prime Minister May will speak at the meeting on the last day. It may then be clarified whether the Head of Government will defend her own Brexit plan, which entails the risk of failure to implement it, the need for early elections and even a chaotic departure from the EU, or whether she will give way to the pure Brexit supporters. Both scenarios could be negative for the pound, if there is considerable market nervousness.

Black clouds over the pound

At the moment, it is therefore difficult to predict any positive scenarios for the pound. Any action taken by both the opposition and the ruling party generates additional risks for the British economy. At present, therefore, only if Brussels were to reach out and agree to a compromise distorting the idea of the common market could save the situation. However, taking the Salzburg summit into account, this is very unlikely.

However, there is an increasing risk that the sequence of political events on the Islands will direct Britain towards a disorderly leaving from the European Union. The lack of any agreement with the EU, only in the perspective of this year, may weaken the pound by even 0.20-0.30 PLN.

24 Sept 2018 11:31|Marcin Lipka

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