What does Brexit mean for the EU/Eurozone?
No European government has ever publicly announced that it would favour a Brexit scenario. It is this European corporate (and consensus-oriented) spirit that somehow forbids European governments to think about the unthinkable. Therefore, the European Summit in February will be another attempt to accommodate David Cameron’s demands and ideas (even if they are not entirely clear to everyone) on economic governance, competitiveness and sovereignty.
In the area of immigration, the refugee influx could have made it easier for David Cameron to reach some kind of compromise with the European partners.
Particularly, Germany has often found itself between a rock and a hard place. Over the last fifteen years, German governments have struggled to make up their mind on whether they prefer more integration at the EU or the Eurozone level. As a consequence of the euro crisis, an increasing feeling of fatigue with complicated and exhausting European partners and recently unprecedented domestic challenges in the wake of the refugee inflow, the German government could be less willing to make compromises which would reduce its own power in Europe.
On the current “hot” topic immigration, the negotiations with the UK might be a welcome occasion for many European governments, including the German, to tackle increasing populism in their own countries. The Financial Times signalled willingness from the Danish, Dutch, Austrian, French and German government to back a stricter stance on immigration. While the EU, in our view, will never agree to change the principle of free labour movement in the EU, stricter rules for immigration from non-EU countries and stricter rules for access to social benefits for EU-citizens could pave the road for a compromise. A more exclusive and harmonised approach to EU citizens moving from one EU country to another without having a job should not be excluded.
In this regard it is telling to notice that several politicians made statements recently, backing to some extent the British view. Deputy German Finance Minister Jens Spahn said on Bloomberg TV that Mr. Cameron raises some relevant questions and makes some right proposals especially when it comes to immigration into the social welfare systems. While he had still some reservations on the specifics of the British proposals, he sees readiness to “find a common solution on this because we don’t want social welfare migration within the European Union - that’s a common point.”
Nevertheless, despite the fact that a compromise - at least in theory - is still feasible, it is very hard to tell where the negotiations exactly stand at the current juncture. Even worse. As these negotiations are highly technical, it is hard to see how any result - even if presented as a victory for David Cameron - can be so compelling to the British people that they would lose their EU-scepticism. It is currently hard to see how a “I want my money back” moment for Cameron could exactly look like. The rest of the European Union, therefore, is well advised to think of the unthinkable and prepare for a Brexit. Here are, in our view, some possible economic consequences for the rest of the European Union and the Eurozone, respectively.
Quantifying the impact from a possible Brexit is anything but easy. As so often in these unprecedented big bang events, headline estimates of a quantified economic impact on the Eurozone and individual countries should be taken with a pinch of salt. Similar experiences have for example been made with the estimated impact from TTIP on growth in Europe. Nevertheless, such estimates give at least some idea of the possible magnitude. To give an example, a study by the German Bertelsmann Foundation, relying on Ifo estimates, shows that a Brexit could lower Eurozone GDP growth by between 0.01 and 0.03 percentage points each year.
As the EU has told us to reduce salt in our diet, we stick to a more qualitative analysis on the impact of a Brexit on the rest of Europe. It is undisputable that Britain plays an important role in the EU. Whether it is the share in total population, total GDP or FDI, Britain ranks in the top three countries and a Brexit would be a big loss. Obviously, the trade channel is the most direct channel through which a Brexit would hit the rest of the European Union. Looking at bilateral trade, Ireland and the Netherlands, followed by Belgium seem to be the most exposed Eurozone countries to a Brexit; even if a Brexit would clearly not mean that all trade would disappear. According to our own model/analysis, trade with the UK accounts for around 2 million in the Eurozone (1.5% of total employment).
While not every sector is as vulnerable to a British demand shock, manufacturing in general and air transport would definitely take a hit.
As regards the size of the UK economy and FDIs, a smaller GDP of the EU would hardly have any economic impact. In terms of FDIs, a Brexit could have both a negative and a positive impact on the EU. European companies might have to take losses on revaluations of their FDIs in the UK and with a weaker GBP, profits translated in euro would probably take a hit.. Moreover, a Brexit could actually reroute investments to continental Europe, either through repatriations or new investments from non-EU countries which took the UK as an entrance point to the European Single Market. Last summer, it was reported that Deutsche Bank had set up a working group, investigating whether London business should be returned to Frankfurt in case of a Brexit. Other international banks also mentioned contemplating moving a part of their business from London to the continent (with Luxemburg often cited) in the case of Brexit. These considerations are unlikely to remain limited to the financial sector, especially if post-Brexit free trade negotiations would announce themselves rather difficult.
The final tangible and direct economic or financial impact from a Brexit on the rest of the EU would be the contributions to the EU budget. As the UK is one of the net contributors to the EU budget, all other countries would have to shoulder the missing money. The biggest burden would be on the biggest countries, with Germany having to pay an additional 2.5bn euro on top the current 30bn euro into the EU budget.
Turning to the less tangible impact of a Brexit, politics, it is obvious that a Brexit would knock the EU's finely balanced power structures off kilter. Without the British and their advocacy for free trade, the influence of more interventionist European countries, led by France, would become greater. In this regards, a Brexit could also an impact on the current negotiations between the EU and the US on TTIP. According to the latest Eurobarometer from November 2015, the pro-TTIP fraction in Europe would lose an important voice as 62% of the Brits were in favour of TTIP (compared with an EU average of 53%). Finally, if the UK would get a good post-Brexit deal, the risk of copycats would clearly increase. However, let’s not forget that none of the current separatist ideas (or platforms) in several Eurozone countries have ever envisaged leaving the EU.
Though the EU would be smaller in size post-Brexit, it is far from certain that a smaller EU would lose significant power in international institutions like the IMF or the UN. In fact, the EU is still mostly represented by its member states. Moreover, a Brexit could also be the catalyst for a political backlash and the long-awaited quantum leap towards a fully integrated monetary union.
Carsten Brzeski, Chief Economist ING-DiBa, email@example.com
Where 'we' has been mentioned in this article, the research department of ING is meant.
This publication has been prepared by ING (being the commercial banking business of ING Bank N.V. and certain subsidiary companies) solely for information purposes. It is not investment advice or an offer or solicitation to purchase or sell any financial instrument. Reasonable care has been taken to ensure that this publication is not untrue or misleading when published, but ING does not represent that it is accurate or complete. The information contained herein is subject to change without notice. ING does not accept any liability for any direct, indirect or consequential loss arising from any use of this publication.
This publication is not intended as advice as to the appropriateness, or not, of taking any particular action. The distribution of this publication may be restricted by law or regulation in different jurisdictions and persons into whose possession this publication comes should inform themselves about, and observe, such restrictions.
Copyright and database rights protection exists in this publication. All rights are reserved. ING Bank N.V. is incorporated with limited liability in the Netherlands and is authorised by the Dutch Central Bank.
Any person wishing to discuss this report or effect transactions in any security discussed herein should contact ING Financial Markets LLC, which is a member of the NYSE, FINRA and SIPC and part of ING, and which has accepted responsibility for the distribution of this report in the United States under applicable requirements.