Brexit uncertainty increases for business

Even before last week’s UK general election, political risk analysts painted a gloomy picture of Brexit negotiations, in which business will have to plan for the UK crashing out of the EU or a prolonged period of uncertainty and complicated trade negotiations. But the result of the election has created even more uncertainty for business, they say. Prior to the election, Verisk Maplecroft’s scenario analysis pointed to more than a 50% chance of the UK leaving the EU without a deal. UK prime minister Theresa May failed to get a clear mandate for her ‘hard Brexit’ in the election. Ms May’s inability to win a majority has weakened her authority domestically and in the EU, said Camilla Hagelund, principal Europe analyst at Verisk Maplecroft. At the moment, it is still unclear whether the UK’s prime minister will achieve a deal with the Democratic Unionist Party and whether she will be able to sell such a deal to her Conservative colleagues in parliament, she said. “A potential change of leadership of the Conservative Party – and the possibility of another general election – leaves uncertainty about all policy, including the UK position on Brexit,” said Ms Hagelund. “As such, a ‘softer’ Brexit becomes a plausibility but, on balance, single market membership remains unlikely as both major parties campaigned to leave it as part of Brexit,” she said. The best that can be hoped for is a calm negotiating process with both sides coming to a shared view on a future relationship, pushing towards a trade deal not too far in the future, David Lea, an analyst at Control Risks, told CRE ahead the election. Under such a scenario, the UK economy might suffer, but not as badly as some expected and is in shape to rebuild, he added. The worst case scenario is for “bad-tempered” negotiations in which the UK government sticks to the “no deal is better than a bad deal” mantra, he continued. Under such a scenario, trade talks could be “kicked into the 2020s” and the UK may end up trading with the EU on worse terms than most of the rest of the world for several years, he said. “There’s not a lot of incentive for anyone to be collegiate and help out the other side here, and an obstructive process is most likely. Substantial negotiations on trade and a new relationship with the EU and elsewhere will take time and experience that the UK just doesn’t have, and, if combined with a housing market correction, could be hugely problematic for the UK economy,” he said. A survey conducted by the Institute of Directors since last week’s UK election showed a marked drop in economic confidence from UK firms. According to Mr Lea, the key risks for business come down to trade. “An end to the view of the UK as the default provider of financial services, and as a lucrative export market, could radically alter the structure of the UK’s economy and the business implications of that are substantial,” he said. Trade barriers are almost certain to emerge in a variety of forms following the UK’s formal exit from the EU. But a transition deal will impact the timing of this, said Ms Hagelund. “If the UK negotiates a deal under the two-year Article 50 process, this will almost certainly involve a transition phase for the simple reason that agreeing a fully-fledged trade deal is unfeasible in that timeframe,” she said. “The fact that the UK general election has left the UK government scrambling for a clear position, only sharpens the pressure on the government to secure a transition agreement with the EU,” she added. Without a transition agreement, barriers to trade are likely to emerge rather abruptly for business on both sides of the Channel. Under a Conservative government, the UK looks set to leave the single market and the EU customs union, explained Ms Hagelund. “Exit from the customs union would lead to compliance and administrative costs for businesses, which would have to prove the origins of their products in line with rules of origin and the common external tariff policy. The cost of this has been estimated to range from 4% to 15% of the cost of products,” she said. It is also very unlikely that free movement of labour will continue in its current form, according to Ms Hagelund. This threatens the supply of immigrant labour from the EU, which has been important to the UK economy both in terms of high and low skilled jobs, Ms Hagelund told CRE. The issue of transparency and the timing of actionable information for business is also going to be critical during the next two years. Companies will need a certain amount of transparency and lead-in time on issues like future regulation, trade and freedom of movement if they are to adapt in an orderly way. Until now, the UK government has favoured secrecy, while the EU has made it clear that the bloc will be transparent about negotiations. But the need for the UK government to seek broader parliamentary support will now encourage greater transparency on the part of the UK, believes Ms Hagelund. “That means that clues to the progress – or lack thereof – and the shape and direction of travel will be available in the public domain,” she said. “This can help businesses calculate whether or when to get the ball rolling on potentially necessary contingency measures. However, ultimately, nothing is agreed until everything is agreed. Therefore, companies will not have certainty about the outcome until late in 2018, when any deal will need to start its ratification process,” said Ms Hagelund. “Even then, assuming there will be an agreement on a transition period, there will be little certainty as to the final settlement on post-Brexit trade terms,” she added. The question of EU nationals is likely to be addressed fairly early on, according to Mr Lea. However, if an agreement on the future of EU nationals in the UK is not forthcoming, this would be a bad sign. “This is a long process, being slated for a short period of time. Trade is likely to be entirely separated out and could take years, even if things go well,” he said. Given the high levels of uncertainty surrounding Brexit negotiations, contingency planning will be essential for many companies, especially those reliant on EU regulation, licences and supply chains to operate. Contingency plans were not immediately important following the referendum result a year ago but are now, according to Mr Lea. He also believes that companies will need to keep modifying contingency plans as the process develops. According to Ms Hagelund: “Companies seeking to mitigate risks arising from Brexit need to consider the specific risks facing their business and industry under different probable outcomes, as well as what measures would be required to counter those risks. “In light of the high probability of the UK leaving the EU without a deal, companies contemplating contingencies requiring lengthy implementation processes will benefit from acting early,” she said.

Brexit uncertainty increases for business

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