U.K. faces recession if “hard” Brexit occurs

07.16.19

The expected conclusion to Brexit is weighing on eurozone economic growth. The inability of the U.K. Parliament to find an equitable agreement to leave the European Union (EU) triggered the resignation of Prime Minister Theresa May. We expect Boris Johnson to be the Conservative Party’s choice to replace May.

Johnson favors a renegotiation of the original deal, but supports a “hard” Brexit — where the U.K. leaves the EU without an agreement to clarify trade and other issues — if that’s not possible. With the EU holding firm that it will not renegotiate the exit deal, Johnson’s ascension to prime minister would increase the odds that the U.K. could leave the EU on Oct. 31 without a deal.

Muted Eurozone GDP growth tied to global trade
Chart Showing Sluggish pace of global GDP growth continues throughout 2019

Source: Ivy Investments analysis of CPB World Trade Monitor and Eurostat economic data. June 2019.

In our view, the U.K. will fall into recession if this occurs. We hope that Parliament would step in before this occurred, which could include a vote of no confidence that could result in new general elections and a new government. While a hard Brexit is not our base case, the risks of such an event have clearly risen.

The outlook for the other side of the Brexit equation is somewhat tame. The eurozone’s economy is tied to not only China, but also the global trade cycle. The European Central Bank (ECB) continues to push out its own forecast for when it will be able to raise interest rates, with its deposit rate currently at -0.4%. Recently, the ECB indicated it stands ready to ease if needed. We increasingly believe that the ECB will have difficulty getting the deposit rate much above zero before the next recession and could still have negative rates at that time.


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