‘No Deal’ Brexit: Pre-emptive Programming or a Fake Out?

It was part way through July, with the UK bathed in sunshine, that warnings of a ‘no deal Brexit‘ were intensified throughout the British press. The headlines grew more profound by the week:

In amongst this the government released its first guidance on a potential no deal scenario, containing snippets such as pharmaceutical companies being told to stockpile an extra six weeks worth of medicine and the ‘likely increase‘ of card payments between the UK and the EU.

With September upon us, the warnings of a ‘disorderly‘ Brexit began to originate from financial and economic circles.

Ratings agency Moody’s said no deal would cause a sharp fall in the pound, trigger higher inflation and lead to the UK economy contracting. Fellow agency S&P backed up Moody’s forecast, speaking of rising unemployment, falling household incomes and inflation spiking to over 5%.

Bank of England governor Mark Carney spoke to the UK cabinet with inside sources claiming that he warned them of unemployment rising to double figures and a 25-35% fall in house prices. This was at the same time the government released more Brexit ‘no deal’ guidance which covered potential disruption to drivers, passport holders, Irish citizens and business.

Next it was the turn of IMF chief Christine Lagarde, who warned of ‘dire consequences‘ in the event of no deal, citing reduced growth, an increase in the UK’s budget deficit and a depreciation of sterling.

Further guidance from the government spoke of how no deal could ground airlines and stop hauliers.

As we moved into October, the Office of Budget Responsibility said no deal could lead to the hoarding of imported products, and a ‘bottleneck‘ of goods that may prompt people to stockpile, with weaker economic output and higher prices the likely consequences.

The IMF came out again with warnings of how Brexit posed a serious risk to the stability of the global economy, with rising levels of uncertainty impacting not just the UK but the global economy as a whole. They went on record as saying that,

sharp tightening of global financial conditions could be triggered by further escalation of trade tensions or by a sudden shift in risk sentiment caused by rising geopolitical risk or policy uncertainty in major economies.

The United States through David Malpass (Treasury Undersecretary for International Affairs) then warned of the risk from a ‘hard‘ Brexit, indicating a preference for a transition period to smooth the UK’s exit from the EU. This was a position echoed by Federal Reserve Chairman Jerome Powell at a Financial Stability Oversight Council (FSOC) meeting in Washington.

Bank of England deputy governor John Cunliffe told the Treasury Select Committee that a bad Brexit outcome could see a big fall in the value of the pound, which in turn could have sizeable implications on the bank’s 2% remit for inflation.

November began with the Bank of England holding interest rates at 0.75%. Governor Mark Carney used a subsequent press conference to warn that a no deal exit from the EU could lead to rates rising instead of falling, stressing that there are ‘scenarios where policy would need to be tightened in the event of a no deal, no transition disorderly exit‘, and how economic circumstances today ‘differ materially from those following the referendum‘.

Carney’s words were largely dismissed as either ‘project fear‘ by advocates for leaving the EU or ‘implausible‘ by the British media.

Warnings around no deal then spread to the military. Defence minister Tobias Ellwood confirmed that contingency plans were ‘being made, there are discussions being held behind the scenes as to what support our armed forces will do.’

This was followed up by Simon Kempton, the operational lead for the Police Federation of England and Wales. He warned of a return to violence in Northern Ireland, rationing to fend off panic buying, and police resources being stretched to the limit with the force having lost 22,000 officers since 2011. The message was that if necessary, the police would have to ask the military to assist them where required.

The Times newspaper reported days later of ‘Operation No Deal, with plans to deploy the army onto the streets of Britain to respond to potential ‘chaos‘. Twenty officers who usually oversee Operation Temperer – an anti-terrorism operation which deployed troops for several days following the Manchester Arena bombing in May 2017 – are apparently now focusing on no deal planning.

As warnings of the army being utilised circulated, Mark Carney made an appearance at the Treasury Select Committee. Whilst issuing support for the recent withdrawal deal agreed between the UK and EU, he again used his platform to warn of rates rising as a result of a no deal Brexit.

  • We basically have the economy operating at full capacity and at the end we have the primacy of the inflation target in our remit.
  • [With] a no-deal no-transition Brexit, the issues will be in the real economy, how the logistics system works, how business confidence holds up.
  • [But] this is not the financial crisis round two, where the Bank of England and other central banks were centre-stage.
  • This is a real economy shock, and therefore central banks have a role, but we’re more of a sideshow.

Speaking frankly, Carney said that if sterling depreciated and supply to the economy reduced, ‘that is a position when you would expect monetary policy to be tightened.’

Michael Saunders of the Bank of England’s Monetary Policy Committee (MPC) agreed:

  • An early move to WTO (World Trade Organisation) rules, with no transition, would be a major supply shock. If you have queues at Dover, the answer is not lower interest rates.

The question to ask at this juncture is if the warnings communicated over the past six months have validity.

Personally, I do not support the position of ‘leavers‘ who brush aside proclamations from the central banking community as ‘project fear‘. To begin establishing a semblance of understanding behind the no deal narrative being cultivated, it is imperative to weigh up the merit of what central banks in particular are conveying. Do that, and the synchronicity in their messaging, the trends buried within speeches made by Mark Carney and Christine Lagarde, become evident.

The trouble is that those who have aligned themselves to an ideological position on Brexit are proving incapable of analysing the warnings from central banks with balance and objectivity.

A brief look over the warnings outlined above show one worrying commonality, and that is the affect a no deal exit would have economically. Restricted supply chains, in concurrence with a sustained fall in the value of sterling, would unquestionably increase the rate of inflation.

Inflation is the primary danger here. Not just because of the increased cost of goods, but more for how the Bank of England would respond in terms of monetary policy.

When analysts dismiss warnings from the Bank of England that they would raise interest rates following a no deal, they do so in possession of belief rather than hard evidence. Official communications from the BOE have been signalling for months that they intend to raise rates rather than cut them.

Seated before the Treasury Select Committee, Mark Carney said that a no deal scenario would have nothing in common with the 2008 financial crisis. What he meant by this is that the crisis a decade ago originated within the financial rather than political paradigm. The response therefore was for central banks to become the willing custodians of the global economic system. This is one of the reasons why the Bank of England tolerated above target inflation for four years prior to it falling below the bank’s remit of 2%.

Since then, the narrative has changed from monetary accommodation to ‘normalisation‘. Read Mark Carney’s speeches and those of Christine Lagarde and BIS General Manager Agustin Carstens. They speak as one on the direction of monetary policy, which is to tighten rather than loosen.

In short, a combination of their words and actions draws me to the conclusion that they are not going to backstop the fallout from political crisis such as a no deal Brexit and ‘Trump’s Trade War‘. One piece of evidence to support this rests on how since the advent of renewed ‘populism‘ throughout the West, both the Bank of England and the Federal Reserve have taken it upon themselves to remind people of their remit for 2% inflation and how this is once again central to their mandate. Rather than being to their detriment, ‘populism‘ is enabling banks to tighten policy and in doing so gradually collapse the economic system as we recognise it today.

In October, the IMFC (International Monetary and Financial Committee) – which runs out of the IMF- held its thirty eighth meeting in which the communique stated the following:

  • Risks are increasingly skewed to the downside amid heightened trade tensions and ongoing geopolitical concerns.
  • Policy uncertainty, historically high debt levels, rising financial vulnerabilities, and limited policy space could further undermine confidence and growth prospects.
  • Central banks, in line with their mandates and mindful of financial stability risks, should maintain monetary accommodation where inflation is below target, and withdraw it in a gradual, well-communicated, and data dependent manner where inflation is close to or above target.

This is the International Monetary Fund dictating that in the face of geopolitical strife, central banks should continue to normalise off the back of higher inflation. The same IMF whose Managing Director Christine Lagarde began several years ago to speak of the necessity for a ‘global economic reset, which would entail the ‘normalisation‘ of monetary policy.

It is through the vehicles of restricted supply chains and currency devaluation that the Bank of England – in the event of the ‘disorderly‘ Brexit they speak of – plans to implement further interest rate hikes.

The ‘project fear‘ meme ascribed to ‘Brexiteers‘ appears designed to both deflect attention away from the detail of the BOE’s communications and to dismiss the bank as crying wolf. Pre-emptive programming or not, the economics that underpin the plethora of no deal warnings are not a fake out. They are real and should be taken seriously, for it is this which would provide the BOE with the ammunition required to carry on tightening.

Should the UK leave the European Union with no deal, realisation of what this will mean from an economic perspective will come too late. It is under this scenario where the Bank of England can, from their part, fulfil what is a global directive to pull support from financial markets and pave the way towards the ‘new world order‘ which Mark Carney himself has been calling for.

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