The United Kingdom Chooses ‘Brexit’, Will it Hurt India?

  • July 06, 2016

The U.K.’s decision to withdraw from the European Union (EU) on June 23 caused heavy turmoil for financial markets worldwide and a currency freefall for the Pound Sterling. It also opened up a period of great uncertainty for those doing business with the UK and Europe. While global markets have since bounced back from the immediate panic reaction, questions linger about the exact impact Brexit will have on global investors and respective economies, including India.

What is Brexit?

‘Brexit’ or the British decision to exit the European Union (EU) is the outcome of a referendum held in the U.K. on June 23, where the ‘Leave’ vote won, 52 to 48 percent. Prior to the final hour, most polls had indicated a favorable result for the ‘Remain’ camp. Thus, immediate reaction from financial markets saw the British currency value plunge by over 10 percent to US$ 1.32, the lowest it’s been since 1985.

Political losses, too, have been marked in the wake of the referendum’s shock verdict. The British Prime Minister David Cameron (who had led the ‘Remain’ campaign) announced the morning of June 24 that he would step down after his Conservative Party nominates a new leader in September. The main opposition party, the Parliamentary Labour Party, has just passed a no-confidence motion against its own leader, Jeremy Corbyn. All of this means that the U.K. could go in for a fresh general election sooner than later.

The referendum has also impacted the unity of the U.K. Results on June 24 showed that Scotland, Northern Ireland, and the city of London voted firmly in favor of remaining in the EU. Scotland has since begun revisiting the idea of independence from the U.K.

When Will the Separation Take Place?

By no means is this ‘separation’ or ‘divorce’ going to be immediate. Proceedings will start once the U.K. triggers Article 50 of the Lisbon Treaty to which it is a signatory. The withdrawal process is detailed and difficult by design, and could take up to two years. Furthermore, as of their last meeting on June 29, the EU position is clear – the U.K. cannot prolong the start of proceedings beyond a few months. This short leeway has been provided as the country gets a new PM and/or government if fresh elections are called. Additionally, no new negotiations can take place with the EU before a complete exit. The U.K., on the other hand, desires a complete outline agreement before invoking Article 50.

Foremost among the British concerns are –

  • Immigration: The U.K. has consistently demanded greater control over who it lets through its borders, including refugees. PM Cameron conveyed this sentiment once again to the 27 member-states on June 28, stating that immigration was the key factor behind his country’s vote for Leave. Nonetheless, EU members assert the primacy of the free movement of people in the European Union. European non-EU states that enjoy a preferential relationship with the Union, like Norway and Switzerland, both accept the freedom of movement of labor.
  • Impact on trade relationship with the EU: The U.K. wants continued access to the EU’s tariff-free single market. In response, the EU has been less than enthusiastic, asserting that no such access can be demanded “à la carte”. Brussels continues to assert that the European single market is predicated on “four freedoms”, that is, the free movement of goods, capital, services, and people.

Clarifying the EU’s position, the European Commissioner for Trade, Cecilia Malmström, stated that the U.K. will become a “third country” in EU terms post-Brexit, meaning trade would be carried out as per default World Trade Organization (WTO) rules until a new deal is formalized. This would be damaging to the country’s services industry.

Will Brexit Hurt the Indian Economy?

India’s growth story will not get derailed by Brexit, according to all leading global financial service firms and market analysts. Economic indicators are key and GDP growth and retail inflation forecasts remain at around 7.9 percent and 5 percent respectively, for 2016-2017.

Many reasons account for this. One is the continuing and subdued oil and commodity prices. Further, India has a relatively low exposure to trade with the country – U.K. accounts for only 3.4 percent of India’s goods exports. A depreciating pound could even make imports from the U.K. more competitive. India may also be able to strategize better trade partnerships with the region and boost its declining services and merchandise trade. No EU member-state can individually negotiate separate or preferential trade arrangements with foreign countries, but once the EU-exit is finalized, India could seek a bilateral trade arrangement with the U.K.

However, irrespective of the neutral impact on India, post-Brexit still remains unchartered territory for all concerned. The fallout over the long term will depend on the duration and nature of U.K.’s talks with the EU, and a potential economic slowdown in the U.K. would be troubling. If the latter sets in, exports in the following Indian sectors could feel the heat – auto components, textiles, leather and footwear, and precious stones and metals (Source: CRISIL). Cumulatively, these goods comprise about 45 percent of India’s exports to the U.K.

Yet, India-watchers will be more interested in PM Modi’s ambitious economic, banking, and regulatory reform agenda for the country. Ultimately, it is the implementation of these plans that will decide the trajectory of India’s growth story and its credibility as an investment destination. Only those Indian companies with entrenched British interests will be affected by Brexit; the scope of that impact is also to be determined.

Observations

While global markets have somewhat calmed down, countries and investors worldwide are waiting to see how the unprecedented uncertainty resolves itself – firstly, in terms of who will lead the U.K., and secondly, what will be the terms of the negotiated exit from the EU. The latter holds especially key as it impacts several economies around the world who have strong trade and economic ties with the U.K. Morgan Stanley reports that, relatively speaking, among Asian markets, Hong Kong, Singapore, and Malaysia will be the most exposed to the U.K.’s economic predicament, while Thailand, Indonesia, Taiwan, Korea, and China will be moderately exposed, and India and Philippines the least exposed.


This article was first published July 2016.
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