Month: August 2019

Thank for your explaining why you are in favour of No Deal Brexit. But I am afraid I am still rather confused. Many of your statements seem to be contradictory. Could you please explain to me how to reconcile them?

a. The EU will back down because No Deal Brexit is such an economic disaster
b. No Deal Brexit is not a problem at all

a. The EU is a danger to Parliamentary sovereignty in the UK which should be absolute
b. The UK Parliament should be ignored and bypassed if they want to stop No Deal Brexit

a. We need to be out of the customs union and reinstate our borders to control movement of people and goods
b. We do not need a border

a. The EU is a powerful superstate that will become increasingly integrated
b. The EU is fragile and will break apart

a. The EU has majority voting
b. The EU is a dual monarchy ruled by France-Germany

a. The EU is an Empire
b. The EU is a Federal state

a. It is terrible that the smaller countries are made to pay their debts – Germany should bail them out
b. It is terrible that the smaller countries will not pay their debts and will need to be bailed out

a. There is too much tax harmonisation in the EU
b. Some EU states have much higher tax burdens than others e.g. France is the highest and far higher than some others such as Ireland

a. The EU is undemocratic
b. Is it right that the UK PM is elected by Conservative party members only

a. The EU is undemocratic with no control by elected politicians
b. We should undermine the European Parliament as its elected politicians have too much power

I also have some questions for you

1. You talk a lot about why you dislike the euro. Since the UK is not in the euro area and had a legal opt out, why is this relevant to Brexit?

2. I get the sense that the central issue for you is that the EU is moving towards being a Federal state and that the UK will be forced to be a part of that. Apart from rhetoric of “ever closer union” could you tell me what steps the EU has made in the direction of a federal state in the past decade?It seems to me that this is a far from certain or even likely outcome and that there has been no movement in that direction in a long time. Could you please explain how the UK could be forced to be a member of this future federal state since we have an opt out on the euro and Schengen? Could you please explain why it is better to leave now when that outcome is a remote possibility rather than to wait?

3. You point out that the EU is not perfect and seem to think that this is a winning argument for Brexit. You imply that our future state outside the EU will be much better. But you have not explained in any detail what the world after Brexit would look like. For example, we currently have Single Market access to 27 countries (45% of our exports) and trade deals with 70 other countries. Post Brexit we will have trade deals with countries accounting for a total of 5% of our exports. The other 95% will be on punitive WTO terms. But it is claimed that Brexit will improve our trade position. How is this not simply the Nirvana Fallacy? I.e. “comparing actual things with unrealistic, idealized alternatives”. https://en.wikipedia.org/wiki/Nirvana_fallacy

4. Where do you want the border? If you want to be out of the Customs Union then that means you have a border for customs checks. They are essentially different phrases for the same thing. There are 2 logical places to have the border

a. Between NI and the Republic of Ireland which endangers peace
b. Down the Irish Sea which endangers the integrity of the UK

Which do you prefer?

5. The economic consequences

You mention that you think that the consequences so far have not been as bad as predicted. You only give one 2016 forecast (the most pessimistic) but an average of the main forecasters is actually surprisingly accurate i.e. that UK GDP is about 2% lower now than it would have been if we had voted Remain due to reduced confidence and investment.

For the forecasts the main hit to the economy is after Brexit actually happens with particularly bad and uncertain outcomes in a No Deal scenario.

Do you disagree with the negative economic impact of No Deal Brexit? Or simply view it as a price worth paying.

Last year I wrote some predictions about how Brexit negotiations would develop. This is a good time to see how they have held up.

https://appliedmacro.com/2018/11/13/brexit-the-endgame/

Everything has been spot on in the predictions so far and now we can reassess the rest.

Prediction 1

“We drop out of the EU into chaos”

I think useful to take another look at the key players in this drama and how they are likely to behave.

DUP:

View on Irish Border: Hard border between NI and Republic of Ireland.

View on economic impact of No Deal: Do not care

Aims: They are ultra right wing conservatives who want to isolate the North from the influence of the Republic of Ireland and ideally the rest of the modern world.

Potential for compromise or shift in position: none.

ERG:

View on Irish Border: Do not care. Hard border between NI and Republic of Ireland or border down the Irish Sea are both fine. Ireland does not matter at all.

View on economic impact of No Deal: Do not care.

Potential for compromise or shift in position: none

Boris Johnson:

View on Irish Border: does not care. But needs support of DUP for now.

View on economic impact of No Deal: does not care but would like to find someone else to blame

Potential for compromise: Unlikely given the stance of DUP and ERG.

Aim: Stay in power.

Jeremy Corbyn:

View on Irish Border: Border in the Irish Sea and move towards a united Ireland.

View on economic impact of No Deal: Would prefer not but not the highest priority issue.

Aims: Become Prime Minister. The ideal scenario is to have a No Deal Brexit that the Tories are blamed for which not only leads to Brexit but also a General Election which he wins. Use that power to make a deal with EU and advance plans for a socialist utopia away from the constraints of being inside the EU.

The rest

View on Irish Border: No hard border between NI and Republic of Ireland.

View on economic impact of No Deal: A disaster to be avoided.

Aims: Get another delay but without any clear united plan for what do with the delay. There is fragmented dissent from the ardent Remainers to people who want a Brexit with a deal.

EU

View on Irish Border: No hard border between NI and Republic of Ireland.

View on economic impact of No Deal: It’s terrible but they cannot avoid it.

Potential for compromise or shift in position: none. The simplest way to understand this is that the UK does not have a negotiating position. The UK has yet to come up with a proposal for the Irish border and so even if the EU “blinked” they have nothing to actually agree to. Even if the EU completely agreed to throw Ireland (a small member state) under the bus, the UK has no proposal that they could be confident would pass Parliament.

How does this play out before October 31st?

My read of the next few weeks is that Johnson will pretend to negotiate with the EU but in a way which is designed to lead to No Deal as he has no potential for getting the DUP or ERG to agree to a deal. His route to a victory in the coming General Election is to make the Brexit Party irrelevant by taking all their policies and have the opposition split. Corbyn being the most unpopular leader ever with less than 20% of the electorate with a favourable opinion vs 70% with an unfavourable opinion is the reason this strategy can work.

What can stop No Deal?

1. Parliament finds a way to stop it. This requires a lot more unified opposition than currently exists. Corbyn is doing a good job of trying to impede the No Deal opposition movement by making his elevation to Prime Minister a requirement. Demanding that a Brexiteer leads the Remainer resistance to Brexit is a good way to ensure its failure.
2. Johnson just before Oct 31st gives Parliament one last chance to pass the Withdrawal Agreement which they do to prevent No Deal. Possible but seems unlikely.

No Deal is rising significantly and is currently by far the most likely option.

Will it be chaos? Yes – I am not going to bore you with the long list of fiascos that will appear that we already know about. It is the unanticipated problems that are often the worst. A good analogy for it is the failure of Lehman in 2008. It was well anticipated and for about 2 weeks caused relatively minor disruption and market issues. It was only a little later that the repercussions of a direct break in the heart of a complex system become clearer. Brexit is similar as the UK and EU economies are deeply entwined meaning that a dramatic break is reckless in the extreme.

The US equity market was roughly unchanged in value a full 2 weeks after the Lehman bankruptcy and it was only in the 2 months following that we saw a further 38% fall. This is a perfect counterexample to anyone who says that the market is good at pricing in known events. The market failed to price Lehman a full 2 weeks AFTER it happened because people did not understand it. I think that Brexit is similarly poorly understood.

Prediction 2

“After a week of chaos, we go back to the EU and take whatever terms they offer us.”

After October 31st the game changes significantly. The EU is likely to wait for the UK to come back and agree the key features of the Withdrawal Agreement. The question is how long the UK takes to do this. The faster we do this the less damaging the economic consequences of No Deal.

How the Deal could be done quickly

There is a quick election and there is a clear majority for a party. Whichever party wins can use the chaos to explain why they had to agree the Deal and find some way to blame everyone else for it. This is very easy if the next PM is not Johnson. A possible way for Johnson to make a deal could be to change the backstop to one in which the customs border is in the Irish Sea, as long he does not need the support of the DUP. Then GB can be out of the customs union, and NI stays within Customs Union and Single Market. The EU are happy that the Good Friday Agreement is still in force although it does raise all sorts of new very difficult issues now that the DUP will feel utterly betrayed. This is the end of the UK in practical terms but the Conservative and Unionist Party do not seem to really mind that and Corbyn will be in favour too.

How it can take longer

Political paralysis continues despite growing economic damage. The main activity of politicians becomes finding ways to blame others for the chaos and suggest ways forward to give them power. The Remainers will likely stay split as some will want to do a deal quickly and others will want to find a path back to EU membership. The Brexit true believers will not have their faith dented by reality being nothing like their predictions and will continue to claim that these are “speed bumps” and that it is all for the best in the long term.

One of the big barriers to peace treaties is that it is common that the people who sign them are condemned as traitors and the people who just criticised from the sidelines claim a moral superiority and eventually political power. There are many examples such as the fate of Michael Collins in 1922 or the German “stab in the back” myth that they only lost World War I due to the traitors who made peace. It is a concern to me that the fiasco of No Deal does not lead to the demise of the far right but could perversely further bolster it as Farage/Johnson rail against the traitorous people who “colluded” with the EU to deprive the UK of its glorious independent future.

Can it go on forever?

It seems unlikely. With no withdrawal agreement there is no trade deal with the EU (half of UK exports). No trade deal with the EU in practice means no significant trade deal with anyone else as everyone needs to wait until they see the trade deal with the EU. The practical implications of the UK in a world without trade deals with anyone are economically severe and not supported by anything close to a majority of the UK. The US under Trump will attempt to keep the UK split from the EU and under its control, however I can see very little they can offer in practice that compares with an EU trade deal.

Will the EU give in? This seems very unlikely

1. The economic consequences for the EU are far less than they are for the UK and so there is every reason for them to expect the UK to fold first. https://appliedmacro.com/2017/05/05/who-loses-more-from-brexit-the-uk-or-eu/
2. The UK does not actually have a viable proposal for the EU to agree to. The current stance of both a border and not a border simultaneously just makes no sense. https://appliedmacro.com/2017/05/02/brexit-and-ireland/

I stand by the predictions for the next stage too. The one thing I would change is that I now think we are not as smart as the Greeks and will take a lot longer than a week to turn around and ask for a Deal.

Prediction 3

“We call Brexit a triumph”

Is there any doubt in this one?