British exit from EU poses dangers for UK economy, political survival

British leader's use of Brexit as bargaining chip for a better EU membership deal is a high-risk gamble that puts the economy in grave danger

PUBLISHED : Sunday, 31 May, 2015, 4:34pm
UPDATED : Monday, 01 June, 2015, 9:39am

It is no exaggeration that Britain may be facing its greatest challenge of the millennium. Britain is heading into a major political storm and deepening economic disaster as it squares up to the threat of a possible exit from the European Union in the next few years.

Prime Minister David Cameron has opened up a Pandora's box of toxic risk by pledging to renegotiate Britain's ties with Europe and granting voters a referendum on EU membership by the end of 2017 at the latest. With a referendum bill already introduced to the new parliament, expectations are growing that the vote could even take place next year.

The British government is using Brexit as a bargaining chip to get a better EU membership deal but it is a high-risk gamble. It puts the economy in very grave danger. British industry and jobs will be under threat. National unity will come under severe strain. UK financial markets, investors and savers could all suffer very heavy collateral damage.

Right now, the government may feel assured by recent opinion polls suggesting a majority of UK voters remain in favour of Britain staying in the EU. But things could change very quickly in the run-up to a referendum, especially once the debate heats up. Politics is fickle and nothing is cast in stone.

Brexit poses considerable risks to the economy. The UK is a trading nation, with economic prosperity critically dependent on exporters getting free and easy access to global markets. With over 50 per cent of British exports tied to the EU's free trade area, any impairment to trade there could pose serious risks to UK output and jobs. It could take years to renegotiate another new free-trade relationship with Europe, doing great harm to UK export prospects in the process.

It is a worry which is already overshadowing the UK business community and casting a pall over growth prospects in the next few years. Recent GDP data highlight the risks, with growth sinking to 0.3 per cent in the first quarter, the slowest pace since the end of 2012. Trade factors knocked 0.9 per cent off growth as imports rose and exports dropped back, largely thanks to the impact of the stronger pound.

The only saving grace was a rebound in investment spending, which rose 1.5 per cent. But if UK business sentiment continues to fret over Brexit risks, future investment intentions will be shelved, punching a bigger hole in domestic demand.

Brexit could also spark a panic flight of corporate and financial capital. International companies regionally headquartered in the UK may be forced to relocate to the EU to be closer to Europe's economic epicentre. Also, many of the 250 international banks centred in London's financial hub may be forced to move for regulatory reasons. All told, it could inflict irreparable damage on Britain's output and employment potential.

More worrying from a sovereign risk perspective, Brexit could wreak carnage on political stability and set in motion the break-up of the 400-year-old British Union. The secessionist Scottish National Party has already warned that a UK exit from the EU could be the precursor to another independence vote. At a stroke, up to 8 per cent of national output could secede from the UK.

All told, Brexit would be a death knell for Britain's financial markets. The potential loss of output to the economy would be huge, considering lost export opportunities, the damage inflicted by corporate and capital flight and by Scottish secession. It could plunge the economy into a deep depression, precipitating a collapse in equities, a flight from British government bonds and a serious run on the pound. A collapse in asset prices could trigger major solvency problems for British banks, pension funds and insurance companies.

If there is a saving grace, current opinion polls show that all is not lost just yet. UK euro sceptics are still outnumbered by voters wishing to remain in Europe. Over the next year, it is not just the government that needs to make a convincing case for Britain to stay. It is also down to EU lawmakers to offer sufficient concessions to make British EU membership worth keeping.

In the worst case scenario, Brexit would condemn Britain to be an economic backwater.

David Brown is the chief executive of New View Economics