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We’ve heard a lot (some would say too much) about a 'Grexit' – the threat of Greece leaving the eurozone. There is even an outside chance, although it has fallen in recent months, that one or more of the other heavily indebted eurozone countries might join them.
We’ve also heard a bit about how some countries in northern Europe have pondered whether to leave the eurozone themselves, to avoid having to pay to prop up the debtor nations. Earlier this year, one of Holland’s major political parties even paid for a report on whether the Netherlands should bring back the guilder.
However, Nomura analyst Alastair Newton thinks there’s another country that might exit. In this case it would leave the European Union outright, and it could have a far greater impact on British investors than any other ‘exit’ scenarios.
The country? The United Kingdom. Here’s how Newton reckons a 'Brixit' could take place.
Britain is moving in the opposite direction to Europe
In general, British people are not that keen on the idea of being part of Europe. Regardless of your own political views, this isn’t a contentious point: Newton points out that The Economist thinks that nearly nine out of ten people are “unhappy with the current arrangements”.
Indeed, polls suggest that a large proportion of the public wants the UK to quit the EU right now. Others want a looser relationship based on 'free trade' and little else (subscribers can read more on how this might work in the recent briefing I wrote: Should Britain leave the EU?)
But Europe is moving in the opposite direction. As Newton points out, most euro leaders now think the only way to keep the single currency intact is to push through further fiscal and political union. This would mean much greater central direction over all aspects of policy.
The trouble is, even though Britain isn’t part of the euro, it would have to take part in this process. In effect, the UK would either have to integrate further or quit. And given the current mood, it might be the latter.
Newton has identified three areas that could act as flashpoints for a 'Brixit'.
Flashpoint 1: Bank transaction tax
Several countries are pushing for a Europe-wide bank tax. One plan proposed would involve charges on the purchase of bonds, shares and derivatives. While it’s unclear just how much support the plan has, France and Germany are pushing for it hard and claim that up to ten nations back it. France also brought in its own tax at the start of this month, which is widely seen as a pilot for the idea.
Most experts feel that if Britain took part, or UK deals were affected, London’s status as a financial centre would be hit by such a tax. The major banks would move abroad to avoid having to pay, taking jobs and tax money with them. While the early proposals involve relatively low rates of tax, there are fears that Britain would be powerless to prevent them being hiked in the future. There are also fears over the precedent set by giving the EU a direct source of funds.
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Flashpoint 2: Bank regulation
In June, European leaders agreed to set up a single body to deal with euro area banks. The idea is that this would ensure uniform standards. It would also be much harder for banks to argue for special treatment. While the UK was happy with this idea, some in Brussels now want the body to have powers to wind up non-euro area banks as well.
Like the idea for a transaction tax, there are fears that this could lead to decisions that are not in Britain’s interests. Another risk is that if Brussels can decide to close down British banks, it could also charge the costs of any bail-out to the UK taxpayer. At worst, the UK could end up being drawn into paying to support Europe’s banks.
Flashpoint 3: Non-eurozone discrimination
A third concern is that the EU could try to make it harder for banks in countries outside the eurozone to clear deals that are priced in euros. If this took place, it would rob London of a large chunk of business. The only way to avoid this loss would be for the UK to join the euro. Newton argues that this is already taking place. He thinks that more action “cannot be ruled out on the road to banking/fiscal union”.
How likely is Britain to leave the EU?
A 'Brixit' still seems less likely than a 'Grexit'. After all, the euro could still break up – the idea of it expanding even further seems far-fetched for now. And unless the European Central Bank actually acts to help out Spain and Italy, the whole region could be facing a break-up rather than just the odd country leaving.
Also, the EU may allow the UK to stay out of any new regulations, allowing a 'two-speed' Europe to develop. However, Howard Davies, former head of the Financial Services Authority (FSA), thinks this will be “hard to pull off”. He agrees with Newton that this “could lead to Britain’s withdrawal… The political stakes are high, and the outcome is likely to reflect that”.
What would the consequences be?
Some argue that an increase in trade with the US, Asia and other parts of the world would make up for lost any trade with the rest of the EU. Our size, and the fact that we run a deficit with the other 26 member states, may mean that they would be forced to cut a deal with us on good terms.
However, we’re not so sure. This analysis may be correct in the long-run. But if the UK were to leave, the remaining countries would not be in a great mood. Indeed, they might want to limit access to their markets to discourage others from doing the same. EU regulators would be especially hard on the City of London. And in the short run, there would be a huge amount of disruption as firms had to rearrange their supply chains and find new customers. We’re not saying it would be a mistake to leave the EU. However, don’t bet on it being an easy transition.
In short, a 'Brixit' is just yet another pin that could burst the London bubble. It’s worth keeping in mind as a potential threat – and it’s yet another good reason to keep avoiding the banking sector.
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Matthew Partridge
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