The problems with predicting the post-Brexit economy

Posted in: Business, economy

Following the UK’s decision to leave the EU in 2016, there has been a constant debate on how this would affect the UK and EU economies. The results from the macroeconomic and microeconomic analyses have mostly tended to show that the economic repercussions of Brexit are potentially negative to the UK and to a lesser extent the EU and likely to reduce the stability of both, although the effects will vary across different industries and firms. The studies tend to focus on the effects of Brexit on trade flows, investment and output, as well as the financial sector, such as stock markets.

Arguably all studies on the economy in this area are limited by the lack of any similar precedents to base the analysis on. Attempts to predict the consequences of Brexit based on models using recent economic data are difficult in that there is going to be a sizeable change in some economic factors after Brexit, for instance changes to financial regulation and trade flow patterns, which makes it problematic to predict what happens after Brexit. However the UK needs to prepare all future economic policies to account for the likely scenarios after Brexit, including the worst case scenarios discussed, such as a sizeable fall in trade and output.

One of the possible limitations of some of the Brexit literature is that the emphasis tends to be only on trade flows, output and associated measures of economic welfare. For instance there are no other studies that I have found, which attempt to explain how the trade balance between the UK and EU will be affected by Brexit or what policies should be followed to ensure that it is rebalanced. Given that one explanation for the 2007/08 financial crisis was the presence of fundamental imbalances across the world macroeconomies, this is an important area to consider. In addition the analysis as a whole tends to omit the effects on the exchange rate or limit the inclusion of this important variable. If the effects of Brexit are as negative as some studies suggest, there is likely to be a substantial depreciation of the pound against the world’s main currencies. A more competitive exchange rate would encourage UK exports and growth, potentially offsetting the negative effects from trade and output.

There are many other features of the Brexit campaign that have not received as much attention in the literature relative to the debates during the referendum campaign, this includes the effects of changes in regulation between the UK and EU, such as financial transaction taxes.  In addition to a more specific inclusion of the exchange rate, it would also be interesting to factor in the future performance of the EU and whether this would have a negative or positive impact on the UK. Further research into this topic could also include analysing the interaction between the effects of Brexit on the UK economy with the new legal framework in particular financial regulation, government policy such as tax and spending as well as possible security issues, such as financial fraud.

Posted in: Business, economy

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