The decision by British voters to leave the European Union (EU) has
shocked markets and will no doubt lead to continued uncertainty for an
extended period. Stock markets around the world are reeling, the British
pound has taken an unprecedented nosedive, commodity prices with the
exception of gold are plunging and interest rates are falling sharply.
Central banks, particularly the Bank of England, are vowing to do
whatever it takes to provide liquidity and stem financial chaos. Mark
Carney, Governor of the Bank of England and a vocal opponent to Brexit,
has assured markets that the Bank will be there as a lender of last
resort to cushion the blow to financial institutions. Banks and
insurance companies are hardest hit, but businesses worldwide that do
business in the UK or in Europe are faced with disturbing questions that
could take months or years to answer. Moreover, hedge funds and other
investors around the world that have been caught on the wrong side of
this trade are scrambling, which likely portends a sell off in risky
assets for at least a couple of days.
Even with all of this, investors should not panic sell this environment.
It is a buying opportunity for longer term investors. At the same time,
do not try to time markets. No one can pick the bottom and market
timing never works. Canadians who have some dry powder should consider
buying their favourite stocks as they are sideswiped by the British
Politically, the vote and the subsequent resignation of the British
Prime Minister, David Cameron, is a vivid indication of the global move
to nationalism, isolationism and xenophobia. Populist demagogues around
the world are finding a welcoming audience as the top 1 percent who have
benefited from globalization and free trade have failed to share the
wealth. The broad middle class in all countries have been squeezed by
forces that have pushed production to cheap-labour emerging economies or
have replaced their jobs by technology. In all advanced economies,
income growth has stagnated for all but the richest among us, which has
led to a very nasty blame game. Scapegoating immigrants, minorities,
free trade and the powers that be is evident from the US to France.
Donald Trump, the most vivid example of such populist demagoguery, who
happens to be in Scotland today, supported Brexit and has lauded the
British people for taking their country back.
Elites who make light of this growing sentiment do so at their own
peril. It helps to explain the populist movement in the US election
campaign on both the left (Bernie Sanders) and the right (Donald Trump).
Mainline economists support free trade and globalization. But mounting
income inequality creates a tinder keg that is ripe for exploitation.
Promises of "bringing the jobs back" and "America (Britain) First" set
fire to this furor and, as we have just seen, these forces can win at
the peril of financial and economic losses.
For now, the most immediate impact will be lower interest rates. Not
only will the Bank of England and the European Central Bank ease
further, so will central banks in Switzerland and Japan. The Fed, which
was widely expected to hike interest rates once again in September, will
likely remain on the sidelines.
The Bank of Canada will wait and see what happens. The Canadian dollar
is actually holding up quite well right now, although Canadian bank
stocks are taking a hit, down just over 2 percent as of this writing.
Only about 4 percent of Canadian trade is with Europe and only roughly 3
percent with Britain. Investors are fleeing to the safe haven of the US
dollar, US Treasuries and, to some extent, Canadian assets are safe
havens too. If anything, continued very low interest rates could further
boost already hot Toronto and Vancouver housing markets.
Bottom Line: while this is not good for our economy, the negative impact
will be relatively muted. Nevertheless, financial turmoil and
uncertainty will continue for some time, which is never good for
confidence and therefore, risk-taking and spending.