Soft, Hard, or no Brexit: The Damage is Done

By Niccolò Pisani and Omar Toulan

Regardless of the final Brexit outcome, the damage to the UK has been done. In this paper, we look at five specific areas where this effect is evident: economic performance, investment confidence, talent attraction, reputational influence, and political effectiveness.

 

The drawn-out and ineffectual process to reach a solution has not only increased the anxiety over an uncertain outcome but also weakened the confidence in the government to be able to manage this or similarly complex issues.

While the doomsday scenarios first put forth following the Brexit referendum may not have come to fruition as of yet, the fact of the matter is that regardless of whether March 29th resulted in a soft, hard, or no Brexit outcome, the damage to the UK has been done. The drawn-out and ineffectual process to reach a solution has not only increased the anxiety over an uncertain outcome but also weakened the confidence in the government to be able to manage this or similarly complex issues. As such, the nearly 3 year lead up to Brexit has in itself resulted in a number of detrimental outcomes for the UK which can be categorised as impacting the nation’s: 1. Economic Performance; 2. Investment Confidence; 3. Talent Attraction; 4. Reputational Influence; and 5. Political Effectiveness.

 

1. Economic Performance

Whereas in the years leading up to the referendum the UK economy was experiencing solid economic growth of 2-3%, that trend has since reversed, dropping from 2.1% in Q1 of 2016 to 1.3% in Q4 of 2018.1 Cumulatively, it is estimated that the UK’s GDP is more than 2.5% smaller than it would have been had the referendum not happened. Business investment has likewise slowed and today stands at roughly 15% (or more than 6 billion pounds) below what it would have been had the trend of the previous years continued.2 This downward economic performance has been accompanied by an increase in inflation from less than 0.5% to over 2.5% during the same time period. This increase in inflation is in part due to the increased price of imports following the devaluation of the British pound which has reached a peak of nearly 20% against the euro post referendum.3

 

2. Investment Confidence

Not only has the UK slowed down economically, but its attractiveness as a destination for capital has also taken a hit. The above-mentioned reduction in investment is partially accounted for by a slowdown in inward foreign direct investment (FDI) into the UK, which while increasing by 6% in 2017, was below the European average of 10% and well below countries such as France which saw inward FDI increase by 31%. This allowed Paris to overtake London as the most attractive European capital for new investment. The result has been a drop in the UK’s share of European inward FDI from 21% to 18%. Hard hit amongst the different sectors of the economy has been the financial industry where banks have not only been moving jobs but also assets out of the country. US banking giants including Goldman Sachs, JP Morgan, and Citigroup have transferred over 250 billion euros of balance sheet assets to Frankfurt.4 This exodus is not restricted to foreigners, with Barclays transferring 166 billion pounds in assets to its Irish subsidiary. This is reflective of a broader trend by British firms to increase their investments into the rest of Europe, which grew by a record setting 35% in 2017. This reduction in the attractiveness of the UK as an investment destination is reinforced by a 25% reduction in the number of new firms locating their headquarters in the UK.5 The impact of these trends is not only fewer jobs and economic activity but also a drop in tax revenue for the government.

It comes as no surprise that international investors are hesitant when it comes to the UK real estate market, with many of the UK’s top 50 most shorted stocks in 2018 being associated with real estate investment trusts.

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Brexit uncertainty has also already damaged the attractiveness of the UK when it comes to the real estate market. Commercial space in particular has suffered with the movement of jobs by major banks and industrials to other European capitals.6 Likewise, certain EU agencies such as the European Medicines Agency, which has been based in London’s Canary Wharf since 1995, has decided to move its 900 employees to Amsterdam.7 This negative impact has extended to the housing market as well. Recent figures by Bloomberg show that home prices have declined since the vote to leave, especially in London where prime residential houses have gone down by 20% from the peak in 2014.8 As for the rental market, of major European capitals, London is the only one to have experienced a decrease in rents between 2015 and 2018.9 Thus, it comes as no surprise that international investors are hesitant when it comes to the UK real estate market, with many of the UK’s top 50 most shorted stocks in 2018 being associated with real estate investment trusts.10

 

3. Talent Attraction

Aside from reducing its attractiveness from the point of view of different forms of capital investment, Brexit has also had an impact on the UK’s and in specific London’s role as a hub for attracting talent from all over Europe. This pipeline of talent has experienced a dramatic reduction in flow since the referendum. The inflow of migrants to the UK from other EU countries has dropped by more than 60% since the Brexit referendum.11 While this may have helped to contribute to a reduction in the unemployment rate, it threatens the abilities of firms to find the talent needed to fuel future growth.

Nowhere is this risk more prevalent than in the university system which until 2016 had greatly benefitted from its increasing internationalisation. As recent national-level figures suggest, the UK education sector has been experiencing a setback since the Brexit referendum. While the UK Higher Education Policy Institute has forecasted that applications from European students could crash by as much as 60% when Britain leaves the EU,12 the hard reality is that the damage to the internationalisation of education and research has already manifested itself. Recent figures show that there has been a 9% decrease in the total number of EU postgraduate research students enrolling at the 24 world-class, research-intensive universities that are members of the Russell Group, including the University of Cambridge and University of Oxford.13 This is in sharp contrast with the steady growth in the recruitment of international (and particularly European) students in the pre-Brexit era. The loss of appeal of leading UK universities in the face of the international community is alarming not only because education as a sector contributes over 21 billion pounds to UK GDP every year and is responsible for over 900,000 jobs;14 but also because it inhibits the UK’s ability to attract the best talent on a global basis. As EU students are increasingly opting for alternative countries (such as the Netherlands) that offer more certainties in terms of the possibility to continue working after the completion of their studies, the UK is already finding itself as a less competitive option in the global war for talent.

 

4. Reputational Influence

While the UK remains the fifth largest economy in the world, its reputation has traditionally allowed it to have more influence than that rank represents. That reality is in the process of changing.

Aside from the hard measures described above in terms of the impact of the referendum on the UK’s economic performance and attractiveness, the Brexit process itself has impacted in a subtler way the global reputation of the country. The UK’s influence in the global arena has to some extent been artificially preserved due to the legacy of empire and more recently its role within the EU. Brexit, however, has laid bare the true state of UK influence. The Brexit process itself has resulted in claims that the country’s broader diplomacy efforts have been distracted by the ongoing negotiations.15 Looking at international bodies such as the UN, the UK has traditionally played a special role. While the UK is not in danger of losing its current status as a permanent member of the Security Council, as a non-EU member the UK will no longer be a voice for a larger group of countries on the Council. All of that influence will now likely transfer over to France. While the UK remains the fifth largest economy in the world, its reputation has traditionally allowed it to have more influence than that rank represents. That reality is in the process of changing.

 

5. Political Effectiveness

Finally, an impact which has as much to do with the 3 years following the referendum as the referendum itself is the effect of Brexit on the British political establishment. From the resignation of Prime Minister Cameron to the political withdrawal of key Brexit champions such as Simon Farage and the effective dissolution of UKIP, the British political system has been left to deal with Brexit without many of the key actors who brought the country into this situation in the first place. The inability of the government which has followed to arrive at a timely agreement with the EU has taken its toll on public perceptions, with the percent of the population believing that the current political system needs a “great deal of improvement” rising from 23% in 2016 to 29% in 2018.16 This image is only reinforced by events such as May’s January 2019 defeat of her Brexit proposal by a crushing 230 parliamentary votes, the largest defeat by any Prime Minister in the democratic era.17 The government’s apparent inability to reach any consensus has challenged the cohesion of the existing political parties as Brexit is an issue for which there is no clear alignment by party lines. The most recent reflection of this reality has been the defection of MPs from both the Conservative and Liberal parties to form the new pro-EU Independent Group, now with more members than the swing Democratic Unionist Party.

The government’s apparent inability to reach any consensus has challenged the cohesion of the existing political parties as Brexit is an issue for which there is no clear alignment by party lines.

This inability of the government to come to a timely resolution of Brexit has also crowded out other pressing issues from reaching the agenda of government, and raised fears of national turmoil associated with a hard Brexit, ranging from a return to violence in Northern Ireland to calls for a second referendum on Scottish independence. It is clear that Brexit is testing the stability of the British political establishment.

While much of the attention regarding Brexit was focused on March 29th and what would happen next, the reality is that the vote on the referendum in 2016 and the 3 years since have already had a real, damaging effect on the UK. Here, we have focused on five areas in particular: economic performance, investment confidence, talent attraction, reputational influence, and political effectiveness. This is not to say there are not others. What is clear, though, is that regardless of whether the outcome was a soft, hard or no Brexit, many of the damages feared have come to fruition irrespective of the final outcome. What this reminds us, is that focusing all our attention on planning for the future may at times blind us to changes in the present. 

Feature Image: Image by Toby Melville from Reuters

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About the Authors

Niccolò Pisani is Assistant Professor of International Management at the University of Amsterdam in the Netherlands. His research focuses on the international management domain and the topics of his scholarly enquiry range from global business strategy to international corporate social responsibility. His research has appeared in a variety of academic journals and practitioner-oriented outlets.

Omar Toulan is Professor of Strategy and International Management at IMD Business School in Switzerland. Professor Toulan holds his PhD from the Sloan School of Management at MIT. His areas of expertise include strategic management, international business, growth strategies, and managing the multinational. Prior to entering academia, Professor Toulan worked as a management consultant for McKinsey and Company, as well as a researcher at the U.S. President’s Council of Economic Advisers.

 

References

1. Trading Economics (2019). United Kingdom GDP annual growth rate. Trading Economics (Accessed February 10). www.tradingeconomics.com

2. Raphael, T. (2019). Brexit knocks the wind out of the U.K. economy. Bloomberg Opinion (January 19). www.bloomberg.com

3. Raphael, T. (2019). Ibid.

4. Burroughs, C. (2019). Brexit isn’t even here yet, but here’s a list of the damage that’s already been done. Business Insider (February 5). www.businessinsider.com

5. Ernst & Young (2018). UK remains top destination for inward investment, but Germany and France are closing the gap as Brexit bites. Ernst & Young Newsroom (June 11). www.ey.com

6. Reid, H. (2018). ‘Safe as houses’? Brexit looms over UK real estate market. Reuters (August 23). www.reuters.com

7. Deutsche Welle (2019). EU Medicines Agency makes Brexit move to Amsterdam. Deutsche Welle Top Stories (January 9). www.dw.com

8. Reid, H. (2018). Ibid.

9. Raphael, T. (2019). Ibid.

10. Reid, H. (2018). Ibid.

11. Andrew, J. (2019). Top universities feel squeeze as EU student numbers drop: Higher education. Financial Times (January 3). www.ft.com

12. Fazackerley, A. (2018). 2VCs on … will Brexit damage UK universities? The Guardian (September 20). www.theguardian.com

13. More information and the complete list of the 24 leading US universities that are part of the Russell Group is available at: www.russellgroup.ac.uk

14. Fazackerley, A. (2018). Ibid.

15.Gifkins, J., Ralph, J., Jarvis, S. (2018). Diplomats reveal concerns over UK’s waning influence on UN Security Council. The Conversation (September 26). www.theconversation.com

16. Statista (2019). Which of these statements best describes your opinion on the present system of governing Britain? Statista (Accessed February 10). www.statista.com

17. Stewart, H. (2019). May suffers heaviest parliamentary defeat of a British PM in the democratic era. The Guardian (January 16). www.theguardian.com