By Georgi Kantchev
The reaction of economists to Britain's vote to leave the
European Union has been swift and brutal as they slash forecasts
for growth across the world, triggering a round of follow-on market
downgrades from banks' analysts.
The U.K.'s decision to exit the EU in a June 23 referendum
rattled currency, bond and equity markets, pushing the pound to a
31-year low earlier this week. While markets have since stabilized,
analysts are now looking at the longer-term consequences of
prolonged turmoil in the world's fifth-largest economy.
"Brexit could potentially derail a still fragile recovery and
push us toward a downturn," economists at Morgan Stanley said in a
report this week. The bank raised its estimate for the probability
of a global recession in the next year from 30% to 40%.
While analysts say the direct effect beyond Europe's shores is
smaller, reduced growth on the continent is bound to affect global
trade as well as multinational companies, many of which count
Europe as one of their key markets. The stronger U.S. dollar is
also expected to reverberate across the globe, hitting profits of
U.S. companies and emerging markets.
The Brexit jitters come as global trade has already been
weakening in recent years, rising by just 2.8% in 2015, according
to the World Trade Organization, the fourth consecutive year below
3% growth.
Brexit is "the most significant pull back to-date from the
post-World War II consensus of closer integration and open trade,"
analysts at Credit Suisse wrote in a report titled "The End of
Globalization." "Such a significant secular shift has the potential
to have substantial negative implications for growth, corporate
profits and asset prices in the medium term."
The U.K. bears the brunt of the forecast cuts, with some banks
forecasting that political uncertainty and a fall in investment
herald a recession later this year. With Britain's political
situation in flux and its exit negotiations with the EU likely to
drag on for years, analysts see a long period of weakness for the
pound. That, in turn would boost inflation and further curb
consumer spending, economists say.
"The U.K. will quickly fall into a recession and the longer we
have this political uncertainty, the worse it is going to get,"
said Rob Wood, an economist at Bank of America Merrill Lynch. The
bank expects a recession from the third quarter until the beginning
of next year and has cut its forecast for U.K. economic growth in
2017 to 0.2% from 2.3%.
Across the English Channel, the most immediate Brexit-related
disruption could come in the form of lower U.K. demand. Britain is
the largest source of demand for eurozone goods and services,
accounting for 13% of total exports, according to HSBC. After the
Brexit vote, the bank cut its forecast for the eurozone's gross
domestic product growth in 2017 to 1.0% from 1.5%.
Citigroup expects countries with the largest U.K. trade exposure
like Germany, Belgium and the Netherlands to be the most
affected.
"Brexit is a material economic shock to Europe," said Joseph
Lupton, senior global economist at J.P. Morgan. "This will delay
the economic recovery there and might lead to socio-economic and
political problems."
Looking ahead, the prospect of additional votes on EU membership
are increasing uncertainties about the future of the world's
biggest trading bloc. Analysts say this would hit the investment
climate and consumer confidence on the continent, which is still
reeling from a debt crisis and last year's Greek turmoil.
"For Europe, there is going to be a small impact from U.K. trade
but the bigger issue is the uncertainty over the future of the
single market," Bank of America Merrill Lynch's Mr. Wood said. "If
the U.K. can do this, who's next?"
The effects beyond Europe are expected to be more muted, as
trade with the U.K. represents a minuscule portion of the economic
activity in the U.S. or China. But as investors piled into assets
they saw as safe in the aftermath of the Brexit vote, the U.S.
dollar rose, feeding concerns about U.S. companies' profits and
investments.
"In the U.S., the concerns focus on whether the dollar could
appreciate sharply and remain high, which, alongside the
uncertainty that Brexit creates, could reinforce weakness in U.S.
business capital expenditure," said analysts at Citigroup.
The bank said Brexit could shave off 0.1 percentage point from
U.S. GDP growth this year and next and warned that the
vulnerability of the internationally exposed U.S. banking sector to
Brexit risk could further dampen U.S. growth.
For emerging markets, a stronger greenback makes their
dollar-denominated debt and the commodities they sell more
expensive. Still, these nations could benefit from prolonged
ultraloose monetary policy in developed countries. Analysts expect
the Brexit vote to derail the U.S. Federal Reserve's plans to raise
interest rates this year, with the market assigning only a 5%
chance for a rate cut by December, according to CME Group.
The cuts to growth forecasts have also led strategists to revise
their equity-market targets downward. UBS Group AG has cut its
target for FTSE 100 year-end to 5,500. On Thursday, it was trading
at 6373.8. The bank sees the Stoxx Europe 600 ending the year at
340, from 326.6 on Thursday.
Write to Georgi Kantchev at georgi.kantchev@wsj.com
(END) Dow Jones Newswires
June 30, 2016 12:47 ET (16:47 GMT)
Copyright (c) 2016 Dow Jones & Company, Inc.
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