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Brexit

The news that overhangs the markets is Brexit – the UK voted to leave the European Union. While I believe that this was a very short-sighted decision, I also believe that the Brexit decision has a historical impetus going back several centuries along with more recent history.

During the late 1600s and early 1700s, France and England were in three major and several minor wars. Both England and France financed their wars with borrowings. Initially, they borrowed at 5%, but found it quickly grew to 10%, causing a Great Recession in both countries. France tackled the recession with stimulus and England with austerity. Here we see the first big rift between the British and EU mentalities. While the stimulus method caused a fairly fast recovery, British austerity took decades to recover.

We jump now to the 2008/2009 Great Recession. Both the EU and the US responded with a 2009 stimulus package, but by 2010 the EU changed tracks and decided to enforce austerity measures to get their budgets in check. This, as we have seen, caused turmoil in the southern European countries, such as Greece. Yet with the stimulus, the UK GDP was growing faster than the US – yet they sided with the austerity measures, and in the summer of 2010 cut their budget by 25%, eliminating 40,000 government jobs. By the 4th quarter of 2010, they had slid back into a Recession. As the year turned, they continued to lose jobs.

Brits who grew up between the 1940s and 1970s remember a time when “The sun never set on the British empire.” The British empire stretched from the British Isles to Canada, Australia, India, and much of eastern and western Africa. The UK GDP was second only to that of the United States.  As the UK continued their struggle in and out of recession, it was difficult not to become nostalgic for a time when the British Empire was one of the most powerful countries in the world. Today, they are only the 5th largest economy in the world, behind the US, China, Japan, and Germany. It was also easy to point fingers at who was “taking” jobs, but instead of fury at the austerity measures, they turned on immigrants.

June’s Brexit vote was an accumulation of centuries of ingrained responses to recession. While it was the austerity measures that resulted in a tough economy for business and massive job loss, the blame was placed on the immigration granted by the EU over the last 30 years.

What will be the impact? As of now, 44% of British exports are to EU countries; there is open trade between EU countries, but now tariffs will probably be imposed on those exports. Likely, there will be another Scottish and possibly even a Northern Irish move for independence. With the loss of Scotland, England will lose access to their oil revenues. Meanwhile, the leaders of France and Germany are positioned to take good advantage of Britain’s exit.

In Britain, the austerity, initially a function of their own government and not the EU, will continue to wreak havoc. While Britain itself hopes that leaving will only affect their control of immigration and the single common market will be maintained, the countries still in the EU are not likely to agree to that. Particularly, it is France who is fighting against granting the UK any favors, while Germany is more willing to compromise. Both countries have said that there will be no free trade.

In the long-term, austerity works. Britain will most likely come out of the recession, but it will probably get worse before it gets better. Perhaps the bigger problem is that Britain still insists in thinking with an Empire mindset. There is potential for more dramatic missteps for the world’s 5th largest economy if they continue in this mindset.

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