England’s Brexit Is Ireland’s Economic Nightmare

It is anticipated that within the next two weeks Teresa May, Britain’s Prime Minister, will trigger formal talks to remove the UK from the European Union. Of all the 27 countries of the EU, Ireland is particularly placed to be adversely affected by this momentous political and economic decision.

A former Irish government minister was recently quoted as saying: “Brexit was the greatest challenge facing Ireland since the Second World War”. Despite this fact, the response by the Irish government to date has been muted. I believe this complacency — this failure to grasp the significance of the complexity of the problems now confronting it — is sleep-walking Ireland into an economic catastrophe.

The extent of the difficulties facing Irish citizens was recently set out in a report commissioned by the Irish Department of Finance entitled: “UK EU Exit: An Exposure Analysis of Sectors of the Irish Economy”. Reading the report made my hair stand on end yet remarkably very little of the reported findings appeared in the mainstream media. I asked a few journalist friends why this was so and their general reply was, “it is not politically correct to bad-mouth Europe if you are a career type”.

In terms of Irish Government policy development and administrative action, I see very little strategic or tactical preparation being made for the tsunami of change Brexit will herald and I fear Ireland could end up in a similar situation to Greece. By that I mean Ireland’s economy could go into a recession/depression of the EU commission’s making, yet due to loss of sovereignty, its government will be unable to effectively act with resolution, creativity, initiative, and foresight to solve its economic problems.

Here are some of the main findings of the Department’s report:

1. With annual trade in exports of goods and services of around €34bn, or about 17 percent of total Irish exports in 2014, the UK is Ireland’s most important trading partner.

2. The UK is also important to Ireland as a source of imports, with almost 30 percent of merchandise imports, and 17 percent of overall imports originating from the UK.

3. Overall, excluding the Pharmachem sector, the exposed sectors are mostly Irish owned, regionally based, have relatively low profit levels and have a greater share of small and medium- sized enterprises. In addition they have a relatively high multiplier and account for a relatively high share of employment in regions which have experienced a slower labour market recovery since the financial crisis period.

4. The report highlights the Food & Beverage sector as being the second most exposed of the manufacturing sectors. This is an employment-heavy sector. The numbers highlighted are thus a particular concern for the Irish economy as they indicate that this sector, which shows up as highly exposed to the UK and as employing just under 40,000 people, is also a sector that operates in a comparatively low profit environment, potentially leaving this sector in a more vulnerable position. Low profitability suggests less scope to maintain production and employment in response to trade restriction, a trading partner slowdown or an exchange rate fall. This would have potentially strong consequences for Ireland.

5. Regarding the potential fiscal impact, corporation tax payables in the services sector come mainly from the Financial Services and Communication and IT sectors. The relatively high exposure measure and the large share of the tax contribution indicates that a UK-related disruption to these sectors could, as in the case of the pharmaceutical and chemicals industry, potentially have a large impact on tax receipts and, thus, the government’s fiscal position.

6. With the exception of the Pharmachem sector, each of the most exposed manufacturing sectors has a high domestic ownership share (in terms of turnover) and a relatively high domestic linkage in terms of output multipliers. Overall, spillover effects from a UK-related shock or a change in trading relationships are, therefore, likely to be more pronounced in these sectors.

7. In terms of regional impacts, the most exposed manufacturing sectors have a comparatively large share of employment outside of Dublin. Almost 80 percent of employment in Food and Beverage is located outside Dublin. The highest share of total employment in the exposed sectors in a particular region is found in the Border region.

Even a summary reading of the above makes one realize that Ireland is now entering a period of great economic and political stress. The British establishment has outlined that it wishes to completely leave the single market. This eventuality could see significant tariffs being raised on Irish exports to and imports from Britain. As the report points out, a great deal of indigenous Irish manufacturers have low margins and profitability and do not have the pricing capacity and power to pass on major tariff shocks.

For me, this spells potential economic disaster for thousands upon thousands of small and medium-sized Irish businesses and farms. Despite this scenario, no “economic Brexit war committee” has been set up by the Irish Government. Just after the English referendum result, Mr. Enda Kenny, Ireland's Taoiseach (Prime Minister), did try to act to give him his due. He immediately went to Germany and asked Angela Merkel to make Ireland a “special case” in the Brexit negotiations. He was given short shrift. He was told that “there would be no exceptions given to any EU government concerning Brexit”. In fact, the European Commission went so far as to forbid any and all EU ministers negotiating directly with their UK counterparts. They reiterated the EU law which strictly expressed that it is the commission and the commission alone that negotiates trade treaties with other “nations”. Such is the loss of sovereignty which the EU imposed on European members following the Lisbon treaty, a treaty which initially the Irish people rejected by referendum, but were forced to “decide” upon again.

I sincerely hope that my fear that Ireland will become another Greece does not materialize and that the Irish Government does wake up to the degree of risk surrounding the Brexit treaty negotiations. I also hope that the European Commission does not force the Irish economy into a tariff strait-jacket which will leave it no other option but to seriously consider leaving the EU and deciding to rejoin an EU-free Great Britain, in an emboldened British Commonwealth of Nations, actively supported by a stridently pro-Brexit Trump administration.

Technically Speaking

The markets are currently in a momentum breakout mode powered by a Trump Whitehouse promising lower taxes, higher wages, increased infrastructural investment, less banking regulation, corporate tax repatriation, etc., etc., etc. All of these policy aspirations have now been priced into the market and they have been “priced for perfection”.

Will this “re-pricing” last? The next two weeks should tell a lot, the debt ceiling negotiations in Congress are looming as is the FED meeting of March 14-15th.

Debt ceiling negotiations always cause short-term volatility but are always eventually “sorted”. What congressman or senator wants his wages check to “bounce” indefinitely?

FED policy is another matter altogether. There is now a high probability (80%) that Janet Yellen will raise interest rates next time out. Regardless of her actions, her commentary will be more important. If the FED chair sticks with the mantra that rates will rise slowly, all will be well. However, if she indicates that she believes Trump’s tax cuts are actually going to happen then that could be a game changer. The FED traditionally hates structural tax cuts (think Ronal Regan). There is the distinct possibility that Yellen could suddenly become hawkish and any hint of such a policy change could bring the mother of all “corrections”.

Slow and fast stochastics and the VIX all are telling us there is above average risk in the market. So I will be sticking with the momentum trend while it lasts but I will be keeping hard sell stops in place.

Source: “UK EU Exit: An Exposure Analysis of Sectors of the Irish Economy”. Irish Department of Finance, October 2016.

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