As Brexit talks begin, Europe sees economic upswing over UK

AP , Tuesday 20 Jun 2017

Theresa May
Britain's Prime Minister, Theresa May, arrives to speak outside 10 Downing Street, following the attack at Finsury Park Mosque, in central London, Britain June 19, 2017 (Photo: Reuters)

When Britain voted to leave the European Union a year ago, proponents argued that the British economy was being held back by the slow-growing, dysfunctional bloc.

A year on, and with the Brexit divorce talks finally starting, the situation is radically different.

Britain's economy is growing more slowly than Greece's, its households are getting poorer as inflation rises and the government is struggling to stay in power. The remaining 27 members of the EU, meanwhile, appear to have pushed into a higher gear and found renewed vigor from the election of pro-EU governments like that of France.

"The tables have turned somewhat," said James Nixon, chief European economist at Oxford Economics. "The European economy is now enjoying a solid upswing and sentiment, especially towards the EU, is improving."

The situation could embolden the EU negotiators in the Brexit talks, though it is still far from certain how the talks, which are due to last two years, will play out.

Still, it's a role reversal for Britain, which had been buoyed by strong growth in recent times — even after the momentous vote on June 23, 2016 to leave the EU.

Instead of falling into recession in the wake of the Brexit vote, as many economists had predicted, Britain was last year one of the fastest-growing economy among the Group of Seven industrial nations. That was largely due to the sharp fall in the value of the pound in the wake of the Brexit vote, which made British exports cheaper in international markets.

For the EU, the Brexit vote was another body blow to go with the debt crisis that raised questions over the future of its euro currency and the struggle in dealing with the flow of refugees from Syria.

Since that post-Brexit rebound, things have clearly gotten worse for Britain this year.

Prime Minister Theresa May failed spectacularly to achieve a majority for her Conservative Party in the general election she called for earlier this month, undermining confidence in her ability to remain in the top job.

And the economy started showing signs of worsening.

The 15 percent post-Brexit drop in the pound has pushed up inflation as it makes imports, such as food and energy, more expensive, causing living standards to fall as wage increases fail to keep up pace. The consequence is households are spending less — retail sales haven't grown at a slower rate in four years.

Uncertainty surrounding the outcome of the Brexit talks, such as the possibility that Britain crashes out of the EU with no trade deal, is also likely to make consumers cautious.

As will the prospect of higher interest rates from the Bank of England, though Governor Mark Carney sought on Tuesday to rein back expectations of any imminent hikes. Expectations of higher borrowing costs had been stoked by the outcome of last week's policy meeting, which showed that three of eight rate-setters surprisingly backed the first increase in nearly a decade.

Whatever happens with interest rates and in the Brexit talks, credit ratings agency DBRS says uncertainty "is likely to adversely impact the economy and the fiscal accounts."

The upshot is that Britain is now at the bottom of the G-7 growth table. Even Greece, which is just coming out of an economic depression and is operating under the strictures of its international bailout, is doing better, with quarterly growth in the first three months of the year of 0.4 percent, double Britain's.

Philip Hammond, the Treasury chief, has grown increasingly vocal about the need for business to be the key issue in the Brexit discussions, over and above any other consideration, such as reclaiming sovereignty or clamping down on immigration.

"When the British people voted last June, they did not vote to become poorer, or less secure," Hammond said Tuesday. "They did vote to leave the EU. And we will leave the EU. But it must be done in a way that works for Britain. In a way that prioritizes British jobs, and underpins Britain's prosperity."

Hammond's more frequent and pointed interventions in the Brexit debate have come amid mounting evidence that the economic situation in Britain has worsened just as it has gotten brighter for the rest of the EU.

Populist, Euroskeptic politicians in Austria, the Netherlands and France failed to make the headway they had hoped for in recent elections, while German Chancellor Angela Merkel is widely expected to win again in elections this autumn. Meanwhile, the region's debt crisis doesn't look like it's going to flare up again anytime soon as Greece got the money it needed to meet a big summer repayment hump.

"The second half of the year now looks far less threatening," said Simon Derrick, chief markets strategist at BNY Mellon.

Perhaps the most important development for the economy has been the election of Emmanuel Macron as France's new president, and his party's big success in legislative elections on Sunday.

The staunchly pro-EU Macron was elected on a mandate to deeply reform France's economy, such as giving employers more flexibility on setting working hours and wages. The French economy is performing better than at any time in years, which could make it more palatable for people to accept the changes.

All the signs are that the French economy, for years one of the many laggards in Europe, is pushing into a higher gear. The same can be said for the wider 19-country eurozone economy, which grew by 0.6 percent in the first three months of the year.

Investors are getting more confident about its prospects, with some funds, including Blackrock and Morgan Stanley, recommending clients to go "overweight" on European stocks.

It's still unclear how this divergence in performance between the two sides of the Brexit negotiating table will play out. The worry for Britain is that the EU will be able to tough it out a bit more than it could have done a year ago.

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