Brexit uncertainty puts Ireland into economic purgatory
Alan McQuaid
Alan McQuaid

At their most recent summit in Brussels on March 21-22, European Union leaders gave UK Prime Minister Theresa May a brief reprieve before Britain could lurch out of the EU. The 27 countries kept open options that give Britain an outside chance of staying in the EU for much longer. The EU said Britain’s departure date would be extended from March 29 to May 22 if Britain’s parliament backed the withdrawal deal that May had agreed with Brussels. Failure to do so would mean the UK had until April 12 to approve an alternative plan or apply for a longer extension that would require the country to participate in European Parliament elections, which will be held at the end of May. On Friday, March 29, British lawmakers rejected May’s Brexit deal for a third time, leaving the country’s withdrawal from the European Union in turmoil on the very day it was originally supposed to depart the bloc. Within minutes of the vote, European Council President and summit chair Donald Tusk said EU leaders would meet on April 10 to discuss Britain’s departure. May has now written to Tusk asking for a delay of Brexit until up to June 30, but said she still hopes to get Britain out of the EU earlier (before May 23) to avoid it participating in the European elections.

For all the shuffling of dates, Britain’s Brexit choices remain essentially the same. It can approve a version of the withdrawal agreement that May negotiated. It can decide to stay in the EU, probably after holding another referendum or it can crash out of the EU without a deal. That latter risk has been postponed, but not removed.  Given the level of uncertainty associated with the possible outcomes, we see the balance of risk to Irish and UK equities as tilted to the downside and are advocating clients reduce exposure to these markets. While a “no-deal” scenario still has a lower probability than the combination of other outcomes it remains a possibility and we think the market has not fully recognised this, resulting in an unattractive risk return profile for Ireland and the UK over the coming weeks.

At the end of the day, Brexit has placed Ireland in a kind of economic purgatory. On the one hand, Dublin looks to be on its way to the Elysian Fields as it benefits from the need for London-based banks, insurers and fund managers to establish new bases in the European Union. Citibank and Bank of America have merged their UK-based subsidiaries into existing Irish units, creating sizeable local offshoots with more than $50bn in assets. Barclays plans to transfer loans and other securities worth up to €250bn to its new Irish division. These entities are more than just brass plaques. Under pressure from regulators in Dublin and Frankfurt, the lenders have transferred senior staff to Dublin. These moves will not be quickly reversed, regardless of the outcome of the Brexit negotiations. Previously, any jobs at these banks were almost always based in London. Now Irish subsidiaries compete with the City for resources, alongside new trading hubs in Paris and Frankfurt. Dublin has also surged ahead in attracting asset managers, enticing 43% of UK companies seeking a post-Brexit perch, according to New Financial.

When it comes to creating jobs, however, banks are no match for the technology industry. That sector now employs 332,000 people, up 75% from a decade ago, according to the Central Statistics Office. Facebook, Apple, Amazon and Google combined have 18,500 workers in Ireland, defying Ireland’s international reputation as a haven for shell companies that perform no function other than enabling multinationals to avoid tax. Indeed, heightened tax scrutiny has actually prompted some companies to shift more of their operations to Dublin.

But, whatever, the eventual outcome, the bottom line is that Brexit will put a brake on Irish economic growth, which has been the fastest in the EU for the past five years and could even send the economy into a serious downturn. Any increase in trade friction with the country that received 11% of Ireland’s exports of goods over the past year, and supplied more than a fifth of its imports, will slow Ireland’s expansion. Even an orderly withdrawal from the EU would reduce Irish GDP by 1.7%, the Central Bank estimates. A chaotic no deal Brexit would knock 4 percentage points off Ireland’s growth rate in the first year, effectively halting its economic rebound. It’s true that Ireland is better placed to cope with an economic shock than a decade ago, when national output shrank by more than a tenth in two years. Unlike that debt-fuelled bust, the recent recovery has been largely free of leverage. Gross government debt was 69% of GDP last year, down from a peak of more than 125%, and households have been paying off their borrowings. Yet if the immediate economic consequences of a disorderly Brexit are bearable, the potential political fallout is not. Failure to secure a divorce would almost certainly lead to the reintroduction of a border between Ireland and the northern counties that are part of the United Kingdom. For decades, the frontier was a focus for violence and criminality, which only faded after the 1998 Good Friday Agreement. Business leaders in Dublin fear that a harder border could spark a revival of political violence that was a feature of daily life in Northern Ireland until two decades ago. This in turn would scare off the foreign investors on which the country’s economic revival depends.

If Britain can deliver an orderly Brexit, Ireland should be able to attract investment which would help offset the consequences of slower UK growth. The country will be the only EU member whose official language is English, with a legal system that resembles that of its larger neighbour. But, if British politicians keep flirting with a chaotic departure from the EU, Ireland will remain in economic purgatory, which underlines why taking a cautious stance on Irish financial assets at this point in time is the prudent approach.

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