Closing the Door on Europe

The victory of the Leave Campaign in Britain’s referendum yesterday shocked many, demonstrating the rising clout of populist movements, and, according to Glenn Hubbard, the need for leaders to foster more inclusive prosperity.

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The results of yesterday’s referendum have stunned observers and markets around the globe and demonstrated that this vote was about many factors beyond simple economics. The significant market reactions offer us a necessary opportunity for reflection and raise critical questions about what’s next — not just for the UK or the European Union, but for all of us.

The near-term consequences of Brexit for the United Kingdom are almost surely negative, raising the cost of capital for domestic investment and creating uncertainty during the lengthy process of divorce from the European Union.

Part of the adjustment will be in financial services in London, with London remaining the financial center for some activities but with Eurozone banks picking up market share in other activities. The United Kingdom has an incentive to establish new trade rules with the EU as quickly as possible, as it runs a large trade deficit with the EU. It will also have an incentive to deepen trade relations with the United States.

As time passes, however, the “leave” decision is likely more negative for the EU. This vote has exposed economic and political fault lines within the union and raised the possibility of other members moving to exit. For the United States — barring a systemic panic that raises uncertainty and chills capital spending and hiring — even if exports to the UK and EU fall significantly, the effect on overall GDP growth will likely be modest.

The elephant in the room today is the rise of populist movements around the globe and what they portend for the liberal (in the classic sense) economic order and for growth. I am not a political scientist and can offer you few insights on populism, but as an economist, I can observe that sluggish growth and calcifying political institutions in key industrial democracies raise big concerns.

While there will be talk of an imminent US recession after Brexit, my guess is that growth will remain slow and investment subpar. And the Fed, being very sensitive to market movements, will maintain its ultra-accommodating stance for longer. What the economy needs for better growth prospects, in any event, is better fiscal policy, not additional action by the central bank (the same is true globally, at least in my view).

But what does all of this mean for us? I think it means both less and more for you than it might seem today. By “less,” I mean that real economic activity is unlikely to be much diminished right now. By “more,” I mean that populist waves roiling markets and economies are a threat to the economic integration that has been essential for economic and social development for seventy years or more.

In response, leaders need to shift their thinking on how to include more individuals in prosperity, support work, and bolster opportunity. Failing to do so will undermine support for key engines of economic prosperity and integration, leaving us all poorer and more vulnerable.

About the researcher

R. Glenn Hubbard

Professor Hubbard is a specialist in public finance, managerial information and incentive problems in corporate finance, and financial markets and institutions. He has written...

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