Will sterling stabilise after Brexit vote?
As the EU referendum continues to spark numerous debates, sterling volatility this month returned to the crisis levels of the global economic downturn in 2008. In the case of either outcome of the vote, can the pound stabilise in the coming months?
Polling concerns
On 5 June 2016, the level of one-month implied sterling volatility rose to 22%, which was the highest since the financial crisis. Eight days later, the volatility increased further to 26.3% – a record high.
Brexit polls are said to have influenced the pound’s recent uncertainty. Before volatility hit 22%, market research firm YouGov revealed 45% of nearly 3,500 respondents were in favour of leaving. TNS, another research company, also carried out a survey in which 43% wanted to leave.
A third poll by research specialist ICM Unlimited added more pressure when it reported on 6 June that 48% would vote to exit, while 43% would remain. In a 13 June update, ICM announced that leave voters were ahead at 50% (with the remain camp at 45% and ‘don’t’ know’ voters making up the rest). What’s more, as reported on 14 June, Brexit fears contributed to the FTSE 100 Index losing £67 billion in collective value over three days.
As the referendum date draws closer, the potential implications for sterling in the case of a leave outcome must be considered.
The leave scenario
At the beginning of 2016, the Financial Times invited over 100 economists to participate in a Brexit poll. Ultimately, more than 75% of the respondents believed the UK economy would be adversely impacted in the medium-term. However, the leave campaign attributed this outcome to the fact that economists favour “deeper trading relationships with other countries”, and so are more likely to support continued EU membership.
If the majority votes to leave, Britain will have to strike a trade agreement with the EU, considering it accounted for more than half of its international trade in 2014. This could prove extremely challenging as such a deal would have to appeal to all 27 member countries.
Trade uncertainty
In March 2016, the London School of Economics and Political Science stated the UK would have to negotiate more than 100 trade agreements if Britons decide to exit. According to Professor Alberto Alemanno, an EU Law and Risk Regulation Specialist at HEC Paris, “striking an agreement like the one Switzerland has with the EU would take years to negotiate”.
The leave argument is one based on taking control, but there would likely be years of uncertainty while the country made acceptable trade agreements and adjusted to a new economic climate. Therefore, sterling volatility could actually last for years rather than months.
Remaining in the EU
The UK’s greatest uncertainty for remaining appears to be political, as 131 Conservative MPs were in favour of leaving as of 16 June. Therefore, if the nation votes to stay, the Conservative Party would embark on a period of transition, with the opposition likely to want Prime Minister David Cameron’s resignation.
From an economic standpoint, the UK economy would still function and international investors could resume investment efforts. Ultimately, the fragmentation of the Conservatives could erode their political lead over Labour, but sterling volatility would be more likely to fall in the short-term than if the UK votes for Brexit.
