Brexit - When will final curtain fall?

A good drama requires a timely end after all emotional highs and lows have already been reached. Failure to deliver this leads to fatigue or - even worse - boredom. We are now at this point in the Brexit drama. At the same time, however, the final outcome will be decisive for market developments in the coming months, and we must therefore hold out until the final curtain falls.

With the outcome of this week's EU summit, hard Brexit on March 29 is off the table and the future roadmap has become clearer. Theresa May will have to put the twice-rejected divorce package to the vote in the British Parliament next week. If a breakthrough is achieved, the United Kingdom will leave the EU on May 22. If the package is rejected once again, the British government has until April 12 to submit a plan for further action, which the EU would then have to agree to. With the April 12 deadline, Theresa May has left the door open for a further delay in Brexit, as then the UK could still meet the deadlines for participating in the European Parliament elections.

A fork in the road will be reached with the vote in the British Parliament next week. If accepted, the path ahead is clear and the markets should react positively immediately. Yields on government bonds and the euro would rise. However, the experience of recent weeks makes this outcome unlikely. All the more so as Theresa May first has to actually find a way to put the divorce package to the vote in the British Parliament. So next week the market will probably start speculating about what the British government's Plan B will look like. Everything is possible, from hard Brexit and an alternative divorce agreement (Norwegian model) to new elections and a new referendum. Ultimately, speculation is likely to narrow to the likelihood of a hard Brexit, as it would be the only scenario that would represent a deterioration from current expectations. The outcome of the political debate is so uncertain that, in our view, there is no basis on which to forecast the outcome. The rational solution would be to avoid a hard Brexit, so intuitively we would bet on that, although empiricism speaks against it. How the British government/parliament/the British decide will have significant impact on our expectations for the economy (see next paragraph) and thus for capital markets over the coming months. For the time being, we leave our forecasts for capital markets unchanged, which are based on the avoidance of a hard break. By April 12 at the latest, we will confirm these forecasts or revise our expectations downwards.

Based on our estimates, a hard Brexit would push GDP growth of the Eurozone for 2019 below 1%. In our view, those countries with close economic ties to the United Kingdom, such as Ireland, the Netherlands, Belgium, but also Germany and France, would be particularly hard-hit. On the other hand, the negative economic effects for Italy and Spain should remain comparatively low. In the long term, a hard Brexit would in our estimation slightly lower the growth potential of the Eurozone from currently around 1.5%. Should, however, a free trade agreement between the EU and the United Kingdom be concluded thereafter, this would slightly raise the growth potential of the Eurozone again.

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