Australia: Direct effects of Brexit on the economy are likely be minimal - NAB

Research Team at NAB, suggests that the direct effects of Brexit on the Australian economy are likely be minimal, and will largely flow through trade relationships, which are relatively small between the UK and Australia.

Key Quotes

• “Indirect effects through financial market channels (including through equity markets and currency markets) are not quantifiable as yet, but do suggest some downside risks to confidence, household consumption and business investment and therefore GDP, and upside risk to unemployment. But unless financial markets deteriorate significantly from here, implications for the Australian real economy will be limited.

• In terms of Australian monetary policy, our core view remains for the Reserve Bank to remain on hold although heightened global risks suggest a higher probability of a rate cut in coming months. A cut at the July meeting appears unlikely given the relatively orderly financial market movements to date and a desire to see how the dust settles. In addition, the RBA would prefer to have an up-to-date reading on inflation pressures, which suggests any upcoming cut would be more likely in August after the release of the Q2 CPI.

• The Brexit vote leads us to cut our UK growth forecasts (from around 2% to 1%) but as the UK is only 2.4% of the world economy, that is not enough on its own to impact global growth by much. Ongoing global financial market volatility or concern that other countries could exit the EU or Euro-zone are needed to produce a significant dent in the 3% pace of global growth.

• Although one in twenty of Australia’s population was born in the UK, the two economies have pursued very different regional economic strategies in the last 50 years – the UK economy integrating into the European Union and Australia integrating ever closer with its Asia-Pacific neighbours.

• The outcome is that goods trade between Australia and the UK is less than 2% of each countries merchandise earnings – UK trade is dominated by flows to and from the EU, Australia’s trade by flows to and from Asia.

• Bilateral services trade and foreign investment are of greater importance – at end 2015 the UK was the second biggest foreign invester in Australia and held the second largest stock of Australian overseas investment.

• The direct effects of Brexit are probably negative for Australian exports as weaker outlooks for UK incomes and Sterling lower the demand for our goods and services. However the reorientation of Australian trade toward East Asia greatly reduces the size of the adverse impact.

• While it is clearly a negative for the global economy, provided that the fallout on global financial markets and exit contagion to the Euro-zone is contained, the costs should remain concentrated in the UK and EU. A hard landing for the Chinese economy would be of much greater concern for Australia than Brexit.

The consequences for Australia of Brexit would be far more severe if it led to a break up of the Eurozone or major countries like France leaving the EU. That could spill over into a global recession.”