The pound slumped more than 6 percent against the dollar in less than 10 minutes Friday.CreditJustin Tallis/Agence France-Presse — Getty Images
This article must begin with a mea culpa. When British voters decided in June that they wanted to depart the European Union, I agreed with the conventional wisdom that the British economy would probably slow and that uncertainty put it at risk of recession.
Advocates of “Brexit” argued that was hogwash, and the early evidence suggests they were right. For example, surveys of purchasing managers showed that both the British manufacturing and service sectors plummeted after the vote in July, yet were comfortably expanding in August and September.
But the events of the last couple of weeks suggest that British leaders are drawing the wrong conclusions from the fact that their predictions proved right. The British currency is plummeting again, most immediately because of comments from French and German leaders suggesting they will take a tough line in negotiating Brexit. But the underlying reason is that the British government is ignoring the lessons from the relatively benign immediate aftermath of the vote.
The British pound fell to about $1.24 on Friday from $1.30 a week earlier and continued edging down Monday. Even if you treat a “flash crash” in the pound on Asian markets Thursday night as an aberration — it fell 6 percent, then recovered in a short span — these types of aberrations seem to happen only when a market is already under severe stress. (See, for example, the May 2010 flash crash of American stocks, during a flare-up of the eurozone crisis).
Sterling, as traders refer to the currency, is acting as the global market’s minute-to-minute referendum on how significant the economic disruption from Brexit will end up being. So what does the latest downswing represent? It’s worth understanding why British financial markets and the country’s economy stabilized quickly after the Brexit vote to begin with.
The vote set off a chaotic time of political disruption, especially the resignation of the prime minister, David Cameron, who had advocated for the country’s remaining part of the E.U. Theresa May won the internal battle to become the next prime minister, which was to markets and business decision makers a relatively benign result.
Ms. May, the former home secretary, is temperamentally pragmatic. She reluctantly supported remaining in the union. And while she pledged to follow through on leaving it (“Brexit means Brexit,” she said), she seemed like the kind of leader who would ensure that some of the worst-case possibilities of how Brexit might go wouldn’t materialize. Exporters would retain access to European markets. London could remain the de facto banking capital of Europe. All would be well.
Meanwhile, the Bank of England sprang into action to cushion the economic blow of Brexit-related uncertainty. Despite the inflationary pressures created by a falling pound, the bank, projecting loss of jobs and economic output, cut interest rates and started a new program ofquantitative easing to try to soften the blow.
All of that — the prospect of “soft Brexit” and easier monetary policy — helped financial markets stabilize and then rally, and kept the economic damage mild, as the purchasing managers’ surveys show.
But in the last couple of weeks, the tenor has shifted.
The May government has sent a range of signals indicating it will take a hard line in negotiations with European governments over the terms of Brexit. At a conservative party conference, she pledged to begin the “Article 50” process of formally unwinding Britain’s E.U. membership by the end of March, declaring that the government’s negotiators would insist that Britain would assert control of immigration and not be subject to decisions of the European Court of Justice.
That sets up confrontational negotiations between the British government and its E.U. counterparts. European leaders will be reluctant to allow Britain continued free access to its markets, which the May government wants, without similarly free movement of people across borders.
And beyond the substance of the negotiations, the British government has signaled in recent days that it is looking inward, and will be hostile to those who are not British citizens.
The home secretary, Amber Rudd, said that companies should be required to disclose how many non-British employees they have, a policy meant to shame companies that employ foreigners to “take the jobs that British people should do.” And The Guardian reported that the London School of Economics had been told that non-British citizens would not be allowed to advise on Brexit.
In essence, the confidence that Brexit will not mean Britain is shutting itself off from Europe and the world is starting to dissipate.
Then there’s monetary policy. At the same party conference, Ms. May indicated skepticism of the role the Bank of England and other central banks have played in the economy in recent years, saying that while low interest rates and quantitative easing provided necessary help after the financial crisis, “we have to acknowledge there have been some bad side effects.”
There’s plenty of truth to that, and Mark Carney, the Bank of England’s governor, played down any meaningful schism. But in markets it raised the prospect that the government would seek to constrain the ability of the Bank of England to play a further role in guarding against economic slumps.
In short, after Mr. Carney helped foam the economic runway after the Brexit vote, Ms. May’s comments were the equivalent of complaining about the mess created by all that foam.
There’s always going to be some jockeying on both sides in advance of a difficult negotiation, and the sympathetic view to the British government is that it is merely trying to maximize its advantage in hammering out a deal to execute its Brexit.
The problem is that staking out that ground means risking the very economic damage that a conciliatory tone and easy money helped avoid over the summer.