September 14, 2018
Carney warns about dramatic hard Brexit impact on housing market
It is a great tragedy that the pro-Europeans in the UK have never been able to think of anything other than fear-based arguments in favour of EU membership. This is certainly why they lost the campaign. That said, it is fair to speculate about the economic consequences of a no-deal Brexit, which would definitely do real damage. The question is whether the damage would be temporary or permanent.
Mark Carney, governor of the Bank of England, believes it would be permanent. The Times leads with a story that Carney briefed the UK cabinet on a no-deal Brexit, presenting a forecast by the bank that house prices would fall by 35% over three years. You could call it the mother of all project-fear warnings. The idea of falling house prices would be one of the scariest subjects of conversation at any West London dinner party. The Tory party knows full well that it cannot take such risks. The Times reported that there was total silence at the cabinet table when he spoke. Nobody challenged him.
Carney’s argument is based on the assumption of a strong permanent depreciation of the pound, with rising inflation and higher interest rates as a result. In an over-borrowed housing market like the UK it is not hard to see how this chain of events could unfold. The banks would be ok, according to Carney, but only just. A 35% fall in house prices would be a double-whammy for the Tory electorate. It would send many homeowners into negative equity, and the tightening financial conditions would make it even harder for first-time buyers to buy a property. Carney’s main economic argument was that the Bank would not be in a position to offset the negative economic consequences of a no-deal Brexit through monetary policy.
Carney’s assumption of a permanent exchange-rate shock is debatable. A hard Brexit will clearly produce potentially large frictional costs, but we fail to see why it should cause permanent damage. A short-term exchange rate shock would be irrelevant. It would cause a temporary rise in inflation, but not something a central bank would need to counteract. We find it astonishing that not a single minister questioned Carney on this assumptions.
Of course, one cannot rule out the possibility of long-term damage as a result of a hard Brexit. Companies might go out of business. A rational, risk-averse politician should not wish to test Carney’s forecast. Once the eurosceptics wrap their brains around a hard Brexit, a process that has yet to happen, they will quickly conclude that they had best hold their fire until Brexit materialises.
Paul Mason makes a similar argument for the Labour Party. He wants it to shift its strategy so as to support a second referendum in favour of the EEA. We presume he also includes membership of the customs union in the package, for otherwise the plan protects only the City of London but not the manufacturing industry. He noted that his own anecdotal feedback from constituencies in the Labour heartlands suggests that there has been no shift of views on Brexit, and no enthusiasm for a second referendum. He fears that Tommy Robinson, a right-wing activist, could become hugely influential during a referendum campaign, and might end up creating a successful Pegida-style movement in the UK, funded by the alt-right movement from the US. He noted that Robinson backed the violent march of 10,000 right-wing protesters in Whitehall in June. Any attempt to reverse Brexit would create a massive and possibly violent political backlash that could reach deep into the support base of the Labour Party. The Labour activists he spoke to are, for this very reason, unenthusiastic about a Remain referendum. This is why he proposes the alternative of the Norway option.
The trouble is that Mason, like the politicians in support of a hard Remain, fails to understand the strategy and the interests of the EU. The EU wants a Brexit deal. It negotiates with Theresa May, not with the left of the Labour Party. The EU will not accept the customs proposals of the Chequers deal as presented by May, but Chequers will nevertheless form a basis of discussion because it seeks a solution to the Irish border, and because it seeks to maintain a free flow of goods. The EU would have preferred a customs union and EEA membership, but the EU would never support any political group in the UK that advocated a rejection of the withdrawal deal in the hope of achieving an even closer relationship. Why take the risk? If a future UK governments wanted a closer relationship, or even EU membership, the EU will remain open to this.
We agree with a tweet by Charles Grant, who writes that the UK can accept the Irish backstop only on two conditions: if it agrees a transitional customs union until the facilitated customs arrangement is ready; or if the EU allows the UK to stay in the single market for goods. We should not take any outcome for granted but this does not appear to us to be an impossible task.