Six ways Brexit could affect the US
Andrea Murad speaks to stateside CAs and other economic experts to find out what the UK’s decision to leave the EU means for the US economy.
The Brexit vote has created an incredible amount of uncertainty. Along with establishing new leadership, the UK government has a lot of work to do to leave the EU, and the US may be unexpectedly impacted from this international divorce.
“If Brexit does create its own negative economic impact – for Britain and possibly Europe – then there will be a ripple effect on many large US companies, which in turn will negatively impact the US economy,” says Peter Forbes CA., executive chairman of the charity Loving Houston, Inc.
Predicting the result of negotiations is near impossible. In the meantime, businesses need to prepare for every possible scenario.
“We could end up in two years as a country with some/limited access to the European markets,” says Michael Bolan CA, senior tax manager in EMEIA Financial Services at Ernst & Young LLP. “Or you could potentially have a situation where the negotiations break down and the UK has to make their own trade agreements with the EU and the rest of the world.”
If other countries decide to leave the EU, this has the potential to contribute to another worldwide financial bubble bursting.
“Such a seismic event can lead even relatively strong economies such as [the] UK into decline or even recession,” says Gerry Brady CA, vice president and chief financial officer at Sun Chemical. “The recent relatively weak global economic recovery is fragile, so this could well have a knock-on effect across Europe and beyond as confidence levels decline and investment decisions are put on hold.”
Long drawn out negotiations could also prolong uncertainty for businesses and volatility in markets – both of which are never good.
Here’s a snapshot of how this one vote could affect the US.
“For US companies with UK and EU operations, it’s still too soon to say with any certainty what they should do,” says Michael.
“If US companies have existing UK operations, the general sense I’m getting is that there’s no need to pack their bags right away – it’s more about monitoring the situation and starting to evaluate potential future operating scenarios and consider the associated business impacts.”
Most companies have put plans on hold or started developing contingency plans that address the potential scenarios.
What’s creating risk and holding up investment is that there’s little clarity as to who’s leading negotiations and what these negotiations will look like. US companies with a footprint in Europe or significant staff in London will likely have to wait two to three years before making a decision as to next steps.
US companies that trade with the UK will feel the effect of new trade agreements and a weaker currency.
“If they import from [the] UK, the weaker pound will lower the cost to US companies,” says Gerry. “If they export to the UK, it will make their product more expensive and potentially less appealing; however, as sterling has dropped against most currencies, the impact may be less.
"Generally the uncertainly surrounding the Brexit negotiations will put a dampener on investment, which has the potential to permeate throughout the global economy, including [the] US.”
US companies with plants in the UK that rely on suppliers from within Europe will have to prepare for various trade scenarios.
As trade agreements are renegotiated, the cost of goods might not be less expensive despite a weak pound.
“You may think there’s a temporary benefit for US companies with UK plants that ship into the EU and sell products there, but that will temporarily be offset by the cost of importing, tariffs and duties,” says Patrick Van den Bossche, partner and board member at A.T. Kearney. “We don’t know where the British pound will settle and where ultimately all these tariffs and duties will fall out.”
3. Supply chains and manufacturing
Today’s supply chains are global, and that means the cost of materials may increase due to new trade agreements, causing companies to change their inventory strategies.
“If you look at a company in Germany with goods shipped into the UK, they just got more expensive because of the pound dropping and with tariffs,” says Patrick. “It could also be raw materials – a lot of UK plants that are owned by US companies get their raw materials outside of the UK. “
American companies with manufacturing operations in the UK may also have to reassess their strategies.
“Now that the goods don’t move freely, there will be time lags built in as products are held up at customs,” says Patrick.
Manufacturing companies with plants that rely on just in time and have minimal inventory will need to adjust and build in more inventory in the supply chain. “That’s a temporary increase in cost that will probably surpass any long-term currency affect,” says Patrick.
At the same time though, depending on the UK’s relationship with the EU and other countries as a result of the Brexit vote, companies may decide to redesign and reassess their supply chain structure and policies.
As manufacturers take advantage of this opportunity to make adjustments and fix bad designs, the result could be more efficient, resilient networks, says Toby Brzoznowski, executive vice president at LLamasoft.
4. Exchange and interest rates
“[Brexit] clearly helps the dollar to strengthen against most if not all currencies, mainly because of [the] expected negative impact on Britain’s economy and [the] flight to safe havens during a time of increased uncertainty,” says Peter.
Exchange rates and interest rates are connected, as one causes the other to move, and currency moves have been significant. The dollar gained between 10% and 15% in purchasing power against the pound, but most companies won’t feel the effect of this currency fluctuation due to currency swaps that hedge against exchange rate fluctuations.
Many hope that the decline in the pound will offset the tariffs that may result from new trade agreements – tariffs between developed countries are typically low – but there’s uncertainty surrounding the relationships the UK will be able to establish with other countries.
The UK may fall into a recession, and the Bank of England will likely try to spark economic growth by adjusting interest rates. “[The] UK will have to keep interest rates low for some time even though this will put further pressure on the value of sterling,” says Gerry.
If the pound declines, that could cause the US dollar to strengthen further. If the dollar rises sharply, it’ll have the same impact to the US economy as if the Federal Reserve raised interest rates.
While the Federal Reserve began 2016 with the intention of raising rates four times, the market volatility that resulted from the political risk associated with the Brexit vote caused the Fed to cut their own rate forecast in half. The expectation is that interest rates will remain low during this period of uncertainty.
5. Tax regime
“The UK has been following a positive policy agenda to promote itself as the most competitive tax regime in the G20,” says Michael. “There have been a number of recent law changes and further prospective changes with the intention of making the UK an attractive holding company and investment platform location.”
The UK government is looking to make the base more attractive for corporations. The corporate tax rate could be reduced eventually to 15%, which would give the UK the lowest corporation tax of any major economy. A beneficial tax regime could prevent US corporations from leaving the UK and attract businesses.
6. Equity markets
Globalisation in recent years has created a mutual interdependence, which is why world markets went into a free fall after the Brexit vote. “If you have volatility in British financial markets, which obviously you do, volatility is caused by uncertainty and the more uncertainty you have, that affects the American investor,” says Giacomo Santangelo, lecturer of economics at Fordham University.
That drop has worked itself out as the US equity markets, but an uncertain long-term future may cause more market volatility as the world economy adjusts to a UK outside the European Union.
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About the author
Andrea Murad is a New York–based writer. Having worked on both Wall Street and Main Street, she now pursues her passion for words. She covers business and finance, and her work can be found on BBC Capital, Entrepreneur.com, FOXBusiness.com and InstitutionalInvestor.com.