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The day of Brexit finally dawned last week, and the results were anything but expected. By more than a million extra votes, British citizens and residents chose to say farewell to the EU. The repercussions of this monumental choice have been echoing throughout world financial and currency markets since the results were announced late Thursday night. With a probable two year or longer separation from the European Union in the cards for Britain, the ramifications may continue to reverberate for months and possibly years to come.
European Implications from Brexit
Britain has already taken a financial hit from the people's choice with the British pound down over 7% on Friday alone. Monday has seen another 5% decline picking up where Friday's currency traders left off. This dramatic more than 10% plunge in the value of Britain's pound to a 31 year low has led some observers to declare that in terms of its own currency, the world's fifth largest economy last week is now the world's sixth largest this week. British stock markets declined around 3% on Friday and are so far down another around 2% on Monday as investors had time to digest the news and its effects over the weekend.
The situation is equally grim across the English Channel. In the EU, all the major stock indices including the French and German ones plunged as much as 7% on Friday. They are similarly down another 2% on Monday. The effects for Europe go beyond merely steep declines in stock markets and wild swings in currencies. Alan Greenspan gave an interview on CNBC over the weekend. In this he said that Europe's greatest danger from the whole affair is not recession but stagnation. The slowdown in economic growth and income there has resulted from a “sharp drop in worker productivity,” he stated. Governments will have to make unpopular entitlement cuts because of the weakness. Greenspan shocked his audience by adding that “The Euro area is failing. This is the worst period I recall since I've been in public service… including the 23% drop in the Dow Jones Industrial Average on a single day in October 1987.”
Greenspan's warning is not just for Europe. He said that what you have seen so far is only the tip of the iceberg. “The global economy is in serious trouble.” Bank of America Merrill Lynch threw their weight behind these sentiments in a note they wrote to clients Friday as well. They felt that the British economy will obviously suffer the most, but that the shock for both the Euro zone and the global economy as a whole will likely be significant.
US Potential Impacts from Brexit
The biggest two impacts on the U.S. economy so far from the Brexit fallout have centered on interest rate forecasts and the stock markets. In the wake of the uncertainty the British decision has created and multiplied, the futures markets are now pricing in no further interest rate hikes from the Federal Reserve until 2018. A few weeks ago the markets all called for two more hikes before the end of December. Stock markets in the U.S. took a pounding on Friday by dropping over 600 points for a more than 3% loss on the British news. Stocks looked set for more of the same today as futures were showing another 100 -150 point decline on the market open.
It is the worries that Brexit is causing American financial markets that pose the biggest risk to the economy going forward. Investment is likely to be put on hold, particularly by exporters worried about the health of their British and European target markets. American consumers may see the financial chaos and put off new car purchases and eat out fewer times in restaurants. If the consumer engine stalls, businesses will cut back on purchases and production as well. This is the risk that Bank of America Merrill Lynch sees for the U.S. and its GDP following the Brexit vote. They have reduced their outlook for the U.S. GDP by .2 percentage points for the next 18 months to 1.8% for both years 2016 and 2017. They later admitted that this forecast could worsen depending on how bad European growth slows and how much of a shock to confidence the continuing market routs and dollar rallies display.
Business confidence is an important element that will likely take a hit in the U.S. as well. If banks retrench on their lending, then the housing market will be affected too. PNC Bank notes that businesses have already cut back on their spending and investing, and this could be worsened by the market volatility jolt. This is especially the case as the shaky stock markets may scare away consumers. Businesses may also be more reluctant to hire because of the uncertainty surrounding European and global growth. As the dollar rises from a market volatility safe haven play, this makes American exports overseas considerably more expensive and hurts U.S. exporters and growth in a vicious cycle.
Gold Price Effects from Brexit
The continuing fallout off from the Brexit vote results means one thing with certainty. Gold will continue to gain. Friday the yellow metal has roared ahead to an over two year high as the world struggled to come to terms with the economic and financial impacts of Great Britain exiting the European Union. Bloomberg surveyed 12 traders and analysts from London to New York on Friday. The average price prediction for gold has now risen to $1,424 by year's end. This translates to a potential 7% higher price for the safe haven metal this year. If you are holding gold, then hold onto it tight.