Brexit: are we at a crossroads?

16 Jan 2019

Philip Shaw

Investec chief economist

After Theresa May's Brexit deal received an unprecedented defeat in the Commons on Tuesday night, what happens next?

To say that Tuesday night's Brexit vote in the House of Commons was "meaningful" was an understatement. MPs dealt a hammer blow to Theresa May’s negotiated deal by rejecting it by 432 to 202, a defeat for the government of 230 which is unprecedented in modern times. 118 Conservative MPs, more than a third, voted against it.
 

Vote of no confidence

The vote was followed by a speech by the PM who said that she would start cross-party talks on Brexit by reaching out to the opposition, although she did not specifically say who. Later Leader of the Opposition Jeremy Corbyn announced that he was tabling a motion of no confidence in the government.
 
The government won the vote of no confidence tabled by Labour leader Jeremy Corbyn by 325 votes to 306, a majority of 19. This compares with an effective majority in the Commons of 13. This was no surprise bearing in mind that the DUP had previously insisted that it would support the Conservatives in this vote.
 
Mr Corbyn has also indicated that he may table several such motions in the future. We suspect that his intention is to continue to try to maintain the line that the Labour Party's main Brexit objective is to fight a General Election and deflect pressure to call for a second referendum which the judges could be politically toxic (as well as being contrary to his personal inclinations).
 
There is also a feeling that the Conservatives may fracture at some stage as the PM attempts to gather a consensus on Brexit across both sides of the House. PM May says she will continue to work to deliver the referendum result. She met with several party leaders on Wednesday night, but Mr Corbyn has refused to meet her unless she rules out a no-deal Brexit. Even so, Mrs May will present parliament with the government’s next steps by Monday, the latest day when it can report back, as implied by the amendment successfully introduced by Tory MP Dominic Grieve last week.
 

Market reaction

Markets have taken the news in their stride. Sterling has maintained last night’s modest gains and was trading at $1.2850 and 88.8p against the euro early on Wednesday afternoon. Meanwhile, the FTSE100 index was down some 30 points at 6860, as currency-related losses on internationally facing stocks outweighed increased confidence in domestic earners.
 

A political fog has descended

We would not claim to have a great capacity to navigate through the new outbreak of political fog that has now descended on the UK. Indeed almost, needless to say, the nature and the timing of the UK’s EU exit remain uncertain. But the points below represent our latest thoughts.
 
Mrs May’s existing deal will be shelved, at least for now. A narrower defeat (say 50-100) may have paved the possibility of tweaks by the EU to the agreement on the future relationship and of further reassurances on the Northern Ireland backstop. However, the scale of last night’s rejection renders this fruitless. Talk of (another) emergency Summit has been scrapped and Brussels is now waiting to see how Westminster responds. The ball is very much in the UK’s court.
 
  • What will Mrs May’s next steps be?
    The PM will introduce a motion to the House to set out her intentions, which we presume will take place on Monday. We will learn of her ‘plan B’ on how to proceed. What will also be significant is the tabling of amendments, which are accepted by Speaker John Bercow and how the votes pan out on each.

    For example, it is possible that an amendment is tabled which sets up a cross-party committee to determine the UK’s Brexit strategy. Also, various Brexit models could be floated, such as ‘Norway plus’ i.e. UK membership of the EEA and a customs union with the EU. In other words, the debate could determine some of the architecture of the Brexit decision process and serve as a de facto indicative vote on various options.

    Listen to our Brexit podcast: May’s deal rejected, so what happens next? >
 
  • Power to the people (well, 650 of them)!
    The direction of travel of power, at least in the Brexit debate, is clearly moving away from the Executive and towards Parliament. Mrs May has tried framing legislation via a minority government. This clearly has been struggling and has now run into the buffers.

    According to the Institute for Government, Mrs May’s administration has suffered 22 resignations and we feel that more may be on the way. Exactly how the evolving system will function is unclear, but as Parliament gets more control of the process, further complexity will be added to the dynamics. Perhaps the Commons will make decisions via cross-party motions (if agreements can be reached) and the government will implement them.
National and international newspapers, featuring front page reaction to the historic loss in the Brexit deal vote, sit on on a newsstand in London, U.K., on Wednesday, Jan. 16, 2019. The U.K. stands at its most dangerous crossroads in decades after Parliament emphatically rejected U.K. Prime Minister Theresa May's Brexit deal and left her facing an uncomfortable vote to oust her government. Photographer: Luke MacGregor/Bloomberg via Getty Images
All front pages of national and international newspapers featured reaction to Theresa May's historic loss in the vote on her Brexit deal.
  • What is the default situation?
    The events of the past couple of weeks as whole make a ‘no deal’ outturn less likely, in our view. Parliament has more control over the Brexit process and it has relatively little appetite for leaving the EU without a deal. That said, the default option is for ‘no deal’. In other words, as things stand, the UK is still set to depart the EU on 29 March and a new framework has not been agreed. Action has to be taken for this to be avoided.
 
  • Just 72 days to go?
    We now consider that there is a very good chance that Brexit will be delayed. The timetable for the necessary legislative arrangements under Mrs May’s deal already seemed tight. Had she lost narrowly last night the likelihood of it being salvaged (rather than savaged) would have been kept alive.

    But the magnitude of the loss changes things. It seems most unlikely that a new framework could be designed and agreed by Westminster and in Brussels within the existing timeframe. This suggests that the UK will have to ask for an extension of the Article 50 process beyond 29 March. For this to happen, EU27 countries will have to give their unanimous consent. But an additional issue is that European Parliamentary (EP) elections take place in late-May.

    The new EP will sit on 2 July and an extension of Article 50 beyond then implies that Britain would need to take part in the elections, as it would require representation in the EP. This complication could make the EU reluctant to grant a long delay and it is not completely out of the question that the UK revokes Article 50 and takes a longer, harder look at the options, perhaps even including a second referendum. (The European Court of Justice recently ruled that a country may revoke Article 50 unilaterally).
 

 

Final thoughts

Clearly, the way forward is unclear. But the recent game changers are the sheer scale of Tuesday's defeat and the greater say of parliament in the process. These factors have altered the Brexit dynamics significantly.
 
Our suspicion is that parliament will also find it difficult to forge a consensus and may not be able to agree on a way forward, including a revamped version of the PM’s deal. If this proves impossible, parliament might decide to hold a second referendum.
 
As well as possibly being a politically explosive option, this would take a considerable period of time to organise, especially if the question was complex or if there was more than one question. There seem to be very few options available within the existing timetable, but the government will no doubt prefer to exhaust all routes forward before looking at altering the Brexit date.
 

Impact on forecasts

We recognise that there is precious little predictability in terms of sterling’s outlook. "No deal" fears could resurface. However as mentioned above, the risk of such an outturn appears to have diminished over the past couple of weeks, limiting the pound’s downside.
 
We still see sterling rising and for now, we are not changing our end-2019 targets of $1.40 and 88p against the euro. However, we are shifting back the timing of our Bank rate hike expectations by three months, to May and November. We are still forecasting the Bank rate to stand at 1.25% at the end of this year.
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