Leading UK PM Brexit strategies taking shape with May and Leadsom

At this juncture, the leading candidates for British Prime Minister are both women on either side of the referendum vote. However, both are saying they will guide the UK out of the European Union. Meanwhile Chancellor George Osborne’s fiscal stimulus looks set to concentrate on lowering corporate tax, which will continue to widen the income gulf, a major contributor to the vote to leave the EU. Markets have stabilized with the Pound taking the brunt of the post-Brexit fallout.

Right after the EU referendum vote, I flagged Theresa May and Boris Johnson as frontrunners with Andrea Leadsom as a dark horse candidate. Here’s how I described each candidate:

• Boris Johnson: “Johnson is toxic right now, so emotional is the aftermath of the campaign. To the degree the Conservatives pick a successor to Cameron sooner than later, this works against Johnson. I reckon the Conservatives will want someone who can best build bridges within the UK and also with the UK’s EU partners. And right now, Johnson is not looking like that person – though in a month’s time he could do.”
• Theresa May: “Theresa May, who kept a low profile during the campaign, is a member of the ‘Remain’ camp. And that is attractive because, as she isn’t tainted by the campaign, she can help take some of the more divisive outcomes off the table. For example, if the situation calms enough and May delays the Article 50 invocation, she would be well positioned to keep Scotland in the UK. Now, even though Scotland has its own parliament, it still needs permission from Westminster to hold a second national referendum on leaving the UK. May would be a good face in Westminster to make rejecting a referendum palatable.”
• Andrea Leadsom: “I have heard Leadsom’s position on the debate and hers is one that makes the most sense from a Leave perspective in that she unequivocally says that Britain will not seek membership in the single market. As such, the UK under Leadsom could leave the EU and the single market altogether and unilaterally enact trade barriers for the EU of the exact same level as it has with the US, while the UK works to secure a trade deal with the EU. The point here is that, under Leadsom, the EU would have zero leverage to squeeze the UK on trade because the starting negotiating position would be to create a trade relationship with the EU equivalent to the one with the US unless the EU works to secure better terms. The real question for her is the City of London as a financial center. But Leadsom also has experience in the City, and therefore would be more likely to win over the financial sector.”

Since I wrote this, Johnson has dropped out due to Michael Gove’s decision to stand as a candidate for Tory Party leader. And he has thrown his lot in with Leadsom. And that makes her the leading ‘Leave’ candidate for party leader. The Evening Standard is saying Gove may pull out tonight as a result. If so, that would leave three candidates in the race for party leader as one candidate will be eliminated in tonight’s voting, likely Liam Fox. Stephen Crabb doesn’t stand a chance in my view. And that leaves May and Leadsom.

And now May and Leadsom’s Brexit strategies are taking form. With May, we will not get an invocation of Article 50 until at the earliest the end of the year, with the UK seeking immigration controls, likely from within the single market. I outlined May’s views in full last week here. This positioning is going to be problematic as the EU have already signalled to the Swiss that immigration controls on EU citizens is not compatible with the single market. And this is a warning to the UK regarding immigration, a key issue in the EU referendum. Likely we would get the famed “Brexit lite” that Johnson has been criticized for offering or May would have to decide to opt out of the single market.

Leadsom’s EU views were less known by the general public because she had a lower profile pre-referendum. However, I had listened to her before the vote and know that she has no intention of keeping the UK in the single market. Moreover, she has since signalled that – because she doesn’t want single market access and wants to control immigration – she would invoke Article 50 soon after she becomes Prime Minister. The only question under Leadsom, therefore, would be financial services and the City of London’s role in Europe. Clearly, the UK would take a hit here as the EU would try to be as vindictive as possible in order to create some level of pain for leaving the EU as a way of discouraging other departures. But the EU’s lack of leverage, given Leadsom’s positioning, makes the EU’s role harder.

In the meantime, George Osborne is positioning the UK as a business-friendly location by proposing a corporate tax reduction to 15% from 20% in order to keep business in the UK and stimulate future investment. This is a good tactical move given the biggest worry for the near-term UK economy is about business investment. However, I question the efficacy of this kind of economic policy in bringing back the jobs to the UK that wlll ease the angst behind the Brexit vote. Time and again, we hear about working class Brits who feel their voice is unheard in Westminster as well as in Brussels. Lowering the corporate tax rate isn’t going to help them feel heard. Moreover, while a post-Brexit stop on immigration flows may give them some red meat regarding referendum promises, it will not immediately improve their socioeconomic conditions. More needs to be done to stop a widening income gap in the UK that is due to stagnating real middle class incomes.

On the economic front, I continue to believe the short- to medium-term outlook for the UK has been ‘politicized’ by motivated reasoning from the remain camp – and that the vote has not dimmed the near-term significantly. On the contrary, from a consumer perspective, the vote could be a boon, with tourists flocking to the UK. Canadians are the latest nationality looking for at Britain as being ‘on sale’. No doubt, the same is true in the US and to a certain degree on the continent, though the pound has not fallen against the euro as much as it has against the dollar; Sterling is at a 31-year low against the US dollar. For me, it is the long-term trade implications where there should be any worry. And while the UK will take a modest hit while it works out trade deals, the offsets from currency, monetary and fiscal policy could negate most of that downside risk. We will just have to wait and see.

In the meantime, the British Pound will remain weak; I’m putting a 1.20 level as a tail risk downside scenario. Despite the currency weakness, fears of economic fallout will mean monetary and fiscal stimulus, which I anticipate to be enough to prevent a Brexit-induced recession. Gilt yields will remain low because bond vigilantes front run inflation, not economic weakness, where the currency is the release valve. The real global growth risks here are a strong dollar, outflows out of emerging markets and Chinese competitive currency devaluation.

Later today, we will get the first result on the Tory leadership race. I expect Liam Fox to exit. I also expect the ‘Leave’ MPs to begin a wholesale switch to Leadsom, making the leadership contest one between her and Theresa May.