As our Director of Policy we usually ask Dr Rob Gross to comment specifically on energy issues. This latest post, however, takes a wider view on the referendum result, what it means for the UK economy as a whole and what the options are for the Government.
Many of us around Imperial College London are very concerned about the impact of the referendum result on energy and environment policy and on our associated research. We are also concerned of course about the impact on future student numbers, research funding and our close links to many European universities. This blog sets out why, in my view, a compromise outcome that avoids the worst is almost inevitable and certainly should be fought for vigorously by all of us. Many are arguing that in fact Brexit just won’t happen. That remains to be seen. However assuming that there is no U-turn, no second referendum or general election what happens will still not look anything like the Brexit that the Leave campaign promised, if indeed it is Brexit at all. It may not mend the hearts of the remainers but it could be OK.
Understanding the economic reality behind what is likely to unfold is essential. Britain has been playing a rather clever game with the global markets since (and indeed before) the financial crisis. We spend more than we earn on two fronts: we run a budget deficit, which means that the government needs to borrow money to spend in the public sector. We also run a balance of payments deficit, simply put we import more than we export. Our clever game has been to present to the world the UK as a safe, stable place, with the English language, good governance and access to the European Common Market. The government has talked tough on austerity and then followed a rather more relaxed course in reality. This is because it must do two things – retain Britain’s credit ratings (risk of default on government debt), while expanding the economy – in part through public expenditure – as well as retain essential public services. When there is low economic growth across the world investors seek safe havens. Foreign direct investment is part of what balances both the above deficits, particularly the trade deficit. Investors have bought property in London, set up companies in the UK, invested in the UK stock market and bought various forms of government bond and gilt. All of which means they buy UK pounds.
Because our credit ratings, until now, have been very good, the government has been able to borrow money at very low interest rates. They do this by selling gilts and bonds. The Bank of England has also bought gilts from the private sector in order to boost the balance sheets of banks and pension funds, which they can then spend or use to recover from the crash: Quantitative easing. This has promoted a return to growth and kept interest rates and inflation low. It has been possible in part because we have our own currency and have therefore been a safe haven during the Eurozone crisis. It is also very fragile because it depends on everyone in effect believing that, on the whole, all will be comparatively good in the UK.
What has happened since the referendum is that Britain’s credit ratings have been downgraded by the ratings agencies. Our reputation for political stability is now shaken. UK gilts and bonds just got more risky. Foreign investment has taken a big hit, for two interrelated reasons. First, because investors now don’t know what is going to happen next in the UK politically, the country now no longer looks like a safe bet. Second, because many UK companies have a huge European market – our car and chemicals companies, our pharmaceuticals and food, and most of all our financial services and banks. Currently the City of London can trade right across the EU. This is hugely important because it would be lost if we exit the common market altogether. As a result, in the financial world, traders are selling UK assets. In the real world, UK companies are putting investment on hold. Many of these companies are foreign owned. Many have operations elsewhere in the EU. They are worried that the UK will face tariffs from the EU in a few years’ time. They may then choose to invest in their operations in Poland or Belgium, or wherever. Not here.
One of the most preposterous fantasies of the Leave campaign was that the UK could leave the common market altogether, put up with tariffs, lose market share and build new markets elsewhere. Even if this could be achieved it would take years and years. But the UK simply cannot afford this course action under our current circumstances. We can’t take the risk. The markets won’t allow it. Too much of what we need to survive and maintain living standards and public services will disappear. If we were not running a dual deficit and if the global economy were growing strongly then just maybe this risk would be worthwhile. Neither is the case. What the UK government must do is return stability as quickly as possible and ensure that the investment that flows into the UK because the UK is part of the European Common Market returns.
What this means for us academic energy and climate wonks is that the only realistic scenarios are some sort of face saving excercise, or brave political act, that allows us to, in fact, remain. Or that we negotiate a relationship similar to that of Norway, where we remain part of the European Economic Area. In my view this is not a good outcome viewed from the perspective of common sense, because it means that we must abide by just about all the EU’s rules (and possibly freedom of movement) but have no say in making those rules. We will also have to pay into the structural fund. However it might be the only way to appease the nationalist sentiment whipped up as a result of the campaign. It gives me no pleasure to suggest it but our sector needs to begin to assess this possibility and to engage with what it will mean. This will allow us to continue to have some role in, and access to various forms of research funding and student exchange. Quite where it leaves the relationships between UK and EU energy policy, climate policy (including the Paris Accord) all remain to be seen.
We have to accept that Britain has suffered significant reputational damage as a result of this referendum – not just the outcome but the way it was so publicly prosecuted by some. We once were viewed externally as sensible, stable and safe. We had Conservative government but many progressive social and environmental policies. Prospective international students will have viewed London as one of the most exciting places on the planet to study and live in. That’s been dented. At least a few might now wonder what on earth is going on in Britain and whether it is quite as safe and inclusive a place as they had been led to believe.
But it is not just Britain – right around the world now, nationalism and irrationality are present in many forms in many countries. If nothing else the economic after-shock of the referendum might do something to counter the flight from facts that was such a strong component of the Leave campaign. The UK might just need those experts after all, not least if the UK is to continue to be a lead player in the energy and climate debate.