Boris Johnson’s Brexit: What does it mean for investors?

Boris Johnson, First Lord of the Treasury – Investors had better get used to it…

Boris has achieved power at a unique moment when the political star scape is so kaleidoscopic that he could change the UK forever – or plummet from the skies like a bloated Icarus. Let’s veer on the side of optimism, writes Victor Hill.

The new cabinet – pragmatists or ideologues?

Prime Minister Johnson’s first act was to purge 17 members of Mrs May’s cabinet of 23 and to replace them with hard-headed Leavers loyal to him. OK, six or so of the old guard fell on their swords to avoid ignominy. Mrs May’s cabinet had come to look tired – epitomised by the accident-prone Mr Grayling and the seemingly dazed Dr Fox. (Dr Fox has since announced his intention to write a book on bacteria.) Boris’s new cabinet contains a handful of first-class minds – plus, what FD Roosevelt valued much more, a dozen or so first-class spirits.

The three great offices of state – the Home Secretary, the Foreign Secretary and the Chancellor – are all now occupied by the children of immigrants. Ms Patel is of Ugandan-Asian heritage; Mr Raab’s father was a Jewish refugee; Mr Javid is of Pakistani Muslim heritage. This English-British Anglican writer could not be more delighted – the more so because they are all Thatcherites to boot! For the first time in years, Britain has a cabinet which, like it or loathe it, looks energetic. The gloomsters are out.

Mr Johnson has admitted that he is not a great team player – but he is sure he will make a good captain. He intricately understands how the EU works. Whereas Mrs May deferred to her civil servants on European affairs, Mr Johnson will understand the issues at least as well as they do. He understands, as does the new cabinet, that Brussels has put politics before economics.

Let’s just say we have a government of pragmatic ideologues. Their clear mission is not just to awaken the country from the Brexit nightmare, but to refashion Britain itself, taking advantage of the new freedoms that Brexit will entail. Post-Brexit, the country will only be re-united (and the Union renewed) through successful domestic policies.

Sajid in Number 11

The arrival of Mr Javid at Number 11 Downing Street, assisted by Rishi Sunak MP (formerly of Goldman Sachs) as Financial Secretary to the Treasury, represents more than a change of guard. Rather, they constitute a new broom. These are two men who understand financial economics, who are unabashedly pro-market, and who, most importantly, appreciate both the strengths and weaknesses of the Treasury.

One of the Chancellor’s most immediate priorities is to ready the economy for a quite likely no-deal Brexit. In one of his first acts as Chancellor, Mr Javid announced £2.1 billion in funding to “turbo-charge” preparations. This is made up of an immediate £1.1 billion in cash available to businesses and farmers most affected and an additional £1 billion which the major spending departments will be able to access as and when required. This will be financed out of the estimated £26.6 billion of fiscal headroom bequeathed by Mr Hammond. (This headroom is not real money but the amount by which public finances are likely to exceed original forecasts in the year ahead.)

This money will be used, inter alia, to recruit an additional 500 UK Border Force officers who will be stationed at major ports (though they are unlikely to be in place by 01 November). £434 million is being put aside to ensure the continued flow of medical supplies into the UK. The Institute of Directors (IoD) has proposed that spending on Brexit planning should be considered a fully tax deductible expense.

But, refreshingly, the Johnson-Javid financial strategy is going to be about what happens after Brexit. There are dozens of proposals doing the rounds. We know that Mr Johnson would like to raise the threshold for the 40 percent higher tax band from £50,000 to £80,000 thus benefitting the middle classes. Mr Johnson has also suggested making changes to National Insurance (NI) thresholds. This is most likely to benefit pensioners (who do not pay NI) who receive investment income. Mr Javid would like to scrap the 45 percent tax rate on earnings over £150,000. (The highest income tax rate during the entire ten years of the Blair government was 40 percent.)


Further, Mr Johnson has declared that stamp duty (largely Mr Osborne’s legacy) needs to be reduced as it is stifling the housing market. (House prices in London have lost 4.4 percent of their value in the last 12 months.) He has even mooted that the liability should be shifted from the buyer to the seller. Revenues from stamp duty actually fell by £1 billion last year. We could even see the threshold for stamp duty rise from £125,000 to £500,000 and the top rate (applied to properties of over £1.5 million) cut from 12 percent to 7 percent.

Will the ever-more-expensive HS2 project survive? Probably not in its present form. The costs are just not commensurate with the benefits. An all-British GPS satellite network is a much greater priority and will yield higher returns. And what about the TV license fee? It would be fun to tweak the Remainer BBC’s tail.

It is now clear that austerity is finally off the agenda. Spending is going to be ramped up, for now at least, and it will be financed by additional borrowing, given prospective tax cuts. So long as rates remain ultra-low, that is quite financeable. 20,000 new policemen are already being recruited. And there are big-vision initiatives in the offing. Social care (how to finance care for the vulnerable elderly) will prove a minefield but it must be addressed. Stop the can-kicking. That’s what Boris said on 27 July.

So we will have increased borrowing and spending at a moment when the economy might contract (short-term) further to a no-deal Brexit. Expect turbulence – but focus on the medium-term.

An emergency budget will take place (so Mr Cummings told us on 28 July) during the week of 07 October – the week after the conclusion of the Tory Party Conference in Manchester on 02 October. The reaction of the markets to that event could prove critical.

A no-deal Brexit: heading for the rocks?

One reading of his recent statements (and the Europeans’ predictable response to them) is that Mr Johnson actively wants to leave the EU on 01 November without a deal. Even though he knows that there will be huge disruption of supply chains in the UK’s important automotive and aerospace sectors. Of course, he and his close supporters couldn’t possibly admit to wanting no-deal as they would be depicted by the Remainer establishment as a bunch of Europhobic chancers.

Why would any sane politician actually prefer a no-deal outcome? The simple answer is that they perceive that medium term benefits would much outweigh the short-term costs, dramatic as they will be. Yes, initially, there will be chaos at Dover and elsewhere; car production will seize up altogether for a month or so (it is already in free-fall for reasons not related to Brexit); Ms Sturgeon will spontaneously combust – and Tesco will run out of Marmite (even though the British staple is manufactured in Burton-upon-Trent).

Once faced with the extraordinary reality of 10 percent tariffs on imports of German cars and of similar tariffs on French wine (making English wine more competitive) the new European Commission will be forced to the table – whether they like it or not. The Republic of Ireland, with whom we enjoy the closest cultural and social kinship of any country on Earth, will be the worst affected: a refusal by the Commission to resume negotiations would be deeply resented there.

As I have argued previously in these pages, the cost of no-deal would have been much lower on 29 March than it will be on 31 October. But Mrs May and her team just did not have the political will or capital to pull it off. Mr Johnson is a different proposition; and, though it is early days, there is polling evidence that the British public might yet rally to his cause.

According to the Halle Institute for Economic Research, the EU-27 could lose 420,000 jobs in a no-deal Brexit, of which 100,000 in Germany and 50,000 in France. That is likely to focus minds this autumn. There would, very probably, be a series of mini-deals – on road haulage, aviation, reciprocal citizen’s rights, financial services etc. (some have been concluded already) – but the imposition of tariff barriers on both sides under WTO protocols will take a lot of getting used to.

Beyond Brexit: smiles in Washington

Mr Johnson is likely to meet President Trump three times in the 90 days before Brexit. Officials are quietly talking about a short trip to the US in early August. (Not Washington – but maybe Mar-a-Lago.) Then they will meet at the G-7 summit in Biarritz on 24 August, and also at the United Nations General Assembly meeting in New York in the last week of September. The New York-born Prime Minister (who had US citizenship until he renounced it ten years ago) is likely to be well received in America.

What’s more, in December Mr Johnson will host the NATO summit, marking the 70^th anniversary of the alliance’s foundation, which Mr Trump will certainly attend. Assuming that Brexit really does happen on 01 November, that will be a historically important occasion which will oblige the Europeans to reveal to what extent they are invested in NATO as opposed to the incipient EU Army. The latter project is perceived by Washington to be a potential threat to the NATO security architecture.

One issue topping the agenda will be the Iran nuclear deal. Mrs May sided with Monsieur Macron and Frau Merkel on that one. Expect Boris to take a different line.

The Irish Border

With the new government and a new sense of purpose, both Whitehall and some of the media have changed their tone with regard to Mr Varadkar, the Irish Taoiseach. Nick Timothy, one of the notorious two “advisors” to Mrs May before the disastrous 2017 election, writing in the Daily Telegraph on Monday (29 July), describes Mr Varadkar as playing fast and loose with the hard-won peace in Northern Ireland.

For the EU as a whole the Irish backstop is not the main issue, despite the avowed desire to maintain the integrity of the single market. It is essentially there to reassure the Irish. But if Mr Johnson is really serious about going for a no-deal Brexit (and the jury is still out on that) the Irish are presented with an unpalatable choice. Either they accept some degree of informal, technology-based invisible border; or they get a de facto hard border in three months’ time.


It was Mr Varadkar who insisted that the issue of the Irish border must be settled before the UK could negotiate its future relationship with the EU. The outcome was a putative treaty that gives the UK the status of an EU colony. This would be highly inimical to the interests of the unionist community in Northern Ireland – as well as to all British citizens. The Good Friday Agreement of 1997 (GFA) vowed not to change the status of any community without consent. If the erection of a North-South de facto border violates the GFA by compromising the nationalist community, then by the same token, the erection of a de facto border in the Irish Sea compromises the unionists. That is why Mr Johnson and his team have started to talk about the undemocratic Irish backstop.

The Irish border exists because Catholic Ireland chose to break away from the United Kingdom in 1922. Apparently though, in Mr Varadkar’s view, the UK does not have an equivalent right to assert its own national independence.

A possible alternative

Some commentators have speculated that Mr Johnson has left room for an alternative route out of the EU which would not bring about the dislocation of a no-deal Brexit. The prime minister has already suggested that a two-year transition period would be a price worth paying – that is not the part of Mrs May’s Withdrawal Agreement to which he objects.

The UK still possesses the right to leave the EU but to remain in the European Economic Area (EEA) to which Norway and Iceland are unlikely to object. That would mean that Britain would take back immediate control of agriculture and fisheries but tariff-free trade would continue with the EU-27. Freedom of movement would still apply, though provisions would be available, akin to Mr Cameron’s emergency break. Substantial annual payments by London to Brussels would stop. The Withdrawal Agreement could then be unceremoniously junked.

Mr Johnson might pitch this as a temporary measure, lasting perhaps two years, so as to allow time to negotiate a lasting free-trade deal with the EU. Under the relevant treaties EEA members can leave after giving 12 months’ notice to withdraw – Article 50 would not apply. So this could be a much more orderly way out of the EU. The question is whether the Moggites would wear it.

The pound on the slide…

Sterling has been trending down since Mr Johnson took over (indeed since Mrs May resigned on 24 May). It is trading as I write at around €1.10 and $1.21. That is well above its all-time low of €1.05 back in 2009. This is not all bad news: it’s going to be a bumper year for the UK tourist industry with a record number of inbound Chinese visitors.

The BBC has been telling us that a currency is a country’s share price. Actually, a country’s share price is its bond yield. The yield on UK 10-year gilts fell to an all-time low on Tuesday (30 July) of 0.64 percent. Moreover, the FTSE-100 and FTSE-250 are bearing up. (Bear in mind that August tends to be a month of financial uncertainty on account of holiday-driven illiquidity, especially in Europe.) Meanwhile, Irish 10-year bonds yields were up over 10 basis points on Tuesday. Ireland’s ISEQ stock index is also down. This suggests the markets believe that the downside for Ireland in the event of no-deal is much worse than for the UK.

The weak pound is not the only story in the currency markets right now. The dollar and the Swiss Franc are both making ground on the euro as safe-haven currencies. The Swedish krona has performed even more poorly against the euro over the last 12 months than the pound. The Aussie dollar has lost seven percent against the US dollar year-to-date. And if you think the pound is in trouble, spare a thought for the Turkish Lira, the Argentinian Peso, the Pakistani Rupee and the South African rand, all of which are getting hammered…

In the stock markets, funds are leaving London. But European bourses are also experiencing large outflows of capital. According to the Investment Association, British investors pulled £2 billion out of European funds in the first five months of 2019 – even though the MSCI Europe Index is up about 19 percent this year, partly as a result of the ECB’s pledge to keep rates low in the face of deteriorating economic data. The impact on European markets of a no-deal Brexit may not be fully priced in.

The endgame

Since the wee hours of 24 June 2016 this country has been embroiled in a kind of national nervous breakdown. The worst spasms are yet to come. And yet, and yet…the British economy is in a much better state than the doomsters and gloomsters imagined. As the Governor of the Bank of England pointed out yesterday, we have full employment, wages are growing and people are behaving prudently. There has been a political crisis but never an economic one. In fact, the UK, on many metrics, is looking much more resilient to an economic shock than the eurozone.

No-deal is now probable – though the aftermath scenarios are still out-of-focus. Shortly, I’ll suggest how to construct a relatively risk-averse no-deal portfolio and suggest some tactics that investors might use even to profit from no-deal. (Get out of Germany – fast! And invest in UK biotech which will be freed from its European ball and chain. Also, I’m getting interested in undervalued UK agricultural land again – and Sir James Dyson agrees with me.)

I never pretended to be a Boris supporter. In fact, I supported the idealistic Rory – and then the reticent Jeremy. But since HMTQ was minded to appoint him our PM, Mr Johnson has made a dynamic start and has imposed his own agenda across government. As James Forsyth writes in today’s Spectator, “his government has clarity about its aim that stands in stark contrast to the May ministry”.


The Johnson premiership is a huge gamble – but then, so was Churchill’s appointment in May 1940. (Churchill was regarded with great dubiety by the Whitehall machine.) If Boris can pull it off, we might all be feeling confident and prosperous – even euphoric – in the long hot summer of 2020, enjoying the barbeque as never before.

On the other hand, there is the significant risk that the Corbynistas (with the help of the Tartan Army) might take over the barbeque, and then ignite it – and grill us all along with the burgers…

***

Stop Press. The Lib Dems have won the Brecon & Radnor by-election thanks to the Brexit Party which split the Leave vote. This reduces the government’s working majority to one. According to The Independent[i], up to six Tory MPs are in thinking of defecting to the Lib Dems…Mr Johnson could soon be presiding over a minority government. No summer holiday for him, then…

[i]See: https://www.independent.co.uk/news/uk/politics/tory-mp-defection-lib-dems-brexit-boris-johnson-majority-phillip-lee-a9030576.html