Vanguard economists share their views on Europe

The U.K.’s referendum was the first step in the country’s exit from the European Union and negotiations between the two are expected to continue for some time. Vanguard Global Chief Economist Joe Davis, Vanguard Senior Economist Roger Aliaga-Díaz, and Vanguard Senior Investment Analyst Andrew Patterson discuss projections for the economies of the United Kingdom and the EU as well as the potential implications for the broader global markets.

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Vanguard Perspectives® Noni Robinson: Joe, the U.K. has voted to leave the European Union, but as you and I have talked, that’s really just the first step in this process. Can you tell us what might happen next?

Joe Davis: Sure, Noni. Well, I think again, for context, I think we’re talking about the role in the relationship of the U.K. with the broader European Union this time next year because many of the negotiations that the UK has to have about their future role, should Brexit proceed, will take some time, at least up to two years. So, you know, clearly, we’re going to see economic fallout in the U.K. They very likely will enter recession and that’s a marked change from this time last year when the Bank of England was likely to raise rates at this very moment. We will see some fallout in the European Union. Their economy, which has been growing marginally around 1% adjusted for inflation, should decelerate further. And the farther you move away from Europe, the less the impact is, again assuming financial conditions, which remain fairly solid, remain robust. And that’s a big “if” though because this headline risk is not going to go away overnight. You know, Brexit is not a forgone conclusion, but it’s very likely to occur. But that brings us to the big question that everyone asks, [which] is who, if any, is next in terms of leaving EU.

Roger Aliaga-Díaz: Yeah, definitely. The big risk to the global economy, if anything, is not the U.K. Brexit itself, it’s more the fallout in the rest of Europe. And clearly there are some other anti-European movements brewing in some of continental Europe, which basically present a risk to watch out [for] going forward. Right? Now, the thing is that we have to keep in mind that some of the countries that are members of the euro area—so in addition to being a part of the European Union, they also share the common currency, the euro—they have an extra-hard road to arrive at a decision similar to what the U.K. arrived at last month. So, in that sense, we have to ponder that risk too. It’s less of a tail risk because of that. But clearly, it is an important risk to watch out [for].

Andrew Patterson: And Joe, you mentioned the long-term nature of this. This certainly is with us for some time to come. But investors a lot of times are talking about, “What are the short-term impacts? What are the long-term impacts?” Really, in the near term, it seems more like it’s the uncertainty channel through which this is going to operate. You’re not seeing it passed to the real economy at this stage, not to say that it won’t. But really, there’re more questions than answers.

Joe Davis: Yeah.

Andrew Patterson: This is going to be a long, drawn-out process of negotiations on several different fronts. So, concern of an imminent drop in GDP [gross domestic product], likely in the U.K., maybe not as much in the EU before some of these questions are answered, certainly in the U.S., as well.

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