David Cameron, the British Prime Minister, now looks to have fatally miscalculated in calling a referendum when he did not have a clear lead in the polls. He has now paid for that mistake with his job. Angela Merkel, the German Chancellor, made a catastrophic error in not offering the U.K. more in its renegotiation. An opt-out on free movement of labor, or even an emergency brake on the numbers, would have killed the immigration issue — and won it for Remain. Both share equal blame for what has happened.
Chaos will reign unchallenged on the markets for most of the day, as traders react to an event that they might have planned for but did not really expect. Already the pound GBPUSD, -8.0543% is trading at three-decade lows, while the bench-mark FTSE index UKX, -3.15% is off by more than 7%.
Don’t be surprised if the pound and British equities keep falling for the rest of the summer. For anyone who wants to raise their horizons above the next few days however, the conclusion should be clear.
After the hammering U.K. assets have received, this is the time to buy into Britain. But it is time to sell Europe. The U.K. will soon be on the way to fixing its problems. For the rest of Europe, they are only just starting — which explains why the German and French markets fell almost twice as much as the British one.
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U.K. Prime Minister to Step Down After Brexit Vote (1:35)
Prime Minister David Cameron said he would resign after the U.K. voted to leave the European Union. He said a new leader will be in place by October. Photo: Getty Images
The economic impact of Brexit has been wildly overstated, especially for the rest of the world.
The U.K. accounts for 3.5% of global gross domestic product. Britain’s exports to Europe account for 14% of its economy. So even in the unlikely event that the EU now blocks British exports completely, less than 0.5% of the world economy will be at risk. That is hardly even a rounding error.
Also read: How Brexit horribly blindsided investors, in 5 charts
In reality, the U.K. will work out some form of trading arrangement, and chug on much as before. Some companies will go elsewhere, with better access to the EU market. But some small companies will grow faster with less regulation — and some will be attracted to a more liberal U.K.
Net-net, it won’t make much difference. The political chaos will take time to sort out, and Scotland may yet break away. Yet none of that will prove fatal. The U.K. has had stable government for a very long time. There is no reason that should change now.
It is across the English Channel that the real problems will be seen. It is very hard to be the first person to leave a party. It is a lot easier to be the second. A British exit from the EU will only embolden populist parties in Italy, Spain, France, and perhaps even Germany.
Read: Paralyzed Spain heads for election rerun this weekend: 5 things to know
The important point is this. The U.K. had relatively little reason to leave the EU. It is a successful, prosperous country with record levels of employment. Pretty much everyone who wants one can get a job, even if it is not terribly well paid. And yet, despite that, the pressure of mass migration — and the squeeze on real wages it has created — have persuaded British voters to leave.
Much of the EU is in far worse economic shape.
Italy’s economy is smaller now than it was way back in 2000. Spain has been close to the edge of bankruptcy, and has seen unemployment soar past 20% of the workforce. France is stuck in endless recession, and struggling to maintain competitiveness against Germany. Smaller countries such as Finland and the Netherlands are failing to keep the economies alive within a dysfunctional single currency.
In those countries, people have genuine reasons to be angry with the EU. If the British can get out and the economy survives, as it will, then why not the Italians or the French? It will be harder and harder to make the case for staying.
Read: Globalization loses in Brexit vote, but it’s not the end of the world
The EU needs to change and change fast if it is to keep itself together. So far, it has shown very little ability to do so. If it wants to keep itself together, it needs to understand the scale of the challenge it faces.
It needs to allow temporary brakes on the free movement of people. It needs to negotiate a generous trade deal with the British. It needs to reform the single currency, so that it is either integrated enough to start growing again, or else can be dismantled sensibly. Most of all, it needs to find a way to get the economy growing again — whether that is through structural reform, or a fiscal stimulus, or some combination of the two.
Britain is now the first country to leave, but it certainly won’t be the last. As that pressure grows and grows, and as the euro EURUSD, -2.3541% starts to fracture, the region is going to struggle even more.
By Christmas, the U.K. will have started to resolve its economic future. But the rest of Europe will be dealing with the fallout for years — and that will make it virtually impossible to invest in.