A Pact Against Brecession How We Can Prevent Contagion

The British vote has shocked the financial markets, and it also threatens to cripple the German and European economies. What Europeans need now is an emergency stimulus package to fight potential contagion. The clock is ticking.

Global shock: A video screen in Mumbai, India, shows news of Britain's vote to leave the EU on Friday.
AFP

Global shock: A video screen in Mumbai, India, shows news of Britain's vote to leave the EU on Friday.


It's a matter of course that markets tend to exaggerate and go into panic mode, even when their reactions bear no resemblance to reality. The thing is: What we saw in the financial markets on Friday morning, after the news broke that the British want to leave the European Union, could be a fairly accurate reflection of the economic threat that not only the British, but also the Germans, face in the coming months.

Ring the alarm. Europeans should quickly figure out whether, as a first step, they assemble an emergency package to stop an imminent downward economic spiral, before it can pick up speed. This is best done in cooperation with the British, with their reputation of pragmatism. Otherwise, the ridiculous decision by a small majority of the Queen's voting subjects could soon mean that a lot of people will lose their jobs again in Germany and in other countries.

It is less an issue of the British possibly having to pay a little more in the future to gain access to the European single market. Or that we may need visas again to travel through the Channel Tunnel. All of this would cost money, but it's unlikely it would throw the economy off track.

The acute danger is that everyone involved now feels thrown into a period in which it will remain unclear, for months or even years, under exactly what conditions business will be conducted:

  • whether or not duties will increase;
  • whether there will be entirely new trade agreements with third countries;
  • whether EU standards will be replaced by entirely different, British standards;
  • and how many foreign (EU) workers will be allowed into the country and be available to the economy in the future.

And all of this under a likely Prime Minister Boris Johnson, who has just demonstrated that he is prepared to ignore common sense in favor of pure populism. He's the British version of Donald Trump.

The frightening thing is that there are some indications that, despite all studies and debates in the last few weeks, a large share of company executives haven't even made adjustments for the Brexit scenario -- and are now as unprepared for the outcome as players in the financial markets. If the options had even been partially anticipated, the British pound would not have slipped to its lowest level since 1985. And the DAX, Germany's benchmark share index, would not have lost 10 percent in early trading. All of this would have already have been priced in, to use the vernacular of the financial markets.

High Risk of Recession

It isn't hard to guess how UK-based companies with international operations will initially react: They will put any projects and investments that are not absolutely necessary on hold for the time being, until there is some clarity over what happens next. If this means that only a tenth of planned investments are suspended until further notice, experience has shown that this will be enough to catapult an economy into a recession, including a rise in unemployment. This isn't necessarily going to happen, but the risks are now very high following Brexit.

The real problem is that the same logic also threatens to strike in Germany and the rest of Continental Europe, although likely to a lesser extent. This comes at a time when the next populists are already touting ridiculous proposals almost everywhere, romancing about leaving the EU or the euro, a time in which the euro crisis has already created a deep sense of insecurity over the future union.

The current condition of the German economy suggests the potential economic impact of such a state of uncertainty. There are plenty of reasons that companies should be making significant investments again. Financing is more attractive than ever, interest rates are near zero, balance sheets have been cleaned up, profits are at historic highs and demand is growing. Nevertheless, the German economy is investing less in the future today than it was eight years ago, before the financial crisis began. There are few explanations for this other than that no one really knows what will happen in a few years -- and whether and how the euro zone will work in the future.

In 2012, European Central Bank (ECB) President Mario Draghi (fortunately) made it clear that he would do everything in his power to preserve the euro in its current form, which is the proper thing for a central bank to do. The problem is that the German government is demonstrating, with unbelievable negligence, that this cannot in fact be taken for granted -- especially after Finance Minister Wolfgang Schäuble broke a taboo last summer, when he said he would not rule out the amicable ejection of a member of the euro zone. Since then, every investor in Europe has been plagued by the uncertainty over whether the euro will still be in use in a country in which that person wishes to invest -- or whether that country will perhaps return to its national currency. There's probably no better way of inhibiting investment.

If this is true, the results from Britain are also moderately disastrous for Germany. The approaching Brexit will contribute to increasing investment risks, even as a self-fulfilling prophecy. The more companies hesitate, the more demand fluctuates -- and, as a result, the actual reason to spend more money on new machinery and facilities. This is a dangerous downward spiral that could soon lead to higher unemployment.

Europeans Should Up the Ante

It is now all the more urgent for everyone involved to clarify, as quickly as possible, the status the British will have in the future; to demonstrate, if possible, that there should be no further countries leaving the EU; and to ensure that the hesitation and downward spiral in investing doesn't gather momentum.

There is a tool that has an effect on investors in such times of waiting and hesitation, even if it sounds a little technical. It is the option for companies to accelerate depreciation of their investments for a certain period of time, enabling them to save money. This tool -- an accelerator -- provides benefits to companies, as long as they make the decision quickly.

After the 2001 US recession, this helped encourage hesitant companies to unblock a number of projects -- and end the recession. In Germany in 2006, Chancellor Angela Merkel used the same tool to accelerate investment and stimulate the economy after years of stagnation. Now it is all but forgotten. A similar program is currently being used in France, which is seeing a higher rate of new investment than Germany. The trick could work miracles throughout the EU, with relatively little financial commitment, and it could avert a post-Brexit crash.

If Europeans want to do a good thing for their union, they should up the ante. Here's an idea: Send every citizen of the EU (in the countries that are still members) a check that can only be used to purchase climate-friendly products, from low-CO2 refrigerators to solar panels to electric cars. That too could make a significant contribution to avoiding a sharp drop in consumption in uncertain times -- and perhaps to appease those who are currently skeptical about the EU.

Obviously there will be plenty of issues to resolve in the near future, including whether and how the EU should proceed after Brexit. We'll get back to that. Before then, after the shock of June 24, 2016, our main objective should be to avert the acute risk of an economic crash. And perhaps this will even create a new sense of unity among EU countries.

If those in charge of the EU manage to support the economy and ensure that their efforts are felt by most people (in the form of a check), this could very well be a first step in refuting the notion that Europe represents nothing but bureaucracy, the standardization of things that make little sense and the constant grousing over the fiscal policies of other nations. The clock is ticking.

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bilgeman 06/25/2016
1. This is why BrExit happenned
So, let's get this straight...the EU in Brussels should send every EU citizen a check of Other People's Money with a mandate that they can ONLY "buy" certain EU Brussels-approved products with it? Why not just have the EU in Brussels buy the refrigerators and other approved goods and send it to their minions directly? Why get the banks involved at all? The BrExit happened because the EUrocRats listened to imbeciles like this fool and ignored the people who actually pay the taxes and have to comply with their idiocy. A good and pragmatic government that isn't hostage to interbred ideologues ensconced in the PermaJobs of government and media does not need to worry about secession votes, and when it loses one, it would best serve its own cause by listening to the people that threw it out of power and then changing its conduct.
eks2040@aol.com 06/25/2016
2. BREXIT... and now Panic?
The UK has decided, the markets reacted with some nervous flutter, stocks recede a bit more than they had gained in the past few weeks... and for political reasons politicians in Brussels and the Media call it "Panic". The world has not changed, the UK has 2 years for adjustments, and if the remaining EU countries remain rational and not act vindictively, then the transition can/will be managed without panic. There should be no call for "Emergency Action" as the ECB has already pumped many EU Billions into the market.. and THE BANKS ARE SWIMMING IN MONEY while negative interest rates make life more difficult. Worthwhile projects and transactions will be funded also in future... more give-away programs should be avoided and not up for consideration. Karl
dmhedley 06/25/2016
3. sour grapes
"Otherwise, the ridiculous decision by a small majority of the Queen's voting subjects could soon mean that a lot of people will lose their jobs again in Germany and in other countries." That sort of arrogant schoolboy comment is exactly why we want to leave. Germans will lose their jobs because of this tedious repetative mantra of "ever closer union"
timoe14 06/26/2016
4.
"Send every citizen of the EU (in the countries that are still members) a check..." This kind of thinking is exactly why they left.
benayling 06/26/2016
5. Brexit
The internal Conservative politics in UK has divided the UK before the Brexit vote, when they sought to undermine Labour in Scotland and take a marginal win in past Election. This has followed on into the Brexit vote, also fuelled by diss-information in UK press who seek to sell papers. The question is why did this have so much leverage. I believe this is because people through Austerity and bad governance from both UK and EU. The world is seeing attraction the Left and the Right resulting in volatility that marks the next chapter. If whatever side feels it is not heard in democratic accountability and sovereign governments are not strong in their national governance, this is what happens. Eu decisions should be in solidarity on Environment and trade, but they have over legislated of other matters and taken what was a 33% protest vote to 52% for marginal Brexit. Our true nationality is mankind but sovereign governance is essential in the EU future. UK has no real strong opposition and governance at the moment so total diss-array, but whilst the short term is so tough, it will force a brave democratic change for good. I am surprised by UK decision for out and i would also note those that speak in EU for Britain rarely represent UK as they are often the rejects of parliamentary cycles are rightly disliked for they views here and there too (they barely have a seat in our parliament). It is a shame i a for my part will always look out for my EU brothers and sisters whatever as our diversity is not a weakness. For me the guts of this is democracy is needed to maintain long term peace in Europe and the Western world. Don't cancel the milk this was a surprise, but may be for the best.
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