London - The UK economy will be paying the price for years to come if Prime Minister Theresa May fails to secure a Brexit agreement with European Union leaders.
Leaving the bloc in March 2019 with no deal in place could result in a 6.5% hit to GDP by 2030, according to research published by Bloomberg Economics analysts Dan Hanson and Jamie Murray. That’s compared with projections for growth if the UK voted to stay in the EU, though an agreement that helps trade would soften the blow.
Britain had a breakthrough in negotiations late last year, but many thorny issues remain unsolved. And while May insists a wide-ranging free-trade agreement is the government’s goal, there’s a distinct possibility talks could go off the rails.
The prime minister took a knock this week at home with a disastrous cabinet reshuffle that saw some ministers refuse to budge from their positions.
Bloomberg Economics calculations show a Canada-style trade agreement would be better than no deal, though that would still leave the economy smaller than if the UK stayed in the bloc. With the process soaking up resources, Chancellor of the Exchequer Philip Hammond set aside an additional 3 billion pounds for Brexit preparations in November.
"It’s welcome news that talks will move on to trade this year, but that doesn’t mean the talks will get any easier - if anything, the opposite is true," Hanson and Murray said in the report published on Wednesday.
"The specifics of the Irish border or financial services being excluded from any trade deal are probably the most likely triggers for a breakdown at the negotiating table."
If the UK fails to secure a deal and starts to trade with the bloc under WTO rules upon leaving in March 2019, the pound would depreciate, and currency effects and tariffs would push inflation to 3.6% by the end of the year, according to the BE analysis. There would also be a hit to jobs, consumption and investment.
Weaker sterling would help exports, but it wouldn’t be enough to prevent the economy from "slowing sharply," the analysts said.
Andrew Goodwin, an economist at Oxford Economics, attributes a 30% chance to the UK leaving with no deal - the "cliff-edge" scenario - and 40% to it concluding a goods-only FTA, similar to the EU’s agreement with Canada.
The economy’s reaction to the 2016 referendum decision provides some clues as to how growth might be affected by a no-deal scenario, according to Hanson and Murray. For one, consumers proved more resilient to faster inflation, borrowing more to fund spending. That could happen again if talks break down, though households will be starting from a more stretched position.
The Bank of England’s response to the 2016 vote - providing additional liquidity to the financial sector and cutting interest rates - proved to be another support at the time, and it would likely step in again in a crisis.
The central bank is currently basing its forecasts on an orderly withdrawal. But officials have voiced concerns that Brexit is already acting as a shock to supply, and could continue to do so.
"The shape of the shock is clear enough, but the magnitude is less certain," Hanson and Murray said. "In the medium-term, the influence on the economy will depend on how less openness affects productivity."* Sign up to Fin24's top news in your inbox: SUBSCRIBE TO FIN24 NEWSLETTER