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Brexit: The Irish Question

Just when Ireland thought its troubles were easing, along came the UK vote to leave the EU. At first sight, this is bad news. Indeed, John Bruton, a former Irish prime minister, thinks that Brexit might deal Ireland’s economy an even heavier blow than Britain’s. We are not so sure.

Conventional Wisdom. The orthodoxy is that Brexit will damage the UK economy via three channels – uncertainty, trade and foreign direct investment (FDI). Uncertainty will hurt the UK economy near term as firms and households postpone big ticket spending. Farther ahead, the UK will battle strong headwinds from being outside a free trade bloc more than five times its size. And it will be less attractive for FDI for the same reason. Our rough guess is that UK long-run growth may be say 0.25% a year lower as a result.

Since Ireland is one-eighth the size of the UK in GDP terms and has a population of 4.7m versus the UK’s 66.0m, one can see why Mr Bruton is gloomy. One credible estimate says that Ireland’s exports to the UK could fall 30% in the decade after a hard Brexit and the Irish economy could be 4% smaller than if the UK had remained within the EU.

Unconventional Wisdom. So far, so bad. But there are some positive arguments to be made.

One, the Irish economy is in a good place. Real GDP has grown strongly since 2012 and could expand by around 3% this year; the jobless rate has more than halved over the past five years; inflation is roughly zero; and the current account is in a huge surplus. The old-fashioned “misery” index – the unemployment rate plus the inflation rate – is at a nine and a half year low.

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Two, the Irish economy is now less exposed to the UK economy. For example, the proportion of Ireland’s exports going to the UK has fallen from 50% in the 1970s to just 15% now. Ireland exports nearly as much to Belgium as to the UK!

Three, there will be two years of negotiation after the UK triggers Article 50. This gives Irish businesses a breathing space to plan and take evasive action.

Four, Brexit is an opportunity as well as a threat. Already, there is talk of banks, fund managers and manufacturers moving part or all of their operations to Dublin or elsewhere. Access to the EU single market is a big plus point, especially when involving complex supply chains.

Ifs and Buts. Sadly, life is never problem-free. Ireland also needs to worry about fall-out from the Trump presidency and elections in Europe this year; the banking system remains convalescent; and Brexit raises profound questions over relations with Northern Ireland. In addition, sterling’s 10% fall against the euro since the UK vote has hit Irish exporters, especially in the agri-food sector.

Moreover, Ireland does not have much control over its own destiny. It does not set its own interest rates or control its own currency; it is only one of 27 EU voices in the Brexit negotiations; and it is at the mercy of arbitrary decisions made in say London or Washington.

Conclusions. Even so, we reckon that the pros and cons of Ireland’s outlook are finely balanced. In fact, the resilience of the Irish economy and financial system over the past decade make us optimistic.

And it appears the markets broadly agree. The Irish Stock Exchange Index has rallied by over 20% since its 24th June low and is just 3% below its recent high. Meanwhile, the 10yr Irish gilt spread over bunds is just 70 bps, not far from its average over the past year. The outlook may be uncertain but the financial markets have a positive tone.

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