The UK has voted to leave the European Union but even before all the votes were counted volatility made its way across Asian markets and to Australia.
The S&P ASX200 has finished 3.3% down at the close, wiping off approximately $50 billion in value, while the Australian dollar has dropped 3.4% to 73.4 US cents.
Richard Holden, Professor of Economics at UNSW says the volatility is likely to continue at least for another 24 hours.
“We could see volatility, perhaps not as extreme as the current levels, for a really extended period of time,” Professor Holden says.
One of the major factors in this will be how affected UK banks and therefore Australian banks will be by this decision, as they rely on short term funding for their operations.
“If those markets start to dry up and there’s uncertainty about their funding getting rolled over, one day to the next, then that’s when things can go pear shaped within an incredibly short period of time,” he adds.
The position of hedge funds, banks and other financial institutions in betting on currencies in over-the-counter markets (not regular currency markets) in times like this, also adds to the uncertainty.
“Basically we don’t know, what we don’t know and suddenly there’s a liquidity crunch and someone gets into trouble and that has flow-on effects like we saw in 2008,” Professor Holden says.
He also warns that a drop in the Australian dollar shows that money could flow out of Australia and back to the UK as financial institutions there change their positions.
In the longer term, Brexit could affect the way Australian companies trade with the European Union through the UK.
“All of a sudden that’s going to be more complicated, it’s going to have to go through under some new trade agreement and we know that a series of bilateral trade agreements are always more complicated and have more nuance than large multilateral trade agreements,” Professor Holden says.
All this comes as Australia goes into the last week of an election campaign and this volatility will keep economic management top of mind for Australian voters.
“I don’t think either side of politics in Australia has an exclusive right to say they are going to be the best economic managers, I guess we’ll have to wait and see about that as well.”
Britain’s decision to leave the European Union has opened a fundamental crack in the western world. Australia’s relationship with the United Kingdom is grounded in the UK’s relationship with the EU.
Given Australia’s strong and enduring ties with the UK and the EU, the shockwaves from this epoch-defining event will be felt in Australia soon enough. Most immediately, the impending Australia-EU Free-Trade Agreement becomes more complicated and at the same time less attractive.
The importance of Australia’s relationship with the EU tends to get under-reported in all the excitement about China. We might ascribe such a view to an Australian gold rush mentality. Nevertheless, Australia’s trading ties to the EU are deep and strong.
Such ties looked set to get stronger. In November 2015 an agreement to begin negotiations in 2017 on a free-trade deal was announced at the G20 summit in Turkey. Trade Minister Steven Ciobo said in April 2016 that an Australia-EU free trade agreement:
… would further fuel this important trade and investment relationship.
When considered as a bloc, the EU consistently shows up as one of Australia’s main trading partners. Consider the statistics below:
in 2014 the EU was Australia’s largest source of foreign investment and second-largest trading partner, although the European Commission placed it third after China and Japan in 2015;
in 2014, the EU’s foreign direct investment in Australia was valued at A$169.6 billion and Australian foreign direct investment in the EU was valued at $83.5 billion. Total two-way merchandise and services trade between Australia and the EU was worth $83.9 billion; and
the EU is Australia’s largest services export market, valued at nearly $10 billion in 2014. Services account for 19.7% of Australia’s total trade in goods and services, and will be an important component of any future free trade agreement.
This is all well and good. But when not considered as a bloc, 48% of Australia’s exports in services to the EU were via the UK; of the $169 billion in EU foreign direct investment, 51% came from the UK; and of Australia’s foreign direct investment into the EU, 66% went to the UK.
You get the picture.
The UK was Australia’s eighth-largest export market for 2014; it represented 37.4% of Australia’s total exports to the EU. As Austrade noted:
No other EU country featured in Australia’s top 15 export markets.
In short, the EU is not as attractive to Australia without Britain in it.
But the Australia-EU-UK relationship cannot be reduced to numbers alone. It also rests on values shared between like-minded powers.
Brexit represents the further fracturing of the West at a moment when that already weakening political identity is in relative decline compared to other regions of the world, notably Asia (or more specifically China).
EU-Australia relations rest on shared concerns such as the fight against terrorism advanced through police collaboration and the sharing of passenger name records. The EU and Australia also collaborated to mitigate climate change at the Paris climate summit. And they work for further trade liberalisation in the World Trade Organisation – but don’t mention agriculture.
Without the UK, these shared political tasks become harder.
Clearly, Australia-UK relations rest on a special historical relationship. However, it has seen efforts at reinvigoration, as British governments buckled under the pressure of the Eurosceptics among the Conservatives.
Beyond everyday trade, historical links have been reinforced through the centenary of the first world war and the UK-Australia commemorative diplomacy that has come with this four-year-long event.
Cultural ties are most regularly and publicly affirmed through sporting rivalries such as netball, rugby and most notably cricket. Expect these ties to be reinforced as the UK seeks trade agreements and political support from its “traditional allies”.
For those with British passports, there will be a two-year period of grace as the UK negotiates its exit. After that, it will be quicker to get into the UK at Heathrow, but this might be small consolation for the loss of a major point of access to the EU.
The vote to leave is a major turning point in Europe’s history. It marks a significant crack in a unified concept of “the West”. It is not in Australia’s interests.
It’s time for Australia to make new friends in Europe.
For those yet to see this inspiring piece of economic policy/politics from Australia, or perhaps you just want to see it again (for some reason), here is the Australian 2016 budget being delivered by Scott Morrison.