International Macroeconomics: Brexit's Impact on UK Economy

This report provides an in-depth analysis of the economic consequences of Brexit on the United Kingdom. It begins by examining the effects of Brexit on the UK business cycle, exploring the cyclical fluctuations in the economy and the drivers of these fluctuations. The report then investigates the impact of Brexit on the prospects for UK public debt, considering both the mechanical and national income effects. It analyzes how leaving the EU affects public finances, including the implications of reduced contributions to the EU budget and changes in immigration policies. The analysis covers the short-term and long-term effects on economic growth, employment, and trade, considering the complexities of new trade agreements and currency fluctuations. Overall, the report assesses the multifaceted impacts of Brexit on the UK economy, providing a comprehensive overview of the challenges and opportunities.

Running head: INTERNATIONAL MACROECONOMY
Brexit and UK economy
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Part 1
Consequences of Brexit for the UK business cycle
‘Brexit’ is the popular term for one of the biggest events in the economy of UK in recent
times, i.e. Britain’s exit from the European Union. More than 30 million citizens of UK took part
in a referendum on June 23, 2016 and 51.9% of people voted in favor of UK leaving the EU. The
immediate effect on the country was that, David Cameron stepped down from his position and
Theresa May became the new Prime Minister of UK (Business Insider 2017).
Theresa May announced that Britain would have a hard Brexit. She has triggered the exit
of Britain from EU from 29th March, 2017 (BBC News 2017). It would take two years for formal
negotiations. Hard Brexit refers to giving up the complete access of the single market of EU and
total access of customs union along with the European Union. The hard Brexit would give the
full control over its international borders, making new deals for trade and apply its own laws on
its own territories. However, it is too soon to predict an impact of Brexit on the British economy.
The impact of EU referendum has provided the experts a case for studying the behavior
of GDP and economic growth when it is exposed to a negative shock, obtained from political
uncertainty. The immediate effect was on fall in the share market and in the value of pounds,
15% against the USD and 10% against the Euro. The economy also shrank 0.2% due to the
instability in the market. In the current period, it was predicted that the economy would go down
very rapidly. However, surprisingly, the economy grew 1.8% in 2016, only after 1.9% of
Germany. The growth slowed down a little in 2017, but it is still expanding. Inflation stood at
2.6% but unemployment fell to 4.5%, lowest in the last 42 years (Market-inspector.co.uk 2017).

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Once it is implemented, the UK exports would be hit hard. EU was the biggest trade
partners of UK. Once Brexit is implemented, pound might depreciate further. This would make
exports cheaper and imports costlier. This would lead to more exports from UK and less import
to UK. Production in the country will increase. The exchange rate would go up for UK.
However, due to new trade agreements with EU, UK might have to pay more tariffs on exports.
This would have a negative effect on the UK businesses. In 2015, UK exported goods of almost
£133 billion to the EU, and this was half of total global exports of goods. It is predicted that, if
new agreements are not made, UK might face a loss of almost £4.5 billion a year due to
increased tariffs of 10%. This would also make the businesses less competitive in the market.
The loss of access of the single market is estimated to bring a loss of almost £75 billion. The
unemployment is also estimated to increase to 6.5% once UK finally leaves the EU, as the
migration laws would change (Allen and Scruton 2017).
Cyclical fluctuations in the economy refer to the alternate periods of expansion and
contraction of the economy, lasting up to 18 months or longer from peak to the trough of the
economic cycle. During expansion, the aggregate demand increases and falls during contraction.
The businesses react to contraction by cutting the costs, employment, and delaying investments.
Drivers of cyclical fluctuations are attributed to level of aggregate demand, level of labor supply,
exports and imports, and demand and supply side shocks (Miles, Scott and Breedon 2012). UK
has been going through economic contraction for the past few years. Till Brexit, UK was
following the rules of customs union, trade rules with EU and had access to the single market.
There was mobility of labor across the countries. Brexit would hamper those. Britain would have
to enter into new trade agreements with EU as well as with rest of the world as an independent
nation. The aggregate demand for the British goods is expected to rise in the global market. The

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migration laws would be changed and people would lose the free movement among the
countries. This would affect the labor supplies in UK and EU. Hence, employment would be
affected.
The Brexit issue has made the pound volatile. The currency fell just after the referendum,
recovered after that, and fell again for the fear of hard Brexit. When the currency is depreciated,
the exports would become cheaper, thus, aggregate demand for goods would increase in the
global market. This would lead to a rise in domestic production, increasing efficiency of the
domestic producers. Employment in the economy would increase initially. With more products
available in the domestic market, the inflation would fall. Thus, the economy would expand. The
weaker pound would increase the import cost. The price for raw materials and energy increases
after Brexit referendum due to inflation, and this would make products costlier within the
country also. Although the exports are expected to rise, the fall in imports are higher and the
trade deficit is expected to increase initially unless the economy becomes stable (Business
Insider 2017).
Feedback effects refer to the procedure when the output of a system is used as an input of
the other, in the form of cyclical loop of cause and effect. For Brexit, it can be said that, there is
feedback effect in the economy. The economy is expected to grow as an independent nation in
the world market. On one hand, the citizens are rejoicing this fact of taking its own decisions as
per the trade rules of WTO. This is definitely a positive factor for the economy as this would
boost the domestic production. On the other hand, the uncertainties of the system and new rules,
lack of flexibility in labor migration, and increased tariff, the business and the economy would
be hit hard.

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Policies need to be made for new trade agreements and to make the pound stable.
Monetary policies need to be formulated to make the interest rate, inflation rate and exchange
rate stable. UK should appreciate the currency so that exchange rate improves. The interest rate
should be increased to lower the investment demand and thus, the spending would be reduced,
level of money would be less in the economy and aggregate demand would fall. The level of
inflation would go down in the economy.
Part 2
Impact of Brexit on the prospects for the UK public debt
There are effects of Brexit on the public debt of UK. However, the precise impacts are
still too early to decide. There are two effects on the public debt of EU, namely mechanical and
national income effect. Leaving EU would lead to strengthening of the public finances as the net
contribution would fall. Furthermore, a rise in national income would improve the public
finances of UK after it leaves EU.
UK had to contribute a certain amount to the annual budget of EU. In 2013 and 2014, UK
contributed 1% of the GDP, almost £18 billion and £13 billion in 2015. Net contribution
amounted to almost £8.5 billion per year. After Brexit, UK do not need to contribute this amount
to the EUs budget, and thus, this huge money would be saved. This would improve the public
debt in the medium run. This amount of money could be used for developmental purposes in the
country. The level of public debt would be reduced too. The contractionary fiscal policies of UK
should be implemented, so that, the government does not need to borrow much from the public.

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It helps in economic growth in the short and medium run. Rising public debt ratio leads to slower
economic growth. When the contribution to the EU stops, it is expected that the public debt ratio
would improve in the country, influencing faster economic growth.
The impact of Brexit in the long run could be on the population along with economic
growth. The issue of immigration has been a topic of debate in UK even before Brexit happened.
The UK’s Office for National Statistics showed that approximately 2.15 million workers from
EU are currently working in UK. It showed that 257000 people came from EU by September
2015, and 273000 people came to UK from outside EU. As it is a prospective market, people
from many countries of EU have been migrating to UK for a long time. Thus, the skilled EU
workers were getting jobs in UK, while the citizens were getting deprived. This is a big problem
in the country. With Brexit in effect, the migration and labor laws would be changed to generate
employment for the citizens. As Britain now has more control over its borders, the immigration
would be reduced through legislations. Thus, this has a long run effect on the economy, culture
and society of UK (Financial Times 2016).
This also implies that more money would be staying in the country if employment of UK
citizens increase and that for the migrated workers decrease. This is a national income effect on
the public debt. As the level of national income would rise in the country, the level of public debt
would fall in the long run.

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References
Allen, K. and Scruton, P., 2017. How has the Brexit vote affected the UK economy? January
verdict. [online] the Guardian. Available at: https://www.theguardian.com/business/ng-
interactive/2017/jan/25/how-has-the-brexit-vote-affected-the-uk-economy-january-verdict
[Accessed 26 Aug. 2017].
BBC News, 2017. Brexit: All you need to know about the UK leaving the EU. [online] BBC
News. Available at: http://www.bbc.com/news/uk-politics-32810887 [Accessed 26 Aug. 2017].
Business Insider, 2017. The economic damage from Brexit has been fast and widespread.
[online] Business Insider. Available at: http://www.businessinsider.in/The-economic-damage-
from-Brexit-has-been-fast-and-widespread/articleshow/53636304.cms [Accessed 26 Aug. 2017].
Financial Times, 2016. Brexit and immigration — the vital questions. [online] Ft.com. Available
at: https://www.ft.com/content/e1f6c0ee-1c41-11e6-a7bc-ee846770ec15 [Accessed 26 Aug.
2017].
Market-inspector.co.uk, 2017. Impact of Brexit on Businesses in the UK. [online] Market-
inspector.co.uk. Available at: http://www.market-inspector.co.uk/blog/2016/10/impact-of-brexit-
on-businesses-in-the-uk [Accessed 26 Aug. 2017].
Miles, D., Scott, A. and Breedon, F., 2012. Macroeconomics: Understanding the global
economy. John Wiley & Sons.