Keep Calm

The Rational Response to Brexit

The Brexit vote was disappointing, for the reasons I wrote about in my earlier post. But, what’s done can’t be changed. What’s the best way to respond to it?

It’s hugely tempting to accuse the Brexiteers of being racist or stupid. We share with glee how some admit that they were conned by Farage and would have voted differently. We paint nightmare scenarios of how bad a post-Brexit world will be. But, this won’t change anything. If your house burns down, don’t blame the fire service for not responding faster, or lament how bad your life will be without your house – you build it back up again. It’s the same here. A post-Brexit world will only be disastrous if we allow it to be. Instead, every single person has a role to play in safeguarding the UK’s future. We should respond to Brexit like any recession or bad event. 9/11 was a far greater disaster than Brexit; those responsible had far worse motives. Yet, most of the world responded not through hatred, but through solidarity, and the economy recovered sharply in 2003-2008.

1. Negativity Is Self-Fulfilling. And So Is Positivity

Patients diagnosed with a terminal illness sometimes beat it through mindset. Leicester City or Iceland punch way above their weight due to self-belief. It’s the same with the economy. John Maynard Keynes referred to this as “animal spirits”, others call it “business confidence”. If companies stop investing, if skilled workers emigrate, if consumers stop spending, then we will indeed have a nightmare scenario – but brought on by our own doing, not by Brexit.

I’m not asking Brits to drink Kool-Aid and think things are rosy when they’re not – instead, to take notice of the many rational reasons to be optimistic. Before the vote I outlined here the sensible reasons for Brexit (which were sadly lost in the negative campaigning). A short summary:

– The EU can’t slam the UK with the worst trade deal possible. Under World Trade Organization rules, the UK has “most-favoured-nation” status with the EU – i.e. is entitled to the best deal that the EU gives to any other country.

– The UK has 2 years to negotiate a trade deal, and will benefit from the Single Market until then. There will be no sudden impact on trade.

– The UK can start negotiating trade deals with many countries the EU never had trade deals with.

– There are many other reasons firms invest in the UK. E.g. London is uniquely attractive due to the English language, low taxes, low regulation, skilled labour, expertise in accounting and law.

– The UK need not turn anti-immigration. It can still welcome immigrants, but adopt a policy tailored to its own requirements, rather than the EU’s (e.g. restrict low-skilled workers and attract high-skilled ones). A progressive policy can keep EU nurses in the UK and not harm the NHS.

– The UK can participate in research funding programmes (e.g. Horizon 2020) by buying back into it, as Norway and Israel do.

2. Brexit Provides Opportunities

Both the pound and stock market tumbled immediately after the result was announced. This gives us the opportunity to buy equities cheaply, or pounds cheaply and invest the money in the money in the UK. I’m not saying that you should necessarily invest right now – wait until things stabilise – but investment opportunities well be more attractive than previously.

For those without spare cash to invest, don’t panic and cash out because markets have fallen. Stock prices depend on (1) expected return and (2) risk. The stock market downturn has been largely due to uncertainty as to what’s next (2) rather than conviction that the post-Brexit world will definitely be disastrous (1). Things are likely to rebound once a new PM is elected, trade deals are made etc. On 24 June, the FTSE 100 plummeted 8.7% immediately after Brexit, only to recover 5.5% by the end of the day, and actually ended the week higher than it started. One caveat is that the FTSE 100 contains many multinationals which will have benefited from the decline in the pound. The FTSE 250 comprises predominantly domestic companies, and also exhibited a rebound, but it was more modest. The initial fall was 9.2%, and it subsequently recovered 2.6% by the end of the day.

3. The Game Hasn’t Changed

Someone on Twitter said he’s just graduated and about to start his career, and asked me what he should do differently post-Brexit. The answer is nothing. Promotion and relocation opportunities exist as they did before. The way to get promotion (hard work and initiative) is the same as before. Skilled workers can get visas and relocate. I spent 10 years in the US surrounded by others on student or worker visas like me.

I joined Morgan Stanley two months before the horrible tragedy that was 9/11. There were four rounds of major cuts in my two years there. But, this again provided opportunities. As a first-year analyst, I had no Associate and so worked directly with a VP and an MD. I went to meetings that I wouldn’t have had a hope of going to if the economy was booming and we were well staffed. Virtually any analyst that stayed for the full three years was promoted to Associate afterwards, because we had so few Associates due to the culls.

The game hasn’t changed for business either. The business environment will be harder if we have trade barriers. But, businesses need to make their products and services so attractive that consumers will buy them despite import duty. And this is entirely possible – most household products (Toyota, Apple) are from outside the EU.

Businesses and employees need to work hard and work smart. But, they needed to do that before Brexit anyway.

4. Keep Engaged

One of the positives of the referendum is that many people who would not normally be interested in economics or politics have been highly engaged. Keep it that way, long after the referendum has blown over: see point 1 below.

WHAT HAVE WE LEARNED?

It’s useful to look back at the whole referendum debacle, not to blame how it was conducted, but to learn lessons for the future. Here’s three I took away:

1. Financial Literacy is Key

Many Remainers complain that Brexit was driven by uneducated people who didn’t know the facts. Well, the solution is then education, not blame. We should teach financial literacy and basic economics in schools (starting before A-level), and even for adults. It’s the absence of basic economic training that allowed Farage and co to delude millions. Economics is often seen as the “dismal science”, and only necessary for those who want to become evil bankers. But, it’s key to ordinary folk being engaged in what affects their own country. The effects extend far beyond voting – predatory lending by payday lenders, and mis-selling of Payment Protection Insurance, exploit financial illiteracy.

2. Democracy Is Overrated

The thinking behind referendums is well-intentioned – to give the public a say. And, referendums may well work for decisions that are largely opinion-based (e.g. gay marriage), but not for complex ones where a deep understanding of the facts is important. We’d never hold a referendum over the government’s health policy as that should be led by scientists. But, for some reason, for economics, everybody believes that they’re an expert, when economics is as complex as medicine.

This applies far beyond national decisions. On the same day as the referendum, I was debating executive compensation with Sir Vince Cable. He said, were he still in power, he’d require employees to be consulted on CEO pay packages. The intent is benign, but the solution is chaotic. CEO pay is an extremely complex issue which extends far beyond the level of pay. Should we give stock or options? Should they vest all at once, or over time? What’s the optimal vesting period? Should we index it to industry performance or market performance? Not even boards of directors understand all these issues, it’s unlikely that the average employee can.

3. Facts First, Then Opinion

The referendum highlighted how knowledge of the facts is essential to make correct decisions. This may seem obvious, but is often under-appreciated. Going back to CEO pay (just because I know this topic well), Sir Vince was arguing that there is no relation between pay and performance, perhaps because there was one example of a CEO who was well-paid despite failing – but that’s simply untrue when looking at firms in general. Forming policy based on a couple of outliers is just as bad as saying that all immigrants are scroungers because the Daily Mail reported one case of a scrounging immigrant. The media will only report the most egregious cases because this attracts attention. A case of a hard-working immigrant, or a CEO paid for performance, isn’t news, just like “London Bridge Failed To Collapse Today” isn’t a headline.

To form an opinion, you need to consider all the evidence, not just one example. And that’s the role of academic research. Academics are often accused of being disconnected. And, we certainly know less about one particular company than a director or even employee at that company. But, this disconnection is a strength, rather than a weakness, because it allows us to study thousands of companies. Similarly, whatever decision we make – on immigration, education, or health – should be based on studying thousands of immigrants, pupils, and patients. With apologies to Jane Austen, rhetoric may incite short-term Pride and Prejudice, but it’s data that drives long-term Sense and Sensibility.
12 replies
  1. patrick
    patrick says:

    Experts have corrupted health advice for 50 years – academics have given false readings in their studies on fat/sugar/carbohydrates giving rise to an obesity epidemic. Why? because their research funds came from the industry they were investigating – read the case is South Africa against Banting, read Dr. Malhotra on diabetes.

    No wonder belief in experts has evaporated, the public is right to be sceptical.

    Reply
    • Alex Edmans
      Alex Edmans says:

      Thanks for your comment Patrick. Your comment is true for science. However, for finance and economics research, the vast majority of research isn’t funded. Unlike science, which requires a lab, most of our research doesn’t require anything. Many econ/finance academics now make their data available for verification. Moreover, the issues that I’m referring to aren’t complex ones (such as what causes obesity), but simple fact that can be checked. Some are just in the law – e.g. that a Most Favoured Nation clause means that the UK can’t get worse terms from the EU in a trade deal, so there’s no ambiguity. Others are simple facts that can be checked, e.g. that Cornwall receives £60m a year from the EU (which apparently few knew about before the vote). This is not about whether A causes B, which is indeed hard to check since there are so many other potentially intervening variables.

      Reply
  2. Gemma Watts
    Gemma Watts says:

    Thank you-thank you for writing such an eloquent piece which puts forward the thoughts of some us uneducated narrowminded bigots! I am none of those things and I believe this change can truly bring about something amazing for us all and I hope, in time, we can prove this.

    Reply
  3. JStorey
    JStorey says:

    I think this misses the point of many concerns. The return of right -wing politics is a serious nod worrying prospect. Another issue is the failure of all political parties to recognise the impacts of the recession on poorer and marginal communities.
    The U.K. needs those ‘low skilled’ workers.
    It’s not clear on what basis the UK would be able to negotiate such favourable trade deals. Small fish in a very big pond comes to mind.

    Reply
    • Alex Edmans
      Alex Edmans says:

      Thanks for your thoughtful comment. The UK is indeed a small fish, but so are Norway and Switzerland, and they have negotiated trade deals.

      The rise of right-wing politics is indeed a concern, but manifested far less post-9/11 than people feared. Right-wing politics (e.g. Trump, UKIP, Le Pen) were rising anyway; Brexit might actually calm it down if they feel their concerns are now being partially addressed.

      Totally agree about the failure to care for the marginalised. Again, the silver lining of Brexit is that it may highlight this issue. As one of my friends wrote (rather bluntly) on Facebook:

      . There`s something about prosperity and how it needs to be shared. I`m sure there`s an animal psychologist out there who will explain that if some monkeys have a lot of bananas but don`t seem to share them, the other monkeys will take a big XXXX all over the bananas even if that means fewer bananas for everyone

      Reply
      • James
        James says:

        Hi Alex, comment re: bananas is v relevant. Declining PnL in London plus withdrawal of EU funds won’t help poorer areas. Northern Powerhouse and education reforms should have started 40+ years ago.

        Reply
  4. Daniel Palmer
    Daniel Palmer says:

    Alex, remember that the FTSE is denominated in Sterling! Doesn’t look so cheery in USD over the course of last week. As many of the FTSE constituents are international businesses, you would expect their stock prices to go up with such a fall in the pound. Danny

    Reply
    • Alex Edmans
      Alex Edmans says:

      Good point Danny, thanks. The FTSE 250 is more UK-based, and did also rebound at the end of Friday (although the overall fall was indeed higher than FTSE 100).

      Reply
  5. Nishant Mahajan
    Nishant Mahajan says:

    Thanks Alex. You mention CEO’s are in fact paid for performance and it works. Could you kindly share your (or other) research on the subject that supports this view perhaps? As you very well know the research on this can vary depending on what you include in compensation and how you define performance.

    Also I’m not sure I personally agree with the idea that employees and CEO’s (incidentally also employees, not owners) need to play by different rules. You suggest CEO pay is so complex that your average Joe might not be able to understand it fully and so shouldn’t be consulted on it. I agree its complex. But not just for the average Joe, it is so for investors, Boards and CEOs too (and I can tell you that from experience). But perhaps that’s the problem. Does it really need to be so complex? Also (maybe more importantly) CEOs are the captains of their ships. If they have arrangements that are driven by a different set of rules (long-term incentives, for instance), which are public knowledge, I’m not sure they are going to be as inspiring as a leader as they perhaps need to be.

    In my view, pay policy and design should be consistent for all employees as a group, not CEO vs the rest (in terms of structure not value). Whether or not that means including staff representatives (NOT union reps) in the process, or creating a structure that doesn’t create a divide (and therefore the need for their inclusion) is something that can be debated. And yes, John Lewis aren’t the only success story where this is done well.

    Reply

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