Morning Commentary: Brexit by Another Name

A daily summary and commentary of events and factors that affect the global markets, with a particular emphasis on the foreign exchange markets.

Brexit by Another Name Share this story: Andrew Kositkun Senior FX Advisor

Since the start of the year through the end of February, the British pound (GBP) has been fairly impervious to the market’s shift toward U.S. dollar strength. As an illustration, data shows that positioning for a weaker U.S. dollar has been reduced by 67% from its peak. Conversely, positioning for a stronger GBP has only pulled back by 20%. This relative resilience is in large part due to the U.K.’s relative vaccination outperformance. However, recent GBP price action suggests that markets are becoming increasingly concerned about the U.K.’s ability to remain an economic island unaffected by the worsening COVID-19 situation in Europe as well as about the potential for a second Scottish independent referendum. Scotland held its first referendum to become an independent state on Sept. 18, 2014, when voters chose to stay part of the U.K. by a 55% to 45% margin. While that vote was expected to settle the issue once and for all, the U.K.’s decision to leave the EU against the wishes of the majority of Scottish voters has raised the possibility of a second vote.  While the U.K. government has rejected the possibility of a second referendum, the Scottish National Party (SNP) put forward a bill that sets out the intention to hold a second referendum within the next two to three years, even without consent from the Westminster Parliament.  As to whether this bill will be passed, thus throwing the U.K. into another constitutional upheaval, much depends on the outcome of the Scottish parliamentary elections on May 6. The SNP has slipped in recent polls, so it is a much closer call as to whether the SNP can regain the outright majority it lost in 2016. Failure to secure an outright majority would damage prospects of the bill passing, but it would not guarantee that the U.K. would avoid the possibility of another few years of constitutional angst.  As for the GBP, it is true that the first independence referendum in 2014 didn’t adversely affect the pound until the last month or so before the vote. But this was because opinion polls showed a strong majority against independence for the bulk of the campaign. This time around, opinion polls are different, with recent polls showing an outright majority in the low single digits favoring independence. Granted, polling data got Brexit and the last couple of general elections wrong, but it did get the 2014 Scottish referendum right. Regardless of the polls, it is likely that investors have learned their lessons from the Brexit vote and are unlikely to leave themselves similarly exposed.  In considering the potential impact of a Scottish independence, a good starting point is acknowledging that Scotland accounts for 10% of U.K. GDP, so it would be the equivalent of Texas leaving the U.S. The choice of monetary arrangements will also be important in determining many of the economic and financial consequences of independence. There are three broad options: 1) a formal agreed-upon currency union with the rest of the U.K.; 2) informal use of the GBP; or 3) the introduction of its own currency. Option one would be least disruptive, although it would likely be ruled out by the U.K. Options two and three are likely to increase uncertainty due to questions on the sustainability and credibility of the new monetary regime.  Scottish independence would also impact the pound through its effects on the economic structure of the U.K. A key factor here is the exclusion of Scottish oil exports from the U.K.’s already negative current account balance. Finally, there are the political consequences. Back in 2014, the exclusion of Scotland’s left-leaning parliamentary members would have made the Westminster Parliament more euroskeptic. But with the U.K. already out of the EU, the political consequences are now more benign.

If we can help you with any Foreign Exchange needs, please email foreignexchange@cnb.com or call (800) 447‑4133. Want to learn more about international finance, economics, and global events? Sign up for our other Foreign Exchange emails and videos!

Follow City National Bank on social media:

Non-deposit investment products: • Are not FDIC insured, • Are not deposits or other obligations of City National Bank and are not guaranteed by City National Bank, and • Are subject to investment risks, including possible loss of the principal invested. This report is for general information and education only and was compiled from data and sources believed to be reliable. City National Bank does not warrant that it is accurate or complete. Opinions expressed and estimates or projections given are those of the authors as of the date of the report with no obligation to update or notify of inaccuracy or change. This report is not a recommendation or an offer or solicitation to buy or sell any financial instrument discussed. It is not specific investment advice. Financial instruments discussed may not be suitable for the reader. Readers must make independent investment decisions based on their own investment objectives and financial situations. Prices and financial instruments discussed are subject to change without notice. Instruments denominated in a foreign currency are subject to exchange rate and other risks. City National Bank (and its clients or associated persons) may engage in transactions inconsistent with this report and may buy from or sell to clients or others the financial instruments discussed on a principal basis. Past performance is not an indication of future results. This report may not be reproduced, distributed or further published by any person without the written consent of City National Bank. Please cite source when quoting.

Unsubscribe from this list  |  Update email preferences This message has been sent to bank@banking.offers.report. Please do not reply to this email. To ensure the delivery of future emails, please add foreignexchange@emails.cnb.com to your email address book or safe sender list. Copyright ©2021 City National Bank – All Rights Reserved. 350 South Grand Avenue, 12th Floor, Los Angeles, CA 90071 City National Bank is a subsidiary of Royal Bank of Canada. TERMS & CONDITIONS  |  PRIVACY STATEMENT NMLSR ID# 536994 | City National Bank Member FDIC