Brexit deadlock may make ECB reticence on risks hard to sustain

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Published: October 20, 2018 12:18:08 PM

The European Central Bank’s prospects for gradually weaning the economy off monetary support could yet be tested by a big unknown its officials don’t mention much: a disorderly Brexit.

european central bank, latest news, important news, trending news, news now,news update, latest news today, brexitPolicy makers have given limited prominence to that risk despite divorce talks between the U.K. and European Union repeatedly stalling before the country’s departure in less than six months. (Reuters)

The European Central Bank’s prospects for gradually weaning the economy off monetary support could yet be tested by a big unknown its officials don’t mention much: a disorderly Brexit.

Policy makers have given limited prominence to that risk despite divorce talks between the U.K. and European Union repeatedly stalling before the country’s departure in less than six months. In the economic analysis ECB President Mario Draghi reads out at every decision, it was last specifically cited in 2016, and his Executive Board colleagues haven’t referred to it often this year.

That reticence may be getting harder to sustain as the political standoff stokes increased speculation over the region’s outlook. The next chance for policy makers to address it is at their meeting on Oct. 24-25, when they’ll review their plan to conclude bond purchases this year and set up a possible rate hike in late 2019.

“Brexit is the big elephant in the room for the euro area’s economy,” said Karsten Junius, chief economist at Bank J Safra Sarasin in Zurich. “A lot of people are trying to guess the nitty-gritty of interest-rate increases that are still about a year out, but are ignoring one of the region’s key economic risks.”

Read more of our coverage of the negotiations on Britain leaving the EU

The ECB could conceivably disagree. The main growth risks it specifically cited in September were rising protectionism, emerging market vulnerabilities, and financial market volatility.

Muted Impact
When Draghi has spoken on the topic, he’s tended to play down the economic risks. Questioned by EU lawmakers in September on the implications of a no-deal Brexit, he said ECB estimates show the impact “should be, in the aggregate, quite muted.”

In a statement for the International Monetary Fund meeting in Bali this month, he said a disorderly outcome could pose a “significant downside risk” to financial stability but the overall risk should be limited. He told EU leaders at last week’s summit in Brussels — where Brexit talks again failed to achieve a breakthrough — that the direct effects would be limited for the euro area, though some countries are more exposed.

What our Economists Say: “We estimate that crashing out of the EU could cost Britain almost 5 percent of annual GDP by 2030, through reduced openness. For the euro area, the impact would be far smaller — trade patterns suggest it could be a fifth of that, maybe less.”– Jamie Murray, Bloomberg Economics

Also in Bali, Executive Board member Yves Mersch cited Brexit as a risk to growth. But at the same time, Dutch central-bank president Klaas Knot said in an interview that officials would be well advised to wait and see how a range of external threats to the economy play out.

“They are downside risks, but they might not materialize, or materialize to a lesser extent than we thought,” he said.

No Alarm
ECB officials will have a chance to say more on the topic next month when the institution publishes its semi-annual Financial Stability Review.

The central bank has good reason to shun the matter as long as possible though. It may wish to avoid raising the alarm over a hypothetical worst-case scenario that could even incite public debate, and it has no say in negotiations.

Neither Vice President Luis de Guindos nor chief economist Peter Praet referred to Brexit in speeches last week.

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