A look at how things are playing out in Europe and UK post-Brexit trade deal
The last two weeks
were thin on data and full of trading holidays, but the last minute
agreement on a Brexit deal and virus developments
were key events and will be decisive for growth and central bank policy
over the next months at least. The Brexit deal secured frictionless goods trade,
but didn't cover
financial services, which has already led to some shifts. The sharp rise in
Covid-19 case numbers over the holiday period and the resulting tightening
and/or extension of restrictions meanwhile will put fresh pressure on economic
growth and thus keep
economies reliant on fiscal and central bank support.
A Brexit deal
materialized on Christmas Eve, and has since been ratified by the UK parliament
and unanimously approved by all 27 EU ambassadors. The deal took effect on January
1, and in the Eurozone is operating on a provisional basis until the EU
parliament formerly ratifies it. The new "Trade and Cooperation Agreement" provides tariff
and quota free trading of goods between the EU and UK. For fishing there are
transitional arrangements, but in general EU law will cease to apply in the UK,
and the jurisdiction of the European Court of Justice will end. The biggest
hurdles to a deal being reached were the level playing field rules and state
aid issues, which were overcome with the principal of "managed divergence",
which gives both sides the right to a review and retaliation mechanism if they
believe the other side has gained an unfair competitive advantage.
Financial services are still in limbo though, despite the
trade deal. The agreement struck between the EU and the UK, last week ensured
tariff and quota free trade in goods, but the UK's important financial services
industry still doesn't have clarification on what exactly will change in the
future, as the deal doesn't cover financial services. Some area are covered by
"equivalence" assessments, but not all. Both sides hope to get a memorandum
of understanding in place by the end of March, but that won't be as high
profile and extensive as the trade deal. Britain's Financial Conduct Authority
was forced to announce last week that it would temporarily alter its rules to
ease fears of market turbulence in interest rate swap trades at the start of
this year. The EU has so far not granted equivalence to the UK market to help
smooth cross-border transactions and the FCA will temporarily allow London-based
branches of European investment banks to trade on EU venues, as long as they
are trading for EU clients. The relief will not apply to the firms' trades on behalf
of non-EU clients or their own proprietary trades and the measure will be
reviewed on March 31.
Share trading is also
shifting and with companies not really expecting equivalence rulings to
materialise may were prepared with big shifts reported for yesterday's trade.
An FT article (paywall)
highlighted that on the first trading day of 2021 "nearly €6bn of EU share
dealing shifted away from the City to facilities in European capitals". This
may not be the city's biggest area of revenue, but it may give a flavor of what
is to come. The FT also highlighted that EU regulators yesterday "withdrew
registration of six UK-based credit rating agencies and four trade repositories
- data warehouses that provide authorities with information on derivatives and
securities financing trades. EU companies and investors will now have to use
EU-based entities."
Meanwhile, the UK is
back in the strictest lockdown since March last year and despite the rollout of vaccines, it may don't
expect restrictions to be lifted before the end of February. Germany is
also extending its lockdown, with the hospitality sector and non-essential
shops already closed for a while and now set to remain shut until the end of
the month at least. Under discussion are also further restrictions of movement
in areas were incident rates are particularly high. It may be the result of the
new and more infectious virus mutation, or just the natural result of a more
relaxed attitude over the holiday period, but it is clear that vaccination
programs will take a while to have sufficient impact to get economies back to
normal.
Against
that background data releases looked already out of date
The final December
UK manufacturing PMI may have been revised slightly higher, to a
57.5 headline in the final reading yesterday, but like the German
numbers the data already look outdated considering subsequent
developments.
German jobless numbers came in better
than expected in December readings released today, with the sa unemployment
total unexpectedly falling -37K over the month, despite the tightening of
lockdown restrictions last month that saw restaurants, hotels and non-essential
shops close once again. Expectations had been for a rise in the jobless total
as well as the jobless rate, but in the event the sa rate remained steady at
6.1%. However, the fact that official numbers haven't exploded is largely due
to government wage support and job retention schemes, which have helped
companies to hang on to staff. That is a costly exercise and not all companies
will survive once government support ends and the ECB also starts to tightening
policy. That means the real impact on the labour market from the pandemic will
only become apparent over time and much later in the year.
ECB waiting for fiscal
stimulus after extending PEPP & Brexit deal takes pressure of BoE
The EU has finally cleared
the next medium term budget and with it the pandemic recovery program
that will be jointly financed and should go some way to get the economy back on
track. In the best case scenario, the ECB is pretty much on hold
for now, although clearly
if there is Brexit chaos or the virus situation doesn't improve, ECB officials
will be ready to step in with additional measures.
Meanwhile in UK,
developments could also lead to renewed speculation that the BoE will have
to step in again, although the Brexit deal removed any immediate pressure on
the central bank to consider negative rates. The BoE's Monetary
Policy Committee left official rates unchanged at the meeting in December, but
extended the Term Funding Scheme by six months, while focusing on flexibility
in the asset purchase program. Should market functioning worsen materially
again, the Bank of England could increase purchases, but at the same time,
there is flexibility to slow the pace of purchases later if the economy
recovers as planned next year. Fiscal policy is already stepping in again to
get companies and employees through this latest crisis and clearly with the
budget deficit rising sharply BoE support will be needed to keep financing
conditions favourable, even in the best case scenario.
This article was
submitted by Andria Pichidi, Market Analyst at HF Markets.
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