The two financial centres of Luxembourg and London cannot ignore each other. During her last visit to the United Kingdom on 8 June, finance minister (DP) emphasised the interaction between the two centres: "As one of the top three international financial centres, our centre and the City of London are closely linked. Well-developed and interconnected financial markets will continue to be essential to raise the capital needed to finance the green and digital transition."
The finance minister's meetings on that visit with the heads of several British financial institutions present in Luxembourg only served to illustrate this fact. So it is quite normal that when a major event occurs in the UK, such as the , it has indirect repercussions in Luxembourg.
Boris Johnson's announcement on 7 July was accompaniedon the same day by a slight rise in the stock markets and the pound. However, prices did not move significantly afterwards, as the markets considered the resignation of the head of government to be an insignificant event.
As one of the top three international financial centres, our market and the City of London are closely linked. Well-developed and interconnected financial markets will remain essential to raise the capital needed to finance the green and digital transition.
While Boris Johnson's departure does not appear to be impacting the markets for the time being, continental European financial circles are keeping a close eye on the economic challenges facing the next British prime minister and his government.
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Trade with Europe falls
Although the British business community was quick to criticise Boris Johnson's economic record when he announced his resignation, it has spared the country from the predicted post-Brexit debacle. "The UK seems to have avoided the doomsday predictions that some made when the decision to leave the EU was taken," notes Vaibhav Tandon, vice president and economist in the Global Risk Management division at Northern Trust, an international private bank based in Luxembourg. As an example, the number of jobs and financial institutions that moved to the continent turned out to be much lower than expected. "London remains the most attractive destination (...) for financial services investment."
London remains the most attractive destination (...) for financial services investment.
On the other hand, the UK's divorce from the EU has not been followed by the economic prosperity touted by many Brexiteers. According to the Centre for European Reform, a London-based think-tank, the UK economy is worse off than it would have been had it remained a member of the EU. "The UK's exit has erected more barriers to trade and British exports have lagged well behind those of other advanced economies," comments Vaibhav Tandon, who explains that the country "no longer enjoys unrestricted access to the EU's vast customs territory, which stretches from Turkey to the Atlantic and covers almost half a billion consumers".
Citing a study by the London School of Economics, Vaibhav Tandon says trade between the island and the mainland has fallen by almost a third since January 2021 due to the additional administrative and customs formalities. "UK businesses paid £4.5 billion in duties on EU goods entering the country in the 12 months to January 2022, a 64% increase on the previous year."
A trade war looms
In addition, one of the challenges for the next government will be to avoid a trade war with the European Union. A section of British MPs are considering legislation that would allow the government to unilaterally change the 2019 agreement on the border in Ireland. "Recently, the UK government has been pushing to remove the internal customs border (...) This has fuelled fears of a trade war that would worsen inflation and derail growth," Tandon says.
This has fuelled fears of a trade war that would exacerbate inflation and derail growth.
A trade war would come at the worst possible time for British households. Like the major Western economies, the UK is facing a cost of living crisis while trying to avoid a recession. At its highest level for four decades, inflation reached 9.4% in June. The situation is all the more worrying as the household savings rate has fallen below its pre-pandemic level and real incomes--the amount of goods and services a person can buy with their income--have fallen steadily over the past four quarters.
While the loss of purchasing power has been heavily accelerated by the supply shocks caused by the war in Ukraine, the effects of the Brexit continue to disrupt the country's economy. For example, another study by the London School of Economics suggests that trade barriers with the EU have contributed to a 6% increase in food prices. And restrictions on low-skilled foreign workers have led to labour shortages, pushing up wage inflation.
These are just a few examples of the indirect consequences of the Brexit that are still weighing on the economy, further damaging household confidence and potentially embarrassing the next government. According to ING analysts, British GDP growth is expected to fall from 1.4% in the third quarter to 0.4% at the end of the year and then to -0.3% in early 2023.