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Europe’s Brexit Hangover

NEW YORK – The market reaction to the Brexit shock has been mild compared to two other recent episodes of global financial volatility: the summer of 2015 (following fears of a Chinese hard landing) and the first two months of this year (following renewed worries about China, along with other global tail risks). The shock was regional rather than global, with the market impact concentrated in the United Kingdom and Europe; and the volatility lasted only about a week, compared to the previous two severe risk-off episodes, which lasted about two months and led to a sharp correction in US and global equity prices.

Why such a mild, temporary shock?

For starters, the UK accounts for just 3% of global GDP. By contrast, China (the world’s second-largest economy) accounts for 15% of world output and more than half of global growth.

Moreover, the European Union’s post-Brexit show of unity, together with the result of the Spanish election, calmed fears that the EU or the eurozone would fall apart in short order. And the rapid government changeover in the UK has boosted hopes that the divorce negotiations with the EU, however bumpy, will lead to a settlement that maintains most trade links by combining substantial access to the single market with modest limits on migration.