The United Kingdom vote in June 2016 to leave the European Union will have major implications for developing economies, according to a report from the Overseas Development Institute (ODI). Least developed countries (LDCs) will be particularly affected, mostly via reduced exports and lower aid values. Aid and trade preferences are two of the main international support measures (ISMs) available to LDCs.
Although LDCs will be impacted differently depending on how (and if) the UK leaves the EU, the effect will mostly be negative, via trade, financial markets and investment, aid, migration and remittances, and global collaboration. The ODI conservatively estimates that the 10% devaluation of the pound in the first week after Brexit, together with a downturn in the British economy, could cost LDCs $500 million in lost exports. In addition the devaluation will in effect reduce total British aid to all developing countries by $1.9 billion, with LDCs probably among the worst affected. “If the pound continues to fall, the effects could increase,” says the report. Around half of Britain’s £12.2 billion aid budget is allocable to LDCs. By mid-July the sterling/dollar exchange rate had fallen by 12%.
The UK accounts for around 5% of LDC exports, although export dependency varies significantly by country. LDCs that export a lot to the UK will be most affected, including Bangladesh, which sends 10% of exports to the UK, and Cambodia, which sends around 7% of its exports to the UK. The devaluation effect could even be compounded by increased protectionism or a deterioration in Europe and Britain’s trade relations with the rest of the world.
LDCs also rely heavily on the larger EU market, the single biggest in the world. If the EU is negatively impacted by Brexit, these countries will suffer and import less from the rest of the World. Bangladesh sends half of its exports – mostly garments – to Europe including the UK. Ethiopia, Malawi and Uganda send nearly a third of their exports to Europe. Tanzania, Sierra Leone and Rwanda export less to the EU but will still be affected.
Exports of selected LDCs to the UK, 2014
|Country||Exports to UK
|Exports to the UK
as % of total
Data source: UN Comtrade; NB. excludes re-exports. Data on Bangladesh is from ODI.
An additional channel for the Brexit effect is via investment – both portfolio and direct. Whilst the impact of a downturn in financial markets immediately after the vote appeared negative for developing countries and LDCs, the subsequent stock-market rebound suggests that the near-term fallout could be limited. Estimating the impact of further financial volatility is extremely difficult, and in any case LDCs tend not to be major recipients of portfolio flows. A greater long-term impact may be felt in the form of lower foreign direct investment (FDI). Zambia, according to the ODI report, is a particularly large LDC recipient of British FDI.
Another of the outcomes of the Brexit vote may be lower remittances, which will affect the countries most dependent on the UK such as Afghanistan, Angola, Cambodia, Haiti, Mali, Uganda and Somalia. Not only may Brexit lead to restrictions on immigration, but sterling remittances will be worth less following devaluation.
A final area of uncertainty for LDCs surrounds UK trade policy following the vote to leave Europe. The ODI, like a number of other commentators, envisages two main scenarios: either that Britain pursues a UK-EU customs union, or that the UK pursues an autonomous trade policy. The first scenario would be less disruptive, and in principle there need be no impact on trade preferences. The UK could continue to offer duty free access along the lines of Everything But Arms (EBA) initiative and under the same conditions as under current Economic Partnership Agreements (EPAs) between the EU and African, Caribbean and Pacific (ACP) countries.
An autonomous UK trade policy might present further problems. Some proponents of leaving the EU have suggested that Britain would reduce tariffs to either very low levels or to zero as part of a series of new trade deals with other countries. In this case the LDCs benefiting from the EBA initiative and the ACP-EPAs would lose their preferential margins. Preference-dependent LDCs may struggle to compete with more efficient or cheaper middle-income countries. This further underlines the need for LDCs to focus on building productive capacity and on generating greater efficiencies among exporters. LDCs also need to diversify and engage in economic transformation that makes them less dependent on European and UK aid, trade, remittances and investment.
Overall, the case of Brexit may only be the latest in a number of international economic shocks that LDCs are forced to confront as large economies experience slow growth and voters begin to question the benefits of economic internationalisation. Whilst ISMs are an important source of help for the LDCs, they depend on continued stability and prosperity in the biggest economies. Global political and economic events often have a much greater impact than aid and trade concessions granted by the international community.
Here’s the abstract for a working paper I just published on the Solomon Islands:
Economic growth, environmental sustainability and human development in the Solomon Islands have lagged much of the Pacific region since independence in 1978. Trade contributes insufficiently to development, partly because of the dominance of the logging industry but also due to the lack of emphasis on building productive capacities with a view to economic transformation toward higher productivity activities. Targeted soft industrial policies may help address these shortcomings, in the form of sectoral prioritisation; linkages policies; joint government-donor support to build appropriate infrastructure; and the development of human resources in specific areas. Government institutional capacity will only improve if policymakers are permitted true ownership over policies and if they are allowed to make mistakes.
Please note i’ve stopped updating this site, hopefully temporarily, as i’ve started a new job. More soon — with luck (or not, depending on how you see these things).
The trade policy framework myself and a colleague have been working on has been endorsed by the Solomon Islands government.
“The vision of the Trade Policy Framework is to: ‘Build the productive capacity of the Solomon Islands economy via sustainable trade and investment. The resulting creation of wealth and employment opportunities is aimed at promoting human development, reducing poverty and improving living standards for Solomon Islanders.'”
Just a couple of quick thoughts on radicalism in the aftermath of the Greek elections. Paul Krugman rightly points out that Syriza’s policies aren’t radical. Syriza is proposing sensible things: rejigging its unfair debt obligations, investing and reflating the economy, just like in Germany after the second world war. These policies are what any sensible policymaker would do in response to years of failed austerity. It’s the eurocrats who are radical, proposing fiscal rectitude in a full-on depression.
The situation reminds me of Scotland’s Radical Independence Conference last year after the referendum. Several speakers pointed out that what the so-called radicals wanted was pretty mainstream. Calls for tax to go up a bit aren’t exactly Trotskyite. The top rate of income tax under Margaret Thatcher was 60%, higher than any Scottish party or campaign group is currently proposing. It isn’t ‘extreme’ to rid the country of weapons of mass destruction or to ask for a society which looks after the worst off.
One reading of this situation is that conservatives have succeeded in dragging the debate so far to the right that today’s firebrands are reduced to saying things that would have seemed middle-of-the-road two decades ago. Maybe that’s partly true.
But it’s also important to remember that radical doesn’t mean extreme or fanatical. It’s from the Latin radix, meaning root. There’s a sense in which radicalism is to do with stripping away the superficial and delving to the bottom of a problem. Today’s radicals are, like their forebears, addressing the roots of economic and social concerns. They’re not posturing, wild-eyed fanatics. In a sense, it’s a source of optimism that many people have reached the end of their patience and are being forced to see things as they really are, coalescing around the doable and showing up right-wingers and austerians as the fantasists.
“If we had a debt crisis very clearly risk would have increased and so interest rates would have risen. But they haven’t. Interest rates have fallen, significantly, and not just to reflect inflation.
So first of all we have no gilt crisis.
Second, we have no affordability crisis.
And third, we have a lost opportunity to invest at rates lower than we have almost ever known, which lost opportunity is why we have an economic crisis.”
I thought i’d post a graph of benchmark gilt yields going back to 1984. It shows quite clearly that borrowing costs are at some of their lowest levels ever. There was no spike in yields during the crisis. Investors do not remotely think the government might default, nor do they think spending plans might be unsustainably high. More likely they expect years of stagnation or low growth.
It’s just ludicrous to suggest, as Cameron and Miliband do, that anything other than buttock-clenching austerity will be the “path to ruin”. Any future interest rate payments on debt issued now are profoundly not the main problem. If it wanted, the government would have plenty of wiggle-room within which to reinflate the economy.
The data is from the Bank of England’s series “annual average yield from British government securities, 10-year nominal par yield”.