OK, so now what?
Britons shocked the world on Thursday by voting narrowly but decisively to leave the European Union. The news roiled global financial markets and sent the value of the British pound tumbling to a 30-year low. Prime Minister David Cameron has already announced he will resign after failing to convince voters to stay in the union. Right-wing politicians in France, the Netherlands and other EU member states are calling for similar votes in their countries.
Beyond that, what happens next is anyone’s guess. The “Brexit,” as the British exit from the EU is widely known, is unprecedented — no country has ever left the union. The decision could push Britain into a recession, spur the breakup of both the EU and the United Kingdom and trigger a global financial meltdown to rival the 2008 crash. Or markets could settle down while the U.K. and the EU negotiate a sensible breakup agreement, and the wake-up call from British voters could push European leaders to make badly needed reforms. More likely, the outcome will fall somewhere between those two extremes.
We won’t know for sure what path we’re on for weeks or months. But there will be some hints along the way. Think of what follows as a guide to interpreting this turbulent period. (But for goodness sake, don’t take any of it as investment advice.)
Settle in for the long haul: Bad news for anyone sick of hearing the word “Brexit”: Thursday’s vote marks the beginning of the process, not the end. Assuming the U.K. leaves (more about that caveat in a second), Britain must now negotiate a new set of trade deals to replace its EU membership. That process, which could take up to two years under the treaty that serves as the EU’s charter, is bound to be contentious and could cast a pall of uncertainty over Britain’s economy and markets more generally. (The two-year clock doesn’t start until the U.K. formally notifies the EU of its intention to leave.)
Ignore the initial market reaction: The initial reaction will tell us next to nothing about the longer-run impact a Brexit will have on markets or the broader economy. Market turmoil was probably inevitable after a decision this momentous, and it will be made worse by the fact that the outcome was a surprise: Despite polls showing a close race, most investors expected the “Remain” side to prevail in the end. That means markets hadn’t fully “priced in” a Brexit and will now have to adjust.
That readjustment could be volatile — don’t be surprised if markets are way down today and way up on Monday, as investors reevaluate their initial pessimism. (On the other hand, don’t be surprised if markets are way down today and Monday.) Most ordinary investors are probably best off logging out of their E-Trade accounts and tossing out their 401(k) statements, at least for a couple of weeks.
But do watch markets after that: The U.K. is an important trading partner for the U.S. and a major source of investment. But even a severe recession in Britain — or even in the rest of Europe — will have only a modest impact on the U.S. economy. Much more significant, at least in the short-term, are the ripple effects that the Brexit could have on financial markets. A full-blown financial crisis is unlikely; there is no equivalent to the U.S. housing bubble waiting to pop. But the shock of the Brexit and the uncertainty over what happens next could make investors more cautious, hurting stock prices and making banks more reluctant to lend. That, in turn, would act as a drag on the U.S. economy at a time when it is already showing signs of slowing. The U.S. Federal Reserve was worried about the possible repercussions of a Brexit when it decided not to raise interest rates earlier this month; Thursday’s vote makes a rate hike in July much less likely.
And watch the dollar, too: As soon as results began to trickle in Thursday night, the value of the British pound collapsed: As of Friday morning, a pound was worth less than $1.40, down from close to $1.49 the day before. That’s good news for Americans planning summer vacations in London, but it’s bad news for the U.S. economy because it will make American exports more expensive in Britain. (U.S. companies sold $56 billion of goods in the U.K. last year, making it one of our top trading partners.) The bigger problem, though, will come if post-Brexit turmoil pushes up the value of the dollar against other currencies too — the dollar often serves as a safe-haven for investors during periods of volatility — which would further hurt exports to other countries.
Expect more surprises: Here is an incomplete list of things that could happen in the wake of Thursday’s vote: Boris Johnson (the wild-haired former mayor of London who is often described as the U.K.’s Donald Trump) could become prime minister of Britain. The Netherlands could leave the EU. Scotland could leave the U.K. Northern Ireland could rejoin Ireland. The EU could break up entirely.
Or how about this for a plot twist: The Brexit may not happen at all. There have already been murmurs that Thursday’s vote will lead the EU to offer new, more generous terms to convince Britain to stay, prompting a second referendum. An online petition calling for a re-do drew so much traffic that it crashed the U.K. government’s website Friday morning. This is, to be clear, a very unlikely scenario — the referendum results were close, but not that close, and none of Britain’s leaders is backing the idea of a new vote so far. But in theory, it is still possible that we could do all of this again.