What Does Brexit Mean?

I wasn’t going to write a Moowsletter this week because I didn’t think there was much to write about. To be honest, I still don’t, but Brexit is all the rage this weekend and most people are keen to understand two questions – what is Brexit and what does it mean?

The answers to both questions are very simple.

Firstly, Brexit is just an abbreviation for ‘British Exit’ from the European Union (EU). It’s just another funky term coined by some new age economist.

What does Brexit mean?
To understand what Brexit means you just need to understand the EU, which is very simple.

It’s a bit like this.

Ernie and Bert are best mates. At the end of their street is their favourite boozer where they run into another mate, Oscar. Oscar’s a good bloke, sometimes grumpy, but always observant with some great ideas.

Oscar notices all three men don’t really enjoy being in a shout together because their drinks aren’t of equal value. Ernie drinks house wine ($5/glass) and secretly resents buying Bert his favourite spirit at $10 a throw. Bert on the other hand doesn’t understand why Ernie won’t try spirits. Oscar senses the tension and fears the day when all three will won’t to drink alone. Worst of all, Oscar is embarrassed every time he has to order anything other than beer ($6/glass) so he hatches an idea.

Oscar (Germany) convinces Ernie (Scotland) and Bert (Britain) that if they all drink beer, not only will all their shouts be fairer, but other drinkers in the pub will find them a lot more attractive and their popularity will skyrocket.

Ernie and Bert immediately see the benefits so they acquiesce and form a membership called the BU – Beer Drinkers Union. They are now closer than ever, at least for the time being.

The EU is the same.

The EU is a politico-economic union made up of 28 member states (e.g. Portugal, Italy, Ireland, Greece Spain, Scotland, Britain, etc.) most of which are domiciled in Europe. It isn’t a government, an association or an international organisation. It’s just a union of which Britain is one of the EU members. The EU’s currency is the Euro Dollar (ED).

The original idea of the EU was that if all member states belonged to the one union with the same denomination, it would be much easier to transact and trade with each other. Just like Ernie, Bert and Oscar being in a shout together.

Initially, the EU was great for the smaller, weaker economies such Portugal, Italy, Ireland, Greece and Spain who wanted to strengthen their dollar and boost trade relationships with the larger countries.

It was also good for the larger economies such as Germany who are major exporters of manufactured goods (cars, etc) but whose dollar was too strong for them to be really competitive. The EU benefited them because the weaker economies pulled the value of their dollar down and made their exports much more competitive.

That’s why Germany wants to keep the EU together. Ernie and Bert attract a lot of attention for Oscar. On his own, Oscar doesn’t get a lot of looks.

So why the noise?
Britain wants out because they think they would be better off on their own.

In other words, Bert thinks he would have more success if he went back to drinking spirits. Ernie is shattered that his best mate has turned on him and Oscar is incensed that Bert has thumbed his nose at a great idea.

The reason for all the noise is because the whole world thought Bert and Ernie would never split. Some are devastated and some are joyous. Personally, I don’t like to see two good mates split like this either.

For the rest of the world is means some of the currencies will undergo some adjustments – some minor, some major. Of course, one of the knock-on effects will be the adjustment in assets prices (stocks and property). There will be great volatility for a while but it will settle. It always does.

In business terms, this is more about ‘balance sheets’ than profit and loss statements. I.e. assets will be repriced and short term valuations will change but long term it accounts for very little. It’s not really about the cashflow of countries or companies not being able to fund themselves. The most important thing to note is Britain hasn’t departed because it’s broke. It just wants its own independence.

What does this mean for Australia?
I think this bodes very well for Australia. Britain will not have the EU to fall back on so they will be keen to do deals with whoever is willing to negotiate. Bert learnt from Ernie and Oscar that not everyone likes spirits so he’ll have to be very amenable to new ideas and other people’s tastes.

Gold will do very well out of this while some other equities will become even cheaper. It will be interesting to see what happens to Britain’s property market if their dollar stays low. A low dollar could make their market very attractive.

To that end, all you need to remember this weekend is we’re going to be ok. The dot.com boom, 9/11, and the GFC were far worse than this and we survived those. Ignore the media, it’s just noise. Like the boys beers, a lot of it is just froth and bubble.

Gotta go, it’s time to exit.

Have a great weekend!

Adam