The imminent departure of Great Britain from the European Union has sent shockwaves through global financial markets. Upon learning the news of the referendum on June 23, the value of the pound sterling tumbled over 11 percent and stocks slumped across the globe, losing an estimated $2 trillion. Oil was not unaffected, WTI dropping by almost 5 percent to $47.64.
This decline continued on Monday, with WTI falling further to around $46. The pound on Monday fell to a 30-year low as news of an imminent UK recession spread, dropping to $1.32 to the dollar. Those losses reversed course on Tuesday, but volatility remains.
Economists cannot agree on what the long-term consequences of the Brexit vote will be, though most agree it will likely harm the UK as it loses privileged access to European markets, the destination for half its imports. Britain's energy consumption will decline only slightly if it's growth falls below 2 percent, with most estimates predicting a fall of 16,000 barrels a day. In the current near-glut conditions, this will likely have a beneficial effect on global markets. Even the UK oil industry will probably weather the storm, retaining control over taxation, licensing and regulation of the North Sea oil fields.
A related question is how major oil producers will be affected, as uncertainty spreads through forex markets. In the Gulf, news of Brexit has elicited a general shrug, with some important caveats. On Saturday, both Saudi Arabia and the UAE announced they were not overly concerned with Brexit. The chief economist for the Saudi central bank said little would change, as the Saudi riyal is pegged to the dollar. Saudi imports from the UK would be cheaper, benefitting from the diminished value of sterling. The UAE and other GCC members would also stand to benefit from sterling's tumble, as real estate purchases in English markets, long a favored haven for Gulf oil wealth, will become more attractive in the short-term. Related: Iran's Oil Production Is Slowing Fast
The Kingdom has indicated, however, that it has revised its investment policy in euro and sterling-denominated assets, reflecting the uncertainty likely to dominate those currencies in the months and years to come. OPEC's earnings from oil fell dramatically between 2014 and 2015, and as Saudi Arabia attempts to navigate a complicated transition to an "oil-less" economic model, potential uncertainties in developed economies like Britain and the EU could pose massive obstacles to the Kingdom's long-term plans, which are partially hedged on the availability of export markets in the developed world, tourism from Europe, Asia and the United States, and attractive investments for the Saudi sovereign wealth fund.
If Britain falls into recession (as seems likely), and if the Eurozone enters a new period of instability and uncertainty, with the potential of further "exits" from dissatisfied members, the situation facing the new Saudi economy could be grave. Other Gulf producers like Kuwait, Qatar and the UAE don't face the same problem, as their governments have paid only lip service to the idea of moving permanently away from energy exports. The Gulf reaction to Brexit will be passive, for now, but the implications for the global economy will likely impact the Saudi Vision 2030 plan.
The passivity felt by Gulf leaders has not been entirely reflected in regional markets. The Middle East benefitted from their slightly different trading schedule (Friday and Saturday are holidays, hence the market was closed for the first two days after the referendum was held) and hence had a more measured reaction. On the first full day of trading, Dubai's index fell by 3.25 percent and Abu Dhabi's by 1.85. The Saudi market fell by 1.35 percent while Egypt saw the region's biggest drop, falling by 5.6 percent. Related: Saudi Arabia's Oil Storage Falling As Exports Exceed Production
By contrast to the measured reaction from GCC members, Iran's official reaction registered as an enthusiastic endorsement of Brexit, though the economic benefits for the Islamic Republic look unclear. An advisor to President Hassan Rouhani supported the vote on Twitter, calling it a repudiation of American domination of global politics. The Foreign Ministry issued a statement supporting the "will of the British people."
Like Saudi Arabia, Iran will likely be little affected by the economic shocks on Britain, unless they spread to other markets. Iran's energy policy has it looking towards new long-term customers in India and Oman, and if global trends hold these markets will remain favorable to Iranian exports. Brexit is for Tehran an opportunity to gloat over the apparent decline of an old political foe, but will have little economic impact on the Islamic Republic's march toward its new energy destiny.
By Gregory Brew for Oilprice.com
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Dr. Gregory Brew is a researcher and analyst based in Washington D.C. He is a fellow at the Metropolitan Society for International Affairs, and his… More