Brexit’s Effects on International Expansion Strategy in 2018
The year was 2016, and though almost every professional pollster expected differently, the underdog had just pulled off a stunning upset. The whole world was in disbelief: it simply was not supposed to be this way. Younger voters felt that older voters destroyed their country’s future. The rift between urban and rural voters had turned into a gigantic chasm. Half of the country was furious with the other half, and for many of the ‘winning’ voters, it did not feel like a real victory. Meanwhile, the rest of the world scrambled to figure out the new geopolitical world order that had changed overnight.
What month was it, again? This exact scenario happened twice in 2016: once in June following the Brexit Referendum, and once in November following Donald Trump’s election. The big difference between the Brexit Referendum and Donald Trump’s election is that Trump’s first term has an end date. Sure, Trump will change the world during his four guaranteed years as President –for instance, he has successfully overhauled the American tax code. With Brexit, on the other hand, nothing is certain even two years later. There is profound uncertainty surrounding the results of the negotiations and the end-date for an agreement on the future relationship between the UK and the EU. Many Britons are even campaigning for a follow-up Brexit vote.
That uncertainty is exactly what makes the UK such a difficult nut to crack right now. Uncertainty is typically bad for business, but it can also be a breeding ground for opportunity. Which is it? To gain a better perspective on Brexit, we are going to look at Brexit from two perspectives. First, we will examine the psychology behind the Brexit vote. Second, we will look at what the data say about the post-Brexit European landscape. With both of these perspectives in mind, we can carefully examine the UK’s role in Europe, and how that new role affects international expansion strategy within Europe in 2018.
Why did the UK vote to leave the EU?
Even with the advantage of hindsight, the answer to this question is still a little blurry. Every explanation for the Leave vote can be viewed through two different lenses: the rational and the emotional. Take British right to self-governance, for instance. Rationally, Britons pointed to the EU’s onerous regulations as economically harmful: lack of self-rule has resulted in costly, one-size-fits-all laws that do more harm than good. Though the figure was vigorously disputed, pro-Leave politicians estimated that these regulations cost the UK about £600 million (218 billion HUF) per week. These rational arguments may very well have resonated with a lot of voters, but the emotional explanation for Brexit is far more compelling.
Put simply: Britons are proud and do not like answering to anybody else. As a nation that was so accustomed to ruling other countries, they do not handle the Brussel’s influence all too well. So, when an EU proposal came along that set to limit the energy used by tea kettles, Britons – who famously drink tea like a fish drinks water – felt that the British way of life was under attack. During the Brexit campaign, pro-Leave politicians cited countless examples of these regulations, such as bans on overly curved bananas and powerful vacuums; little things in isolation, but in the aggregate, they profoundly challenged the British identity.
The stiffest challenge to traditional British identity came from heavy immigration. The foreign-born population in the UK increased from about 3.8 million in 1993 to over 8.7 million in 2015. Importantly, in the years leading up to the Brexit vote, immigration from EU member countries saw massive increases each year. In 2012, 158,000 people immigrated to the UK from other EU countries, while only 75,000 people from other EU countries left the UK. This immigration differential increased each year, and by 2015, 269,000 people immigrated to the UK from other EU countries, while only 85,000 immigrants left the country. The places that were the most reliably pro-Leave were not the places with the most foreign-born citizens, but rather the areas with the largest per cent increase in foreign-born citizens. The Economist found that ‘Where foreign-born populations increased by more than 200% between 2001 and 2014, a Leave vote followed in 94% of cases… High numbers of migrants don’t bother Britons; high rates of change do’.
In the end, it is impossible to know how much each argument influenced the Leave vote — the voters themselves may not even know. But we do know that it was some combination of the two, and knowing what we do about human behaviour, it was probably the emotional side that proved more influential. Either way, because these two sides so strongly influenced Britain’s past, it would be irresponsible to ignore either side when examining the UK’s place in the post-Brexit landscape.
Britain has no nose
‘Cutting off the nose to spite the face’ is a phrase that dates back almost 1000 years and has brutal origins. Nuns and other pious women would cut off their noses to make themselves less desirable to invading forces, thereby preserving their innocence. Nowadays, however, the phrase refers to the act of hurting one’s self far more than the object of one’s anger. With the Brexit vote, Britain lopped off its nose, and it has spent the better part of the last two years debating which kind of plastic surgery it should get. More and more of the country is realising that its face will never be the same.
Britain’s negotiators are trying to salvage what they can, but much of the damage has already been done. The negotiators are doing their best to preserve the best aspects of EU membership (the Customs Union and Single Market) while avoiding the downsides (onerous regulations from Brussels, free movement of workers). Brussels is not having it. For them, the four freedoms of EU citizens and the burdens that come with it are a package deal that cannot be enjoyed piecemeal. Granting such a deal to the UK would only galvanise populist movements in other member states. By refusing to budge, they are refusing to allow the EU to disintegrate. Britain will likely accept less than ideal terms for the Brexit deal, just like they have had to accept Brexit’s negative economic consequences.
Brexit’s Economic Impact
The Pound has taken a pounding: it fell from 1.4877 USD on the 23rd of June 2016 to 1.2908 on the 7th of July 2016 a fall of over 15%. Forecasters immediately predicted doom and gloom for the British economy, which has slowed over the past year as a result of many factors, including inflation resulting from the precipitous fall of the Pound. The UK’s Office for National Statistics (ONS) reported in April that over the first quarter of 2018, the UK economy grew at its slowest rate since 2012. Still, the Pound’s value is closely tied to negotiations, so it rises with good news and falls with bad news. As of late June, the Pound is hovering around 1.3 USD. If it drops again, experts predict a significant decrease in both residential and business investment, triggering further economic deceleration. With Brexit vote recently celebrating its second anniversary, we are past the stage of pure prognostication, and we now have reliable data about the Referendum’s specific economic effects over the past 23 months. Most relevantly, we can now examine Brexit’s effects on job shortages, specific industries, and regional economies.
The Job Crunch
Britons fixated on immigration got what they wanted: foreign-born workers are leaving the UK in droves, and new ones are not coming in fast enough to replace them. A recent Deloitte study found that 36% of non‑British workers are likely to leave the UK in the next five years; notably, highly skilled EU workers are the most likely to go (47%). Moreover, 58% of non‑British UK workers stated it is ‘difficult’ or ‘very difficult’ to find a British person to replace them. The obvious side effect of this outflow is a severe job crunch: many British companies are struggling to fill positions. According to EU Skills Panorama Data, an EU program that measures a country’s workforce, its strengths, and its weaknesses, the ‘high shortage occupations’ within the UK are in Healthcare, Finance, and IT. Healthcare and IT, especially, traditionally employ large numbers of foreign-born workers.
Replacing healthcare workers is not as easy as replacing IT workers because one cannot offshore a surgeon. Though Britain’s National Health Service (NHS) had problems before Brexit, the Referendum and subsequent outflow of EU workers have added fuel to the fire. As of early 2018, there were over 9,500 NHS vacancies for doctors and 100,000 NHS vacancies overall. As a result, thousands of patients have seen their surgeries delayed for months, or even cancelled due to the shortages. This shortage has no easy solution, just increased NHS funding and extremely streamlined work visa process for health workers, but neither of these solutions is considered ‘easy’ in the UK’s current political environment.
Brexit will devastate some industries while leaving others relatively unscathed. The industries most reliant on the Customs Union are the ones that will bear most of the brunt of Brexit. According to an EU ECON Commission report published in March of 2018, the ‘automotive; agriculture; food and drink; chemicals and plastics; consumer goods; and industrials [industries] will incur an estimated 75% of the impact despite accounting for just 23% of the EU27’s economic output.’ Thus, Brexit will have an outsized impact on certain industries but will spare others. Within Britain, the automotive industry faces cost increases between 5% and 13%. The retail and wholesale industry could see costs increase between 7% and 20%. On the flipside, the construction industry has largely been spared: they the EU ECON Commission predicts no additional costs. Therefore, if you are evaluating Britain’s potential as a target market for your business, your analysis will vary wildly based on your industry.
Regional Effects – Exposure within the UK and abroad
The areas that voted for Brexit are the areas that most need access to the EU’s Customs Union. As pointed out by the Financial Times, ‘The north-east, where voters in 11 out of 12 county council areas voted Leave, sent half its services exports to EU member countries in 2015, making it the region with the highest proportion of such exports going to EU member states.’ In other words, these regions are especially vulnerable to the customs solution identified during Brexit negotiations. Thus, depending on the Brexit deal, the North East could see as much as a 16% hit to economic growth, and the West Midlands, another staunchly pro-Leave region, could see as much as a 13% hit. As the EU withdrawal report outlines, this economic hit is due in part to British exposure ‘to a combination of administrative and compliance costs linked to rules or origin, ranging (based on existing estimates) from 4 per cent to perhaps 15 percent of the cost of goods sold’. Though other regions have significant exports to the EU, they also have diversified portfolios and send a good portion of their exports to destinations like Asia and the Americas. Such diversification means that London’s worst-case scenario is a 3.5% blow to economic growth. London, if you recall, voted overwhelmingly Stay.
Some countries that have low Brexit exposure may still have some regions that are especially vulnerable to the Brexit downturn. In Germany, for example, it is a tale of two cities. The first city, Frankfurt, is expected to benefit from Brexit because of the relocation of parts of London’s financial industry. Many banks have decided to relocate or increase operations in the German city following Brexit, although London will still be the continental financial powerhouse. Stuttgart, on the other hand, will hurt over the next few years because of its reliance on the vehicles sector. There are similar regions throughout Europe where particular areas will suffer much more than the overall country.
Brexit and the International Expansion Landscape
The Brexit storm has been hovering above the European continent for almost two years, and the worst part is that it has no definite end date. Conservative business owners throughout Europe are waiting for the storm to blow over before making their next moves. If negotiators reach a deal, then the dark cloud that is hovering over Europe will start to dissipate. There will be wreckage and devastation, but at least the recovery process can begin. In the wake of the storm, there will be a new world order. This order will be worse for most businesses throughout Europe, but most importantly, there will be order. Companies will move. There will be certainty. There will be recovery. Company leaders can make decisions with confidence, or at least have the courage to make decisions again. The business leaders that are ready to take advantage of the opportunities available immediately after the storm will be the ones that benefit the most.
I have discussed many dire situations throughout this article, such as the job shortage situation in the UK’s healthcare and IT sectors. But with the right outlook, those crises can be seen as opportunities for prepared business owners. While the healthcare job crunch might have fewer solutions available, the IT job crunch has a more natural solution: nearshoring and offshoring. Both solutions are widely used in the UK, but now it seems that the country will have to lean on these solutions much more. In Q4 2017, the UK saw a steady increase in salaries and a 35% increase in the number of permanent IT roles advertised. UK onshoring companies have traditionally used IT professionals from Central and Eastern Europe to fill positions, but without worker mobility, a costly and challenging work visa process will make this solution far less viable. Thus, with the current shortage—which looks like it will only worsen—UK companies will likely need to increase offshoring and nearshoring to compensate for the lack of worker mobility. This shortage is a tremendous opportunity for IT companies throughout Europe. If they are prepared to make nearshoring deals with British companies, they can benefit directly from the UK’s plight.
Conclusion: This too shall pass
My experience dealing with British companies in 2018 is that they are ready to make deals. Historically, the United Kingdom is a very resilient nation. Owing to current expansion projects, I have been in frequent contact with companies throughout the UK across several industries. Overall, the British business community seems to be dealing with Brexit the only way they know how: to push forward and look for more opportunities. British companies have long been some of the most outspoken critics of Brexit as they have always had so much to lose because of it. But it seems that because they have accepted their new reality, they are best prepared to operate in it. So, what is the new reality for British business? Mainly, they have to be much more proactive in seeking new business. Their economy has contracted due to Brexit, and the prolonged uncertainty caused by the continued political resistance to Brexit has further complicated matters. Perhaps because British businesses are the most doomed by Brexit, they are the ones that are working the hardest to avoid their fate. The famous World War II propaganda slogan of ‘Keep Calm and Carry On’ has been overused to the point of cliché, but my recent experience shows me exactly why that is so: when faced with adversity, even if it is self-created, Britons are ready, willing, and able to push through it.
Before Brexit, Britain was the second largest economy in Europe and the fifth largest economy in the world. Despite the contraction caused by Brexit and the resulting uncertainty, Britain still retains these titles (though its lead over France has narrowed considerably). The rules governing its international business relationships have become unnecessarily complicated, but Britain will always be an integral business partner for EU nations. If you are considering Britain as a potential target market for international expansion, its viability will depend on your industry, your strategy, and your ability to deal with the post-Brexit world order. At the end of the day, Britain is still Britain, and it should always remain on your company’s radar.