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How will next week’s European election impact markets?

17 May 2019

Next week, an electorate of over 400 million people from 28 member states will select 751 members of the European Parliament. This should be an opportunity to debate Europe-wide issues but in practice, it is more about local politics. It is all about Brexit in the UK, an issue that will not be part of the debate in other countries.

UK opinion polls have shown Nigel Farage’s new Brexit Party is neck and neck with the Labour Party and well ahead of the Conservatives. Whilst the outcome looks as if it will be very bad for the Conservatives, similarly it does seem favourable for Labour. The turnout for the UK in European elections has been low, at only 35% in 2014. However, we are not alone in showing a lack of interest in voting. In 2014, over half the countries had turnouts of less than 40%. This voter apathy gives the opportunity for minority interests to do well with a protest vote. If we are leaving the EU shortly, MEPs elected by the UK may only sit for a short time, or not at all, so the vote in the UK appears to be less important than ever.

The turnout in the Brexit referendum was fairly high with 72% of the eligible population casting a ballot. From over 30 million ballots, 51% supported to leave the EU. With both the leading parties in Westminster arguing on the best way forward for Brexit, it comes as no surprise that committed leave and remain voters are looking elsewhere. As a result, the Brexit Party will do well. On the "remain" side, the Green and Liberal parties may do better. If the UK Parliament reaches the full five-year term, then we can expect a very different outcome at the next general election.

As far as Theresa May is concerned, she is hoping for a shock that allows her to push ahead with yet another vote on her Brexit plan in early June. However, this is a long shot with the likely outcome of being voted down, again. Reports suggest she has agreed to resign as Tory leader in June regardless of what happens. Despite the fact that May is still in power, the contest to replace her has already started. This will take several weeks and is unlikely to be concluded before the summer parliamentary recess. It is hard to see how a change in leadership will alter the numbers in Parliament, thus reaching an agreement will be harder than ever. In order to renegotiate the deal, a further extension on Brexit beyond 31st October deadline may be required.

As the prospects of a Brexit deal have faded, the pound has fallen again. If there is a deal on Brexit then the pound may recover. However, this would be bad for the pound if the deal is at the expense of the Conservatives splitting and a Labour revival. The Bank of England in its latest Inflation Report continue to assume that a smooth Brexit will be agreed and interest rates will gradually rise. The chances of this central expectation coming to pass any time soon appear remote at best. As a result, we expect them to delay tightening for some time.

Elsewhere in Europe, Brexit is not the issue but populist parties may do well. However, these anti-establishment parties come from the left and right wings of politics and have little in common with each other. They are in many cases anti-European Union and this is likely to make it difficult to agree changes in the European Parliament.  

As far as equity markets are concerned, the European elections are seen as little more than a side show and global trade is the real issue. It is a sad fact that a single tweet from President Trump on trade talks can have more impact on markets than the votes of the over 400 million people in Europe.

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