Richard Jerram, Chief Economist, Bank of Singapore Member of OCBC Wealth Panel

Financial markets have an understandable expectation that as we come closer to the March 2019 Brexit deadline, the details of a deal will become clearer. Nerves are being tested as it increasingly looks as if we are heading for a round of last-minute negotiations amid a busy political calendar over the next two months.

Little progress as deadline draws near

Neither a resolution nor a collapse is likely – a compromise that pushes the contentious issues into the future is more probable. That means uncertainty continues, so GBP stays weak and volatile.

Plans to finalise a deal at a summit with the EU in mid-October look unrealistic and now there is talk of an agreement in November. Negotiators need to leave time for the UK and EU Parliaments and the European Council to vote on a deal, but even so, it would be unusual to settle things without the stress of last-minute deadlines.

Temporary, vague deal is likely to buy time

The basic problem is that with only six months remaining, it is still not clear what the UK wants. Prime Minister May has made a proposal on future trade relations that seems to satisfy neither wing of her party, and which the European Union views as unworkable.

Importantly, not everything has to be agreed by March 2019. The UK and EU simply need to settle on a framework for future relations. This points to a fudge. For example, rather than reaching a specific agreement on the UK’s trading arrangement, they will settle on a vague deal, with details to be fixed at a later date.

The transition period after March 2019 is set to run until the end of 2020 and could quite possibly be extended further. This allows the UK to temporarily remain inside the single market. It is still hard to see what sort of an eventual trade deal is feasible, but at least that would be too far away to trouble financial markets.

Details pushed into the future

Northern Ireland is the main barrier to a short-term fudge, as the issue of the border with Ireland looks unsolvable. An orthodox border that controls the flow of people and goods is unacceptable to the EU and would violate the Good Friday peace treaty. An open border would need a partition of Northern Ireland from the rest of the country, which is unacceptable to the UK, and especially to the Democratic Unionists, who PM May relies upon for her parliamentary majority.

It follows that the only way to resolve these problems if for the UK to remain inside the EU customs union, with a free flow of people, but that would effectively mean a return to the per-Brexit position, except with the UK as a rule-taker, but with no influence. This would be the softest Brexit possible and it is difficult to see this being approved by Parliament.

The slow progress on negotiations might be a sensible strategy for PM May, who will have trouble selling a deal to Parliament. If she leaves things to the last minute, then support for any Brexit bill will rise if the alternative is “no deal”. If there is no agreement at all, then the UK effectively becomes a separate country with no special ties to the EU and chaos could ensue.

UK preparations for the event of a “no deal” Brexit have been woeful, which weakens their bargaining position. However, it also increases the chance of a deal, simply because the costs will otherwise be too great.

Leadership challenge

In the background, a leadership challenge to the prime minister or another general election are both possibilities, but it is hard to see how they would help the process. PM May looks like the best hope for minimising the pain.

A minority still holds out hope for another referendum. However, Brexit is a commitment in the manifestos of both major parties, so a new vote seems unlikely to win support among MPs. Moreover, the issue is very divisive and it is far from clear that the outcome would be different a second time around.

Despite the uncertainty, the UK economy is not doing too badly, with the lowest unemployment rate in over 40 years. The Bank of England has enough confidence to have raised interest rates twice in the past year, although the next move is probably not until after Brexit. GBP looks cheap but is likely to soften a little further against EUR as uncertainty persists about the Brexit end-state. However, it could ride on EUR coat-tails to move firmer against USD and we see GBP/USD1.33 in six months and 1.37 in a year.