‘Brexit’ pain for Europe gives Cameron edge in crucial week

Bloomberg

Prime Minister David Cameron enters the final week of negotiations over Britain’s future in the European Union with a message for his continental counterparts: “Brexit” would hurt you too.
The argument that the 28-nation bloc would be weaker without its second-biggest economy gives Cameron leverage as he closes in on a deal to reset the UK’s terms of membership ahead of a stay-or-leave referendum. Bones of contention remain the extent to which financial regulations in the euro region would affect the City of London. High noon is a Feb. 18-19 summit of leaders in Brussels.
Losing Britain would crimp Europe’s economy and risk further roiling the region’s financial markets after the shares of the continent’s banks had their worst start to the year since at least 1987. It would also threaten the EU’s clout by undermining the standing of the world’s richest club in international forums, while adding succor to populists at home agitating to follow the UK out the door.
“The idea that the UK could break away from the rest of the EU and for there to be no wider consequences for Europe more generally is simply fanciful,” said David Owen, an economist at Jefferies International Ltd. in London.

Intense Talks
Since the EU published its response to the UK’s demands at the start of the month, Cameron and the bloc’s top officials have engaged in an intense round of diplomacy to get all the other 27 leaders to endorse the deal. Cameron wants to remain in the EU, but needs to sell it to his Conservative Party and the British public.
In a speech at a dinner with German Chancellor Angela Merkel in Hamburg on Friday evening, Cameron focused on how Britain’s remaining in the EU was an issue of national security.
It was something echoed by US Secretary of State John Kerry, who said the next day that a British exit would weaken Europe just as it needs strength to deal with the challenges of terrorism and refugees.
If finalized, the new agreement would restrict welfare benefits to non-British EU nationals in the UK, shield Britain’s financial industry and grant more powers to national parliaments. It would also be the first step toward ensuring a country that traditionally champions the border-free market against protectionism and is a longstanding net contributor to the EU budget stays on board.
Commerzbank AG Chief Executive Officer Martin Blessing said on Friday it would be the “wrong sign” politically and economically for the U.K. to leave the EU and that he hoped “British common sense will prevail in the end.” Siemens AG CEO Joe Kaesersaid last month U.K. resources would be a “real loss” for
Europe.

Tusk’s Task
While EU President Donald Tusk, charged with corralling European leaders into backing the deal, last week described the negotiations as “fragile,” most governments have signaled a willingness to prevent a “Brexit” as long as Cameron’s demands don’t adversely affect the rest of them. Many are concerned about growing opposition to the EU in their own countries, notably in France where the far-right National Front has lauded Cameron’s EU policy.
“There is a strong economic argument for them wanting Britain to stay, and that’s been the case for decades,” said Kevin Featherstone, professor of European politics at the London School of Economics.
What’s changed is the new “additional political reason why European leaders wouldn’t wish to have the instability and potential chaos of a major state exiting,” he said.
The final deal, which leaders will thrash out at the summit, is a long way from being completed. While diplomats have made some headway over the past 10 days, several key parts remain open as nations push their own causes in areas such as how to protect the voting rights for non-euro members on financial and economic matters.
France, Germany and some other countries are “suspicious” that the U.K. really wants a veto for the City of London over EU regulation, according to Charles Grant, director of the Centre of European Reform.

Close Call
Even if an agreement is reached, it will count for nothing if Britain decides to end its 43-year membership in a referendum that could take place as early as June. Polls indicate the result could be tight.
While the U.K. wouldn’t spin out of the EU immediately in the event of a vote to leave, the short-term pain in financial markets might then give way to longer-term difficulties from losing one of the continent’s strongest economies.
The International Monetary Fund, for example, predicts the U.K. will grow 2.2 percent this year, faster than the 1.7 percent of the euro area. At Societe Generale SA, economist Michel Martinez estimates that Britain is more than twice as important to the euro region’s exports as China. From 2010 to 2014, the other states ran a trade surplus of about 3 percent of gross domestic product with the U.K.
That means Brexit would reduce the euro-area’s growth rate by around 0.25 percentage points annually for five years, according to Martinez. “That’s enough to mean the labor market would stop improving,” he said. “It would have a big impact.”
An even bigger threat comes from exposure to British banks.
Citigroup Inc. economists estimate the banks of 11 major EU countries had combined claims of nearly 1.3 trillion euros on U.K. counterparts, about 12.5 percent of GDP, led by Spain and Ireland. A 10 percent fall in the value of the banks’ claims would create losses of 130 billion euros or 1.3 percent of the region’s GDP, Citigroup
estimates.

“If ‘Brexit’ occurs, continental Europe will be relegated to second-class status,” said David Folkerts-Landau, head of research at Deutsche Bank AG. “The implications for the EU with the U.K. not being a member would be devastating.”