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Faculty Viewpoints: Long and short-term economic predictions for Brexit

This is the first article in a series of insights from Tufts Gordon Institute faculty on issues & news in leadership, business, technology and entrepreneurship.

The world was shocked when United Kingdom citizens voted to leave the European Union in June 2016. The unexpected results forced countries in Europe to reconsider the purpose of their economic bond, as its second largest economy prepared to exit. Now, more than a year later, the far-reaching impacts for the UK, Europe, and the world, are still being understood.

Tufts Gordon Institute recently spoke to Partha Ghosh, Professor of the Practice, to understand what Brexit means for the global economy. Prior to teaching Globalization & Multinational Strategies and Economics at Tufts, Partha led his own global consultancy practice in more than a dozen nations, and was a partner at McKinsey & Company. He currently advises and mentors leadership of large multinationals and start-ups on Strategic and Organizational issues. He is also the Chairman of The Boston Pledge, a philanthropic organization.

Tufts Gordon Institute: What global economic factors contributed to Brexit? Why did this happen now?

Partha Ghosh: The British people were proud of their manufacturing capabilities. Don’t forget, the Industrial Revolution began in England. But over the past 30 years in Britain, much of the manufacturing sector moved out of the country to regions where labor is cheaper. Workers started to see their old way of life fade, while at the same time, people from the outside kept coming in who were willing to work for less. Though this gradual process, an average Briton reached the tipping point and began feeling marginalized. Brexit seemed like a simple solution to their woes.

When the economy of a country is strong, people tend to be much more generous. It is easy to become global and celebrate the common beauties of humanity. In contrast, when the economy isn’t working – if it is stagnant or shrinking – and resources are tight, people start to look at each other with suspicion. Outsiders aren’t as welcome.

Are these factors playing out in countries other than the UK?

Yes – another factor for Brexit, which we are also seeing in the US, is what I call the ‘paradox of elitism.’ Larger corporations can see the beauty of globalization. With capitalism, globalization works beautifully, because a company can leverage resources, such as labor and raw materials, wherever they are cheapest.

In contrast, the individual worker doesn’t share that perspective. Their jobs, where their ancestors had thrived, are at stake in a globalized economy. So what do they do? They start losing trust with the elites. They lose confidence in the decisions of corporations and governments. An average worker doubts that people in power have their “best interests” in mind. The more commoditized the working class gets, the more fragile the relationship between different economic classes becomes. People tend to make more emotional political choices.

What are the potential short-term impacts of Brexit?

In the short term, I think we will see a significant increase in corporate tension, particularly in companies that are headquartered in the UK. Before Brexit, companies in the UK did not have to negotiate to do business with other European countries. Now, those companies will have to build new relationship with EU countries.

I believe this will lead companies to become more cautious. Companies may not invest as aggressively. We will have to wait and see the long-term impact. As companies adjust, we could witness a slowdown of the British economy.

We have already seen the value of the pound drop, which is serious. Britain imports a lot of products, which in the local currency will become more expensive. Prices of everyday products could go up. Furthermore, it may not bring back many jobs if companies are not investing.

What could Brexit mean for the global economy in the long term?

Nevertheless, I see this all with a positive mindset. For the past 500 years, Britain has always played a frontier role in the world. The country has faced many difficult situations and has always found solutions.

To look at it optimistically, Britain is laying the foundations for a new era. If the country’s leaders handle Brexit well, the UK will have a new place in the world’s stage: a nation that is global and yet sensitive to the local communities. Britain could create a new model for how a nation organizes itself in the global economy, with a focus on the people at the base of the pyramid, while being globally competitive.

A new model of capitalism could emerge, which is efficient in allocation and deployment of global capital, yet compassionate to advancing the aspirations of local communities. A renewed emphasis on ‘Economic Sovereignty’ would create a positive networking between nations – global, yet alert to local requirements.

Let’s take a step back. To understand Brexit, what should know about the European Union and Europe in general?

I think it’s useful to go back and re-examine the assumptions on which the architecture of the European Union was founded. In the late 1980s and 90s, there was a lot of excitement that this union would usher in a new era for Europe, and give European companies access to one large single market, making them more competitive against the rising corporate powers from East Asia, particularly Japan, and the continuing domination of American companies.

It is interesting that Switzerland, one of smallest countries in Europe and host to several competitive companies such as Nestlé and Novartis, did not join the union. It proves false the assumption that if a company’s home market is big, the company will be more competitive. European companies such as the German auto and chemical industries, which were strong pre-EU, continued to be strong post-EU, while competitive companies who were not in the EU – from Switzerland, Norway, Finland plus those from North America and East Asia – took advantage of the single market.

Moreover, as the EU was formed, the common person’s life did not really change or get better. In fact, for several population segments, life became more difficult. The EU’s governance was a complex bureaucratic structure centered in Brussels, removed from daily life for many.

What kind of challenges were countries in the European Union facing before Brexit?

As my advisory work exposed me to factories and workplaces in Europe, from Portugal to Sweden, from Ireland to Greece, and Turkey in the East, it was easy to note the significant differences in how the European economies function. What inspires a worker in Porto, Portugal, versus a worker in Munich, Germany, is very different.  Similar to what I observed when I was growing up in India, it is so difficult to create a harmony of cultures, a harmony of languages, a harmony of work ethics, and a harmony of economic and social well-being among states of the country.  Such differences become more glaring when countries with poorly-performing economies had to be subsidized by tax payers in other nations – for example, PIGS (Portugal, Italy, Greece and Spain.)  At this point, tensions between nations overshadowed any benefits that the founders of the EU had envisioned.

Furthermore, it is important to understand the “psychology of sovereignty.” As the world gets more globalized, the need for an “identity” is more important.  With the creation of the EU, a citizen of a member nation perhaps did not know how to identify himself or herself in the broader context.

Difficult questions emerge: Am I part of Europe? What does that mean? Am I in my own country? Britain was seeing a lot of change: Losing manufacturing jobs to China, Hungary, Mexico, and Poland. Plus, the UK experienced a surge of close to 5 million people from other parts of the EU in a short period of time, creating what we in Economics call “crowding effect.”

Look at the big picture: In less than a hundred years, this big empire where the sun never set, the United Kingdom, became a small crowded country with a fading identity.

How does the Brexit outcome contribute to your understanding of globalization?

Globalization is not new – it’s been happening as long as there have been countries. But the speed of globalization has changed. Countries need to readjust and evaluate how to maintain their place in the world. As Adam Smith [Scottish economist, philosopher] used to say, the power of self-interest drives the economic well-being of society.

Now, I see the need for a new vision of the global economy, one that will tie societies together and celebrate the dignity of labor while maximizing return of global capital. In the future of globalization there will be a debate around how to create a ‘symphony of nations.’ Every country will have a unique role to play, and no country will be left behind. Strategic management and governance of nations will require a higher level of leadership expression.