We’re back to politics today. It’s unavoidable. At least for a quick update. Then we’ll discover who is about to pull the rug out from under the US stockmarket.

The EU has passed a resolution setting out how it plans to go about the Brexit negotiations. At the top of the list is the €60 billion bill the UK will get for leaving the EU.

This looks like bad news for Prime Minister Theresa May. The hard-line backers of Brexit think it’s ridiculous Britain should pay. I already explained why a €60 billion bill is in fact cheap.

But the interesting part is that the Europeans have painted themselves into a corner. To get to €60 billion, they’re going to have to highlight just how ridiculous the EU is. An itemised bill will expose the absurdity of the EU budget. Voters in other countries will be amazed what the UK was stupid enough to pay for all these years. And then they’ll wonder about their own commitments.

If the Brexiters have their maths right, the EU will owe Britain plenty of money in return. As Nigel Farage put it, the British are in fact shareholders in EU-owned assets. If the EU forces honouring future commitments on the UK, the UK has a right to sell the assets.

According to British analysis, the legal basis for the €60 billion is iffy in the first place. So it’s more of a negotiation position.

Put all this together and you reach a fascinating conclusion: the EU has picked an opening battle it is likely to lose. The question is why it did so.

Perhaps because EU negotiators know full well the legal basis for a claim on UK cash is iffy. Therefore they must get a negotiated deal on the €60 billion, or they will get nothing.

Without Britain’s financial backing the EU is a lot less powerful. The EU negotiators have upped the stakes on the first hand, hoping Britain will fold because a quick game looks like it was played badly. If we walk away from ridiculous demands at step one, Britain will look bad.

It’s strange how, on the one hand the Europeans keep affirming they want everything agreed upon in one go, while on the other hand they break down the negotiations into blocks that must occur in their order of preference. It’s very hypocritical.

Another part of the EU’s resolution is to bind the UK to EU rules while the negotiations take place. For example, we can’t make trade agreements with other countries.

Let’s do some quick maths here. Scenario 1: we take two years to get out of the EU, but we achieve a trade deal with the EU and only negotiate for other trade deals once we leave.

Scenario 2: we leave the EU today, and we lose free trade with the EU. But we get free trade agreements with major trading partners quickly, including the EU.

It’s not clear scenario 1 is better. The EU makes up just less than half our trade, but it has high tariffs with other countries. If we leave, we are no longer beholden to those high tariffs in our own trade policy. And we’re free to make trade agreements, probably much faster than the EU used to. As long as we do open to trade with the rest of the world, leaving the EU immediately could be better for trade. Especially once the EU realises its citizens want a trade agreement with the UK.

In other words, we have a stronger negotiation position with the EU from outside the EU.

Of course the obvious solution is to have a dozen trade deals ready to sign the moment we leave the EU. The EU can hardly stop informal negotiations.

The EU, now and then

Let’s think about this in two different time zones. One is the next five years. The second is 15 years from now.

I think it’s plausible that, if we leave the EU without much of a deal, we might be worse off in five years. Unlikely, but plausible. However, it’s very clear that in 15 years’ time we would be far better off thanks to innovation, trade with the rest of the world and Europe’s inherent problems. That assumes we don’t make a mess of our own policies of course. But the EU has a far higher propensity to do so.

In this scenario, is a hard and fast Brexit a good idea? Are you willing to have some rough years in exchange for a more prosperous future?

Isn’t it ironic that older voters favoured Brexit while the young voted Remain. The real benefits won’t be felt for many years.

Ever heard of a drug dealer who wants to sell less drugs?

The Federal Reserve is in the news for all sorts of reasons. First one of its top officials resigned for leaking information to the private sector. Then the minutes from the mid-March monetary policy meeting were released and gave up an even bigger surprise.

The policymakers are considering shrinking their balance sheet. That means reducing the money supply in the economy. Seems arcane, so let’s take a look at how this affects you.

This chart shows the US stockmarket index in orange and the Fed’s balance sheet in blue.

As you can see, the blue and orange line move together.

The narrative is as follows. At the height of the financial crisis of 2008, the Fed printed and pumped money into the financial sector to save it. That boosted the stockmarket… for a while.

Ever since, whenever the fragile recovery looked like it would falter and stocks began to dip or go sideways, the Fed began to print again.

Eventually it gave up on keeping the money supply stable and agreed on a steady regular increase. Stocks kept pace.

This is exactly how a drug addict behaves. First they use a drug to get high, then they use it when they’re feeling down, then they need it regularly just to keep going.

What do you think will happen if the drug-dealing Fed decreases the dose?

You can add this to the list of warning signs for the world’s stockmarkets.

Until next time,

Nick Hubble
Editor, Capital & Conflict