GBP/USD: 3 scenarios for the Brexit vote in Parliament

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  • The UK Parliament will vote on the Brexit deal on December 11th.
  • Uncertainty is high, but the government is unlikely to win.
  • There are three scenarios with three different reactions for the Pound.

Nearly two and half years after the British people shocked the establishment by voting to leave the European Union, an agreement has been reached, and Parliament votes on it.

The UK House of Commons has begun its lengthy debate on the Brexit agreement that Prime Minister Theresa May reached with the European Union. The discussions will culminate in a vote scheduled for Tuesday, December 11th. The exact hour is unknown.

The vote has significant implications for the UK economy, and also on some euro-zone countries. Very high volatility is expected in the Pound, and considerable action is also warranted in the Euro.

Divided Parliament

The ruling Conservative Party does not command an absolute majority and lost the support of the Democratic Unionist Party (DUP) that provided support on a “supply and confidence” arrangement. The 10-strong Northern Irish party objects the agreement on the Irish backstop which gives the territory a different status than the rest of the UK.

Quite a few members of the PM’s own party also oppose the agreement. Staunch supporters of Brexit criticize the dependency of the UK on EU rules and regulations and state that Britain will turn into a “vassal” state instead of taking back control. The legal advice included the words “endure indefinitely in the customs union” do not help alleviate concerns.

The opposition parties vowed to reject the agreement as well. The Labour Party leans on the economic projections that project that the UK will be worse off under any Brexit scenario. However, some members of the main opposition party may “rebel” and vote with the government.

The Liberal Democrats are staunchly pro-European and want the UK to remain in the EU. The Scottish National Party (SNP) also support remaining and are frustrated with Northern Ireland’s special status, contrary to Scotland’s.

3 Scenarios

In the first day of the debate on Tuesday, December 4th, the UK government was defeated in three votes. The most significant one is that if MP’s reject the deal, they will decide on the next steps. With a pro-Remain majority, the Pound reacted positively. According to the opinion of the Advocate General at the European Court of Justice, Briain can unilaterally revoke Article 50, or in other words, reverse Brexit.

However, the moves were limited as Parliament is unlikely to go against the results of the EU Referendum.

According to the public statements, the agreement is doomed to fail. However, nothing is certain in politics, and even if the Hosue rejects the deal, the size of the defeat matters quite a bit for the next stages and the currency reaction.

Here are three scenarios

1) Deal initially rejected, but with a small margin

As mentioned earlier, counting the public rejections is enough for a vote against the accord. Moreover, the government was already defeated in the procedural vote. However, there is a good chance that May musters enough loyalists to make it a “respectable loss”: only by 50 MP’s or fewer.

In this scenario, GBP/USD falls significantly and so do stock markets but without a total collapse. This scenario is somewhat priced in. The PM then returns to Brussels to renegotiate a better deal. After quick and intense talks she returns with minor tweaks.

The combination of May’s new achievements, the fear of a greater crash in markets, and also fear of new elections and MP’s losing their seat changes some minds. A second vote on the amended deal is held and this time it passes by a small margin. The Pound rallies alongside stocks.

Many Conservative MP’s are afraid of a new election that would bring Labour’s Jeremy Corbyn to power. They would also find it easier to justify their change of heart if the deal changes. And while the DUP is expected to reject a second agreement as well, there may be enough Labour rebels to pass May’s deal over the line.

There is always a chance of failure in the second vote. While it is low in the second time around, it would lead us to the second scenario.

Probability: High

GBP/USD reaction: choppy, first down, then probably up.

2) Deal rejected with an overwhelming majority

In this scenario, things get worse for the government, especially after the legal advice is a dent in May’s efforts to convince swing Tories to vote for her. In addition, Labour whips get their act together and only very few members break the party line and vote with the government.

The outcome is a defeat by well over 50 MP’s, perhaps as broad as 100. Such an outcome will leave May in an even more perilous state and she will be called to resign. The level of uncertainty will be extremely high, sending the Pound taking a deep dive with stocks.

MP’s will then decide on the next steps, but as mentioned, they are deeply divided, opening three sub-scenarios.

The longer the uncertainty continues, the deeper the dive.

2a) Elections without progress on Brexit

There are various outcomes in this scenario, with the most likely one being a general election. This would prolong uncertainty. In addition, the opposition Labour Party has a good chance of winning. Markets will not like the prospects of Jeremy Corbyn, a hard-left leader, entering 10 Downing Street.

While the election campaign continues, the clock continues ticking towards March 29th, 2019, Brexit Day. Without a deal, the UK leaves without a deal. The prospects of a hard Brexit will rise and GBP/USD could dig the bottom.

2b) A second referendum

In another sub-scenario for a broad rejection of the deal, MP’s could decide to hold a second referendum on the deal. However, it is unclear what the question will be: The deal and no-deal? The Deal and no Brexit? Or all three options.

In any case, a second vote could add further pressure on the Pound.

2c) Revoking Article 50

Most MP’s are pro-Remain but have vowed to respect the will of the people. But amid a political chaos, they could decide to revoke Article 50 and reverse Brexit, at least temporarily, to provide some calm. They will also pledge to continue with Brexit in a more orderly fashion after a serious debate and new elections.

New elections mean uncertainty but canceling Brexit will likely cause markets to cheer and rally hard. Sterling could surge to new highs.

All in all, the scenario of a considerable defeat will be initially negative for GBP/USD and will most likely turn even worse. Only if MP’s decide to undo Brexit will Sterling surge.

Probability: Medium

GBP/USD reaction: A plunge, unless MP’s immediately plot revoking Article 50.

3) Deal surprisingly passes

The PM has shown a lot of resilience in selling her Brexit deal. She does not miss an opportunity to address the public and Parliament and shows a great knowledge of the detail. Her stamina may convince some Tory Brexiteers that rejecting the deal may cancel Brexit.

Moreover, the fear of new elections and a loss of their seats may also make them change their minds. Another political calculation, at least by the contenders to inherit May, is that they would prefer her to own Brexit and they could still blame her later.

In addition, more Labour rebels may prefer to “get over with Brexit” and not go against the “will of the people.” Similar to the argument about Tory Brexiteers, they would prefer the deal to pass and save their powder for the day after Brexit. Most of the blame for a disappointment from the deal will fall on the government anyway, and Labour could reap the political benefits.

In this scenario, the deal passes by a strong margin. GBP/USD rallies hard on this unexpected outcome that is not priced in at all. A huge dose of uncertainty is removed, at least until the transition ends, which is at least the end of 2020.

All in all, the low probability and the sudden certainty may result in a massive rally.

Probability: Low

GBP/USD reaction: A surge.

Conclusion

The Brexit vote on December 11th is critical for the future of the UK, the economy, and the Pound. The most likely scenario is a small defeat for the government followed by a success after tweaking the deal. The pound is set to fall but rallies afterward.

Another option is a major defeat resulting in elections or a second referendum of sorts. The Pound is set to plunge sharply on the huge level of uncertainty. MP’s can still revoke Article 50, marking a massive upside turnaround for the Pound.

A third and unlikely scenario is that May musters enough support to pass the deal. This unlikely scenario will likely send Sterling surging as it is not priced in.

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Yohay Elam – Founder, Writer and Editor I have been into forex trading for over 5 years, and I share the experience that I have and the knowledge that I’ve accumulated. After taking a short course about forex. Like many forex traders, I’ve earned the significant share of my knowledge the hard way. Macroeconomics, the impact of news on the ever-moving currency markets and trading psychology have always fascinated me. Before founding Forex Crunch, I’ve worked as a programmer in various hi-tech companies. I have a B. Sc. in Computer Science from Ben Gurion University. Given this background, forex software has a relatively bigger share in the posts.