Brexit, Hong Kong and the US elections

Bill Clinton never tired of saying that when it came to elections it was the economy that mattered, stupid.

As the 2020 election season ramps up, two global events beyond President Trump’s control threaten to be decisive in determining the U.S. economic environment in which he will be fighting that election. The first is the manner in which the United Kingdom might leave the European Union. The second is whether the political crisis in Hong Kong can be resolved without mainland China sending in troops to quell the island’s political unrest.

An unfavorable Brexit or China’s use of force in Hong Kong before year-end could roil both the U.S. and global financial markets and put paid to Trump’s hopes of reelection by denting the U.S. economy.

Boris Johnson, the UK’s new prime minister, is committed to having his country leave Europe on October 31, 2019, with or without a Brexit deal. He is threatening to do so despite the warnings from the Bank of England that leaving Europe without a deal would plunge the UK economy into a deep recession. According to the Bank of England, in the event of a no-deal Brexit, the UK economy could decline by more than 5 percent over the next twelve months.

Trump is encouraging Johnson to opt for a hard Brexit by promising to quickly negotiate a highly favorable U.S. free trade deal for the United Kingdom. This would suggest that Trump is blissfully unaware as to how damaging a hard Brexit could be to the European and global economies.

One reason for fearing that a hard Brexit would have adverse economic consequences well beyond the UK’s borders is that it would be occurring at a time that world trade tensions have already led to worldwide economic slowdown. As if to underline this point, Germany, Europe’s economic powerhouse, is on the brink of economic recession. The last thing the German economy needs is a major economic slump in the UK, which is one of its major export markets.

More troubling yet is the very real risk that a hard Brexit could cause an escalation in the world trade war. It could do so by causing a large decline in the value of the pound that would almost surely drag down an already weak Euro.

That in turn would be bound to give fuel to Trump’s oft-repeated charge that the Europeans are manipulating their currency to gain an unfair competitive advantage at U.S. expense. It would also heighten the risk that Trump might follow through on his threat to impose a 25 percent import tariff on European automobiles, which would deliver a serious body blow to an already weak European economy.

Now that China’s 70^th anniversary celebrations are behind it, there is the real risk that mainland China will soon use force to quell the Hong Kong protests. Were that to occur, it would almost certainly lead to an escalation in the U.S.-China trade war in a manner that would be beyond Trump’s control. One would think that it would only be a matter of time before an irate Congress on both sides of the aisle would react to China’s trampling of its “one country two systems” policy with the imposition of punitive economic sanctions against the mainland. One shudders to think how much further damage that would do to already nervous world financial markets.

Hopefully, both London and Beijing appreciate the grave risks that face their respective economies from a hard Brexit in the case of the UK and from the use of military force in the case of China. This might deter Boris Johnson from allowing the UK to crash out of Europe without a deal on October 31. It might also encourage China to seek a more consensual way of resolving the Hong Kong crisis.  

Sadly, as Trump must know too well, politics often trumps economic considerations in the taking of consequential policy decisions. If that were to occur in either the case of Brexit or the case of the Hong Kong crisis, Trump’s chances of reelection would seem to be slim.

Desmond Lachman is a resident fellow at the American Enterprise Institute. He was formerly a deputy director in the International Monetary Fund’s Policy Development and Review Department and the chief emerging market economic strategist at Salomon Smith Barney.