David A Meier, Economist at Julius Baer, says:
“We do not share the market’s perception that the call for general elections is a U-turn in Brexit politics. Rather, we expect PM May to stick to a hard Brexit stance. Apart from the fact that soft-Brexit speculation is creating volatility, we stick to our long-term bearish pound outlook at EUR/GBP 0.89 for the 12-months horizon.”
“Tuesday’s announcement of general elections in the UK led to a surge in the pound, gaining roughly 1.5% vs. the euro. Markets seem excited about the pound for two reasons. First, the postponement of the previous next elections from 2020 to 2022 allows more time and flexibility for the Brexit process, avoiding the possible scenario where either a prolongation of the talks beyond March 2019 or a very hard Brexit (no seamless trade deal reached with EU) create political turmoil in 2020. Second, the chances for May’s Tories to win a considerably larger majority are big, as polls show higher approval ratings and a (still) supportive economic backdrop.
“Many market participants now believe that, with a larger majority in the House of Commons, May will be able to pursue a more moderate Brexit stance, as the larger share of Conservative Members of Parliament would dilute the ones advocating a hard Brexit stance. However, we have doubts about both reasons. First, the relaxed timeframe looks compelling, but mainly from the UK’s side.
“Across the Channel, the EU is facing parliamentary elections in 2019 and will surely want to seal a deal beforehand. After all, they are confronting the UK with a ‘hard Brexit first, trade negotiations later’ stance.
“Second, we do not believe that Prime Minister May is willing to soften her Brexit stance before negotiations with the EU commence – from the perspective of political capital building, this makes little sense. We also do not buy the argument that markets believe that the Brexit will now be far softer than propagated by May. After all, making concessions on immigration policies, for instance, nullifies the purpose of the Brexit itself.
“Furthermore, there is no guarantee that newly elected Conservative MP’s will be softer on Brexit: approval shares were won by former PM Cameron predominantly from the UKIP (by calling the Brexit referendum itself), and fresh conservative voters will be willing to elect hard-Brexit seekers. In our view, it is more likely that May is trying to secure political backing in case her hard Brexit plans fail, which, however, would probably end her career as PM instead. Last but not least, it is very difficult to assess how many additional seats the Conservatives will actually win, as the single-district ‘winner-takes-it-all’ electoral system makes predictions very difficult.”