Theresa May’s exit creates headache for Ireland’s economic planning

Theresa May's setting of a resignation date and the imminent setting in train of a Conservative leadership contest highlights a big headache for Ireland's economic planning. It now looks certain that nothing substantive will happen to break the Brexit logjam between now and September, as the leadership drama plays out. With an end-October deadline set for the UK's exit, a period of significant chaos and uncertainty – similar or possibly worse than what was saw in March and April – is then in prospect as we enter the Autumn.

And there is no certainty about whether the EU would grant the UK another extension in the Brexit deadline, or indeed even whether the UK would seek one. The leadership contest is already shaping up as a battle between the harder Brexit group and those wanting a managed exit, with Ireland having a major interest in the outcome. A no-deal Brexit would carry significant risks for the Irish economy.

The new Conservative leader will face the same issue as the outgoing one. This is that a majority in the House of Commons are opposed to a no-deal exit, but there is no majority for an approach which will avoid this outcome.

No doubt we will hear all kinds of "solutions" and promises to take a tough line with Brussels in the Conservative leadership contest, but the EU side has made clear that it is not for moving. The Irish Border issue will be front and centre in this debate. And the EU and UK sides are now most unlikely to re-engage until after summer break, some time in September. For the EU, contacts will restart with no progress made on passing the withdrawal agreement and possibly a new leader claiming a mandate for a new negotiation.

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For the Irish Government, planning its budget for 2020, this leaves an almost impossible position. Minister for Finance Paschal Donohoe will have to do his pre-budget planning in a kind of Brexit vacuum, initially with the summer economic statement, due next month, which gives the direction of budget planning. We will all hope that the economic shock of a no-deal Brexit can be avoided. But if it happens in October, or perhaps at the end of the year or in early 2020 after another, final, extension, it will hit growth and tax revenues.

With the budget due to be presented before the crucial EU council meeting in mid-October, which would consider any extension request, the risk for Donohoe is putting in place spending plans based on revenues which are vulnerable if growth slows due to a hard Brexit. The extent of the hit from a no-deal Brexit is debatable, but on most forecasts it would take a heavy toll on 2020 growth and the OECD recently warned that it could plunge Ireland into recession. Rural Ireland, in particular, is vulnerable due to the exposure of the food sector and small manufacturers to the UK market.

A no-deal Brexit would also immediately raise the crunch issue of the Irish Border – unless the North remains in customs and regulatory alignment with the Republic, then pressure will quickly come on Ireland to impose checks on goods entering the EU single market.

There may also be a more short-term factor. The reaction of sterling in the days ahead to May's departure is unpredictable. But the UK currency has weakened to over 88p against the euro, its lowest in four months, as Brexit uncertainty grows. And now the Conservative leadership contest is another risk factor in the mix. Reports say investors would be nervous of a Boris Johnson premiership, for example, fearing he would try to take a tough line with the EU and thus increase the no-deal risk.

While all this is speculation at this stage, the risk is that the inevitable noise during the leadership race and the ever-nearing deadline will lead to further sterling weakness. Any sustained rise to 90p or more would lead to a competitive squeeze on many sectors, notably the food sector and agriculture which rely on the UK for a significant part of their exports. It would also be negative for tourism from the UK into Ireland.

For the economy, the new political uncertainty in the UK and the likelihood of some kind of crunch on the Brexit issue in the Autumn contrast with the strong growth now being experienced. Jobs growth ran at a record level in the first quarter and the public finances are likely to remain strong. This will maintain pressure for more Government spending. How the Government handles this poses a real political dilemma.