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The British Pound Falls after Barnier Makes Bid for Northern Irish Sea Border

© European Union , 2018 / Source: EC - Audiovisual Service / Photo: Mauro Bottaro

Pound Sterling went lower into the weekend after European Union negotiator Michel Barnier appeared to suggest Brussels may seek a Brexit customs arrangement that places a border between the province of Northern Ireland and the rest of the UK, throwing Prime Minister Theresa May a fresh curveball.

The intervention comes as the British Pound once again becomes increasingly responsive to Brexit headlines having ignored the matter for much of 2018.

Speaking at a press conference delivered following the latest round of negotiations, Barnier told the media that although there is still much work to be done, progress has been made in the latest round of Brexit negotiations and that some of the remaining problems can still be solved before the June 28 European Council summit.

However, Barnier then rejected a recent UK government proposal for all of the UK to remain inside the customs union until an arrangement can be made that prevents the EU from imposing a so-called hard border between Northern Ireland and the Republic of Ireland.

“Let me be very clear. Our backstop cannot be extended to the whole UK. Why? Because it has been designed for the specific situation of Northern Ireland,” Barnier said. “What does it do? Northern Ireland would form part of our customs territory. What is feasible for a territory the size of Northern Ireland is not necessarily feasible for the whole UK.”

Brussels' apparent alternative would see the UK face a choice between what would be permanent customs union membership for all of the UK, or a so-called hard border between the island of Ireland and Britain, which would effectively annex the Northern Irish province from the rest of the UK.

Speaking alone after the latest round of meetings, in an address laced with barbs presumably directed at Prime Minister Theresa May and her handling of the negotiations, Barnier told reporters that customs checks "on ferries are less disruptive than those carried out on land". 

The former choice will go down poorly with Brexit-supporting lawmakers in the Conservative Party, potentially threatening Prime Minister Theresa May's leadership, while the latter could lead confidence and supply partner, the Democratic Unionist Party, to withdraw its support for the government.

"The EU has shunned the Government’s backstop proposal for the whole of the UK to remain in the EU’scustoms territory at the end of the transition period. It seems to us that this forces the Government intoa straight choice between accepting the need for checks on goods moving b etween  No rthern Irelandand the rest of the UK, or remaining in the Customs Union permanently after Brexit," says Andrew Wishart, UK Economist with Capital Economics.

For Sterling, these developments are double-edged: 1) It would be positive from a currency perspective if the UK were to agree to remain in a customs union with the EU permanently as markets and businesses don't have to factor in significant change over coming years. 2) It would be negative for the currency if the option laid out by the EU is rejected outright and forces the UK to walk away from the negotiating table to maintain the integrity of the United Kingdom. 

This outcome presents notable downside risks to the currency as market expectations would undergo a notable adjustment concerning the outlook.

The Pound is understandably nervous: it was quoted 0.41% lower at 1.3360 against the US Dollar following the press conference, deepening an earlier 0.15% loss, while the Pound-to-Euro exchange rate was 0.03% higher at 1.1379 after paring back an earlier 0.19% gain.

Sterling was lower against most other developed world currencies.

Negotiators from both sides have claimed to want to avoid a hard border between the Republic and Northern Ireland.

But fears over the "integrity" of the EU single market and customs union, in a post-Brexit world where the UK operates different trade tariff regimes with different countries to the EU, have led the EU to threaten a hard border on the Emerald Isle.

Brussels has now insisted the UK must either remain subject to EU oversight on international trade, tariffs and law in a range of areas to avoid a hardborder, or that it must accept a new border in the Irish sea that would separate Northern Ireland from the rest of the UK. 

Prime Minister Theresa May has been under growing pressure to present another plan for managing the Northern Irish border after Brexit, in time for the European Council summit on June 28. Failure to present something agreeable to EU leaders could mean trade talks are sidelined until the October summit that has always been seen as the final deadline for all agreements to be reached.

The final withdrawal deal, and anything agreed that covers the future relationship, will have to be ratified in all of the parliaments across the EU before the March 2019 Brexit date. This is a process that could take months and underlines the importance of resolving the key issues ahead of October.

For Sterling, expect Brexit headlines to become an important driver of value in June; we have reported numerous times that foreign exchange strategists are holing a coy stance on Sterling over coming weeks for this reason.

PM May also faces a series of votes in the House of Commons on Tuesday 12, June on whether to approve 15 “Brexit wrecking” amendments inserted into the EU Withdrawal Bill by the House of Lords. The amendments are fast shaping up to be one of the most signifcant tests of PM May's leadership to date. 

If the Prime Minister loses the votes, which some reports have suggested she might, then the UK will be required by law to remain a member of the EU single market and customs union and the House of Commons will have the power to send government back to the negotiating table if MPs are not happy with the final arrangements negotiated by Theresa May.

Such an outcome could reduce the prospect of a so called hard Brexit, where the UK leaves the EU in March 2019 without any arrangements for future trade in place, but may also dramatically raise the prospect of a challenge to PM May’s leadership.

That latter consequence would heighten the risk of another general election being called and, according to some, raise the prospect of a Labour Party government which poses a "severely" negative development for Pound Sterling.

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