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Economy

Brexit – We are prepared for any eventuality

The UK’s exit from the EU is the most hotly discussed topic in Europe at the moment. It affects everyone, including citizens, industry and the insurance sector. Bernhard Kaufmann, Chief Risk Officer, and Michael Menhart, Chief Economist, explain the measures taken by Munich Re to prepare for the future.

18.12.2018

On 29 March, Brexit is scheduled to become reality. Despite this fact, we are none the wiser about what it will actually entail. Is the chaos causing you headaches?

Bernhard Kaufmann: Had I been personally responsible for the negotiations, I would certainly have felt frustrated at times. But it was clear from the beginning that the two sides would be arguing their case until the very last minute. The difficult political situation in the UK means that uncertainty remains high. As yet, no one knows what the final outcome will be. Whatever happens in the end, Munich Re is prepared for every scenario.

Prime Minister Theresa May has postponed the vote in parliament and survived a vote of confidence within her own party. What happens now? 

Michael Menhart: At the moment, it’s impossible to say. So far, the EU has declared that it is only willing to consider cosmetic changes to the agreement. If that remains the case, it will be very difficult for Theresa May to win a majority for the draft agreement and the political declaration on the future relationship. The worst-case scenario would be a “no-deal” Brexit, with all the consequences that would have. Though there may well be huge problems in the short term (e.g. delays due to border checks at Dover), that still doesn’t mean we will sink into chaos. All parties involved have had enough time to prepare themselves for what might happen. Companies ought to have emergency measures ready to get out of the drawer.

What would be the impact of a no-deal Brexit on the UK economy?

Menhart: Opinions are very divided. The Bank of England fears a disorderly Brexit would lead to the worst recession in Britain since World War II. Other economists are less pessimistic, predicting that gross domestic product (GDP) would fall by just 2–3%. Two things will be critical: how the financial markets react, and the extent to which the blow can be cushioned by transitional arrangements.

Kaufmann:
During its preparations for the various possible outcomes, the British government has taken steps to ensure that there would be no chaos in the event of a no-deal Brexit. At the beginning of November, the UK parliament adopted the temporary permissions regime – which is important for us. Under a temporary arrangement scheduled to last until 2022, we will be able to continue with our insurance activities in the UK even if there is no deal with the EU. But one thing is certain: business processes will become more complex, as multinational business is also placed on the London market, and we will now have to separate off EU risks and write them in the EU.

What would an orderly departure involve – both economically and politically?

Menhart: I do not expect any dramatic economic impact in the short term – in either the UK or the EU. If everything goes as planned, i.e. a withdrawal agreement including a transition period lasting until the end of 2020, nothing much will change at first. Negotiations on the future relationship are to take place during the transition period. The uncertainty – which will remain notwithstanding the withdrawal agreement – will mainly be a problem for the UK economy. In the long run there will be disadvantages for both sides, and for the UK in particular. Even the British government admits that. Politically speaking, a less-united Europe will be less powerful on the global stage. The UK accounts for around 15% of the EU’s total GDP, more than 20% of listed companies are registered there, over 60% of the top universities call the UK their home, and the UK is immensely important to the EU when it comes to foreign and security policy.

Kaufmann:
When we started to prepare for Brexit, it was brought home to us just how convenient and advantageous the European single market is for our business. Following the UK’s vote to leave the EU in June 2016, we suddenly faced the problem of needing different and additional licences. In future, our activities will be spread over two separate legal regimes. We not only had to apply for licences in the UK, but also for our business in Ireland that we have been writing out of branches of our UK subsidiaries.

Do you think another referendum is a possibility?

Menhart: Given the latest developments, I do not think that a second referendum is out of the question, despite the fact that recent polls do not show any significant shift in opinion among the British public. But it would not be possible to hold another referendum before 29 March, so the two-year withdrawal period would have to be extended. The EU would presumably agree to this. My view is that we would then have a very long transition phase in which anything could happen – with a no-Brexit scenario also becoming a realistic possibility. The fact that, according to a recent ruling by the European Court of Justice, the UK could unilaterally reverse its decision to leave could make that easier.

Munich Re does a lot of business in the UK. What are the implications of all of this for our Group?

Kaufmann: When the referendum was announced back in 2016, our Group had eleven different entities in the UK. We are simplifying this set-up and will continue to conduct our business with fewer legal entities and reduced organisational complexity. For this purpose, we are turning some of our branches and subsidiaries into managing general agents (MGAs). Such MGA sales units carry no risk themselves. The remaining legal entities of the GLISE branch will take on the risk for non-life insurance and reinsurance, while Münchener Rück AG will do the same for life and health reinsurance. This means that we will go from a bundle of different units to just two legal entities and risk carriers.

When are these arrangements due to take effect?

Kaufmann: We will be writing business in this new set-up from 1 January 2019 in order to ensure consistent treatment for the whole year. The implementation of our solution, however, will take another few years, especially as certain aspects of the new regulatory environment have yet to be determined. And we will also, of course, still need to adapt to any political changes.

What specific impact will all of this have on our business – and on our clients and brokers?

Kaufmann: As a rule, EU risks will have to be written in the EU, and UK risks in London. Take a cover for a German car manufacturer, for example. Previously, we were able to write this out of London, as it made no difference where in the EU the risk carrier was located. In simple terms, the car manufacturer will be an EU risk after Brexit and the cover will thus, as a rule, have to be written by a legal entity in the EU. This has a significant impact on the London market, as so many very large and special risks are written there. Industrial risks now need to be separated into UK risks and EU risks. For this reason, minor adjustments to client and broker relationships are unavoidable. Whatever happens, we will still be able to do business with our clients. It will not result in more business, but will lead to more complex processes.

Menhart:
There is one other thing that I think is important. The EU has spent a lot of time and energy dealing with Brexit over a number of months – if not years. As a result, other topics important for the future have received too little attention. In the long run, this will have a negative impact on Europe’s competitiveness. It would have been much better for the UK and the EU to continue to work together on a digital strategy for the future, in order to be able to compete with China and the USA. In my opinion, that is where our most important challenges will lie in the long term.

Our experts
Michael Menhart
Chief Economist at Munich Re
Bernhard Kaufmann
Group Chief Risk Officer at Munich Re
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