CEE markets focus on Brexit risks

The focus of investors in Central and Eastern Europe (CEE) is now squarely on the UK’s Brexit vote tomorrow. CEE has the largest linkages with the UK of any EM region, and so is more exposed to potential spillovers in the event that the UK votes to leave the EU. As it happens, we think the direct economic impact on CEE would be smaller than many fear. The region’s trade and investment ties with the UK are still fairly limited in size and pale in comparison to ties with Germany. Banking linkages are limited too. Instead, we would focus on the indirect effects on the region in the event of a vote to leave. For a start, the general uncertainty caused by a Brexit vote would presumably cause financial markets to sell off, with the most liquid markets in the region (notably the Polish zloty) likely to come under the most pressure. There could also be considerable political ramifications, with a Brexit vote likely to embolden populist policymakers in CEE, thus dampening medium-term growth prospects. In contrast, a UK vote to remain in the EU is likely to see financial markets in the region rebound over the coming days and weeks as some of the “Brexit premium” that has been priced in over the past month comes out. Just as Polish markets would be most likely to suffer in the event of a vote to leave, so they are most likely to gain in the event of a vote to remain.