7691_Continental Drift_occupier_FINAL

Continental Drift Occupier editionThe wider economic and property market implications of Brexit

September 2016 | Global Research

The European effect

THE EUROPEAN EFFECT 1

© 2016, CBRE Ltd.

Introduction and Summary

This ViewPoint looks at what might happen now that the UK has voted to leave the EU. It discusses the likely timetable for Brexit, the possible impact on the UK economy and what alternative trade structures might be available for the UK to join.

This report goes into further detail on which UK industry sectors might be affected and which European cities might benefit from Brexit relocation. It concludes by looking at what the wider impact on the rest of the EU might be — negative as well as positive.

The referendum has happened and there has been a vote to leave the EU. But there is considerable uncertainty over how long the process will take and over what the eventual relationship between the UK and EU will be.

We believe that leaving will neither be quick nor dramatic in its effects. Rather, we expect a ‘long goodbye’ stretched out over two years or more. Article 50 of the Lisbon Treaty provides for a two-year exit period once a member state decides to leave, but the UK looks unlikely to serve a formal decision any time soon. We think the Article 50 notice is not likely to be served until late 2017 at the earliest.

1 2 3The potential impact on the UK of leaving the EU

The direct economic impact of Brexit on the rest of the EU

What will happen to the EU when the UK leaves

CONTINENTAL DRIFT THE EUROPEAN EFFECT 32

© 2016, CBRE Ltd.

Finance, digital-tech and business services are most at risk Most of the published analysis on the impact of ‘Brexit’ has focused on the economy as a whole or on financial services. We would add the business services that sell most to financial services and the tech industries to the list of sectors at risk. Indeed, if business surveys are anything to go by, it looks like the tech industries might be more vulnerable than financial services post Brexit. The main worry over financial services concerns regulation and the possibility that UK-based banks might not be able to operate directly in the EU unless the existing passporting rights are carried forward. Continuing passporting rights cannot be taken for granted.

Many business services (legal, accounting, management consulting) depend on financial services for a substantial part of their business and they are often co-located in major financial centres. If Brexit impacts on financial services it is very likely to affect other sectors in the supply chain too.

The tech industries, by contrast, are more worried about limitations on skilled migrant labour.

• Frankfurt and Paris are the most talked about alternative destinations for banking jobs. Dublin and Amsterdam could also lay a claim to some of the re-located roles.

• London‘s tech sector could lose jobs and companies to a number of competing centres in the event of Brexit, with Berlin being a front runner to gain jobs. Other cities that stand to gain include Stockholm, Dublin, Paris and Amsterdam.

• Given the growing importance of the Fintech sector, cities like Amsterdam and Dublin which show up on both the list of alternative banking and tech centres might be well placed. Paris could also do well if it can build on the advantages of its established banking sector and its embryonic digital tech sector.

Property implications

There is massive uncertainty over the timing of Brexit and the shape of the eventual settlement. It will be tempting for occupiers to wait and see before making major leasing decisions but it could be a long wait.

The leave vote is likely to take the pressure off London rents and availability in the short-term but a reduced development pipeline means that the situation could reverse within five years. If the location of choice has to be London, the next one or two years will be a good time to secure a new lease.

“The main worry over financial services concerns regulation and the possibility that UK based banks might not be able to operate directly in the EU”

The EU could face further fragmentation and risks becoming more inward looking without the UKAll of the above discussion of relocations and alternative cities is based on the premise that the UK would lose out and the rest of the EU would gain from Brexit. Such an outcome is by no means assured. There are scenarios in which the remainder of the EU could go through a difficult time in the event of Brexit. This could take the form of further fragmentation or, because an EU without the UK adopts a less outwards looking, more regulatory and more anti-competitive stance. This need not be the outcome, but there is a worry that without the UK presence, the direction of EU policy making might change for the worse. Alternatively, Brexit could prompt a much more fundamental European re-alignment with the EU and the Euro-area merging into a single more politically integrated block that has a much looser relationship with the rest of Europe.

There will also be offsetting effects

• At the time of writing, Sterling has fallen by over 11 percent against the euro since the referendum (over 15 percent since the end of 2015). The future path of exchange rates is always uncertain but most forecasters don’t expect sterling to recover to its previous levels while the period of uncertainty continues and many think it may take a long-term hit.

• The UK government is likely to announce a number of measures aimed at offsetting the negative impact of Brexit. These will range from additional infrastructure spending, to lower Corporation Tax and possibly other cuts to the corporate tax bill as well as deregulation — although the latter could take some time to come through.

• This combination of offsetting factors may actually make the UK more attractive for occupiers if the UK can negotiate a beneficial settlement on trade and passporting rights. And for occupiers, regardless of the settlement, this could have a positive impact if they’re not particularly sensitive to the eventual negotiated settlement.

For those companies who feel they have to re-locate some or all of their functions from London there are some alternatives. But none have the same mix of scale, skills, infrastructure, regulatory environment and office stock as London but their property costs at least, are cheaper and they all have full access to the Single Market.


© 2016, CBRE Ltd.

A summary of the impact on the UK of leaving the EU

The UK’s exit will be a ‘long goodbye’

With the UK decision to leave now official, its future relationship with the EU could take many forms. And it’s not in the Prime Minister’s interest to spell out a detailed exit plan which would give away her negotiating strategy.

Some leave campaigners would probably only be satisfied with the loosest of relationships with the EU. And indeed control over migration — a key driver for the leave campaign — would only be possible if that relationship was very loose indeed. Membership of the European Free Trade Association (EFTA), for example, does not remove obligations to permit freedom of movement of people, goods, services or capital.

Options for a new relationship between the UK and the EUThe new UK government will want to carve out its own relationship with the EU. The UK economy is both larger and has closer links than other countries whose relationship with the EU have been offered up as a potential model for the UK.

Leaving would neither be quick nor dramatic in its effects. Rather, we expect a ‘long goodbye’ stretched out over two years or more. Article 50 of the Lisbon Treaty provides for a two-year exit period once a member state decides to leave, but the UK looks unlikely to announce a formal decision any time soon. We think the Article 50 notice is not likely to be served until late 2017 at the earliest.

Either way, the uncertainty involved over both the process and the outcome would result in significant delays in decision-making. But, other than immediately after the referendum itself, the property market would not change comprehensively overnight. There are many other factors affecting decision-making, and unwinding the UK’s existing relationship with the EU will take time.

1

The Norway optionNorway has access to the single market, including passporting rights for financial services but accepts the free movement of people and makes a contribution to the EU budget (which is about the same as the UK current net contribution on a per capita basis). While this would be very acceptable to many UK businesses, as representing EU membership in all but name, it will not be acceptable to the Brexit lobby.

The Swiss optionSwitzerland has negotiated a series of bilateral deals with the EU which gives access to the single market for most goods and services but doesn’t have full passporting rights. In return it accepts freedom of movement of people and a budget contribution. Consequently, a similar deal will not be acceptable to the Brexit lobby.

The Canada option Negotiations were completed in 2014 on a trade deal between Canada and the EU. It fully liberalised trade in industrial goods and substantially liberalised trade in services. There are also sections of the temporary movement of company employees and the mutual recognition of qualifications which, if adapted to a UK context, could go some way towards allaying UK companies’ worries over access to continental labour. On the downside, Canada doesn’t have passporting rights and there are potentially onerous ‘Rules of Origin’ — for example, Canadian exporters have to prove that goods have a certain Canadian content. The deal also took seven years to negotiate and it still hasn’t been implemented.

Nonetheless, comparisons will be made and lessons will be drawn. The main issues for the UK will be access to the single market — the preservation of free trade, including trade in services — and the retention, if possible, of passporting rights by which a UK-based and licenced bank can operate freely across the EU.

Below are the three most common types of UK-EU relationships suggested.

This section briefly reviews what will happen now that the UK has voted to leave the EU

But, other than immediately after the referendum itself, the property market would not change comprehensively overnight.


© 2016, CBRE Ltd.

If Brexit means lower growth, occupiers will take less space Most, but not all, experts feel that the UK will suffer economically from Brexit, but estimates of the impact on growth vary substantially. The view of the majority is that the UK property market will suffer an adverse ‘demand shock’ arising initially from uncertainty and falls in business and consumer confidence.

Property investment will be reduced by uncertainty and exitA poll of CBRE investor clients in February 2016 confirms the findings of earlier surveys; that property market investors overwhelmingly feel that the UK would be a less attractive place to invest if it were to leave the EU.

“The view of the majority is that the UK property market will suffer an adverse ‘demand shock’ arising initially from uncertainty.”

Reductions in labour availability arising from migration controls will vary substantially because some sectors are more dependent on migrant labour than others. The food and hospitality sectors, for example, could be very exposed to labour market restrictions and the technology sectors are also concerned about any limits to their ability to recruit from other EU countries. The financial services sector is also exposed because of the potential change in the regulatory environment, and in terms of trade with the EU. In particular, the UK could lose the advantages conferred by so-called ‘passporting’ arrangements, which allow regulated services firms to operate anywhere in the EU provided they have a base somewhere within it.

CBRE has conducted this poll for three years, and the most recent survey shows a hardening of opinion. We find a sharp reduction in those who think exiting the EU would make no difference to investment from 33 percent in 2014 to 21 percent in 2016. The proportion of respondents who think the UK would be a worse place to invest has risen from 32 percent in 2014 to 46 percent now. Foreign and domestic investors are likely to be affected by Brexit in different ways.

Worst CaseBest Case

-15 -10 -5 0 5 10 15

LSE/CEP (2016)

HM Treasury (2016)

NIESR (2016)

CBI (2013)

Oxford Economics (2016)

PwC/CBI (2016)

NIESR (2004)

Open Europe (2015)

Economists for Brexit (2016)

IoD (2000)

Minford & Mehembare (2005)

Civitas (2004)

Congdon/UKIP (2013,2014)

Figure 1: Recent estimates of the impact on UK long-run GDP of the UK leaving the EU (%)

0

5

10

15

20

25

30

35

40

45

50

Makes the UK a much lessattractive location

Makes the UK a slightly lessattractive location

Makes no difference Makes the UK a slightly moreattractive location

Makes the UK a much more

attractive location

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201620152014

Figure 2: CBRE Investor Intentions Survey

Source: CBRE, 2016Source: CBRE, 2016


© 2016, CBRE Ltd.

The impact on property — a London office market case studyWhat is good for the economy tends to be good for property and vice-versa. If jobs do leave the UK, the demand for office space particularly, but not solely, in London will fall and rents will be lower than they otherwise would have been. Pricing reacts more quickly than rents so yields could be expected to rise in response to both the uncertainty and the reduced prospects for rental growth.

One thing that almost all of the economic studies conclude — whether for or against EU exit in the long run — is that a leave vote would usher in a period of uncertainty lasting at least two years and possibly more. The consensus is that this will affect economic activity although there is not that much evidence of it so far. The London economy is likely to be at least as vulnerable as the UK as a whole and this is likely to lead to a period of falling rents — effective if not headline (which would happen rather sooner than the supply-induced fall in rents that many forecasters, including CBRE, have already factored in before the referendum).

If the UK successfully negotiates a reasonable trade deal with the rest of the EU — which guarantees acceptable access to EU markets for services as well as goods — econometric analysis by CBRE shows that central London office rents might actually be higher after five years than in our published forecasts.

This is because the initial bout of uncertainty and depressed economic activity leads to a considerable proportion of early-stage development projects being put on hold or cancelled altogether. This helps to improve the demand-supply balance in the market once occupier markets start to recover as uncertainty dissipates.

Even in a worst case scenario, where negotiations with the EU do not go well, rental growth expectations — rather than rental levels — could soon be higher than in the base case. This is partly because of the impact on development and because of the changed profile of occupier demand which would still be much weaker in the short-term than in the longer term.

If yields rise but then gradually return to CBRE’s base case (or possibly lower, because of higher rental growth expectations), values would fall after the referendum but potential capital value growth prospects (rather than levels) post Brexit would be immediately better than in the base case — whether the UK manages to negotiate a good deal with the EU or not. That could present some interesting opportunities for investors who share a similar view of how the market will evolve.

This analysis is based on the kind of negative impact scenarios than have come out of a number of studies. Some of the studies, however, have a positive view of the economic impact of Brexit, most notably the Economists for Brexit report published in April1. Their analysis argues that Brexit would be beneficial and that companies and investors would realise this immediately; so there would be no period of uncertainty. A period of ‘business as usual’ would then be followed by a period of economic improvement as the gains from Brexit kicked in. This scenario would certainly not harm the occupier market and the higher GDP and higher inflation contained in this scenario should actually push rents up.

1 The Economy after Brexit, April 2016. http://www.economistsforbrexit.co.uk/


© 2016, CBRE Ltd.

The direct economic impact on the rest of the EU2

As section 1 has demonstrated, it’s not clear exactly what the economic effects on the UK economy Brexit will have. But there’s a broad consensus of opinion and pre-referendum economic impact studies, as well as economic forecasts published since, which also suggest that there will be a net negative effect.

This raises the question of what would happen to the economic output and jobs which might be lost to the UK. Will the jobs crop up in other parts of the EU or would they simply disappear altogether? In summary, the key questions for section 2 are: ‘What jobs?’ ‘Where might they go to and when?’

Some sector bodies and industry leaders were vocal in their support for continued membership of the EU, with banks probably making the most noise. Industry organisations representing sectors as diverse as tech, hospitality and leisure, agriculture and construction also made statements in favour of continued membership.

Most of the economic studies don’t mention sectoral effects but the treasury study is an exception2. This makes specific reference to a number of sectors that it sees as being at risk. These are: pharmaceuticals, aerospace, financial services, automotive, professional services, digital (tech) and agriculture. Mention is also made of the success of UK higher education and academic research institutes in securing EU funding.

While all of the sectors identified by either the Treasury or by industry bodies are important to the UK economy, this report focuses on three key office using sectors: financial services, professional services and the new (digital) tech industries. These are important to the country as a whole and are particularly important to the central London office market.

2 HM Treasury analysis: the long-term economic impact of EU membership and the alternatives, April, 2016.

Are banking and financial services — most at risk?The threat to financial services jobs has been at the forefront of the debate over the likely economic impact of Brexit. This is because of the importance of passporting rights as discussed in Section 1. The UK would keep its passporting rights if it joined the European Economic Area but this would mean supporting a number of EU agreements. These include the freedom of movement of people and contributing to the EU budget. Given the prominence given to limiting in-migration by the UK’s leave camp it’s quite possible that this won’t be an agreeable solution.

As with all areas of debate there is a lack of consensus on what the impact of Brexit will be, although it has been argued that any negative impact for the UK economy would be magnified for financial services. Banks themselves have been quite vocal in warning about the dangers.“Frankfurt and Paris are

the most mentioned likely destinations if international financial services jobs leave London”

The following pages look at each of these sectors in turn and ask which other EU cities might benefit from a re-location of jobs from London and the rest of the UK as a result of Brexit. We cover not just jobs which relocate as a direct result of the leave vote but also those which might have been created in the UK but which will be created somewhere else because the UK is no longer in the EU. This could be particularly important for fast-growing sectors like tech.

As for timing, the consensus is that although economic activity might be depressed more in the short-term, the full effect on the occupier market is likely to build over time as leases expire and are not renewed. This argument is supported by the lack of evidence of any advanced planning for jobs migration. It is also the case that CBRE occupier research indicates most companies see relatively little immediate impact or are at worst waiting for further clarity on the tone and timing of negotiations rather than acting immediately.

“Services such as legal, accounting, management consultancy, architecture, marketing and advertising tend to cluster near major financial centres and corporate headquarter clusters. If London’s financial services industry were to shrink then so would its professional services sector.”


© 2016, CBRE Ltd.

Where would the financial services industry go?Frankfurt and Paris are the most mentioned likely destinations if international financial services jobs leave London. Milan and Madrid actually have more financial services jobs than Frankfurt, but Germany’s financial capital is seen as more internationally orientated. Lending and trading are more important in Frankfurt than in other European cities with the exception of London. A number of UK-based banks have already said that they have contingency plans to relocate some of their staff from London in the event of a leave vote.

One major bank has said that they have contingency plans to move 1,000 investment bankers to Paris. And others have also talked about relocations but have been less specific about the location. Dublin and Amsterdam could come into the reckoning too.

Despite the rumoured preference for Paris amongst some bankers — presumably based on the perceived quality of life rather than on international competitiveness — Frankfurt, at number 18, is the highest ranked EU global financial centre after London (number one). Paris only ranks 37, just ahead of Warsaw and one place behind Amsterdam3.

Despite that, there is something of a sense of anticipation in Paris with French officials are going to great lengths to entice London-based bankers to Paris. The French economy minister Emmanuel Macron has teased British politicians with his promise that Paris will roll out the red carpet for London bankers (the red carpet was a reference to David Cameron’s offer to French tax exiles in 2012).

3 ZYen Global Financial Centres Index 2016, http://www.zyen.com/research/gfci.html

“A number of UK based banks have already said that they have contingency plans to relocate some of their staff from London in the event of a leave vote”


© 2016, CBRE Ltd.

Professional services — will they follow financial services?Services such as legal, accounting, management consultancy, architecture, marketing and advertising tend to cluster near major financial centres and corporate headquarter clusters. If London’s financial services industry were to shrink then so would its professional services sector.

There is an argument that Brexit will mean boom time for lawyers as they strive to unwind existing contracts based on EU law or regulations. This may be true but the impact would be transitory. Long-term, the prospects of the legal services sector are heavily tied into the success of financial services and corporate UK.

UK-based professional services companies are also major export earners. They benefit directly from EU membership in two main ways:

1. The EU’s Services Directive allows professional services firms to establish subsidiaries in other member states or trade across borders without facing discriminatory or unjustified barriers.

2. The Mutual Recognition of Professional Qualifications system means that a firm’s employees can have their training and qualifications recognised throughout the EU, for example a UK architect is recognised as qualified in other member states without the need to set up a subsidiary or re-qualify4.

And if London were to lose financial services jobs to Paris or Frankfurt for example, some professional services jobs could eventually be expected to go too.

“There is an argument that Brexit will mean boom time for lawyers…”

Heading for a Techxit?A pre-referendum survey by the Bertelsmann Foundation found that tech companies were even more concerned about the possibility of a leave vote than financial services companies and they were far more concerned than the average of all companies sampled.

Business surveys that focus on large companies, such as the CBI’s, show that an overwhelming majority of companies (80 percent in the case of the CBI) were in favour of continued EU membership. Surveys of small and medium sized companies (SMEs) however were much more equivocal. Figure 4 shows the results of a number of such surveys. Most strikingly, a minority of respondents to the Federation of Small Businesses and the Zurich SME Survey were in favour of continued EU membership.

Against this background, the survey of the TechUK membership which showed 70 percent of companies in favour of continued EU membership stands out at the opposite end of the spectrum. The Tech London Advocates survey which focused solely on London-based tech companies found an even bigger proportion (81 percent) in favour of staying in the EU. Tech companies are worried about Brexit mainly because they rely heavily on skilled workers from overseas. Brexit would hinder recruitment and ‘would slow their ability to move rapidly against rivals and to bring on talent in a competitive field’5.

Nor is the concern limited to small companies. Research in the Guardian found that five of the UK’s 14 unicorns (private tech companies) with a value of more than $1bn are explicitly pro-EU. The rest have not come out either way.

4 HM Treasury 2016; http://ec.europa.eu/growth/single-market/services/free-movement-professionals/index_en.htm5 The Register, March 11, 2016

Figure 3: Percentage of companies saying that they would either reduce capacity in the UK or relocate elsewhere in the event of a “leave” vote

Federation of Small Businesses (September)

SMEs(Zurich, March)

British Chamber of Commerce(February)

SMEs (Moore Stephens, February)

TechUK (March)Tech London Advocates (March)

87%

70%

60% 60%

49% 47%

Figure 4: Percentage in favour of continued EU membership

33%Finance

41%IT & Tech

Source: https://www.bertelsmann-stiftung.de/en/press/press-releases/press-release/pid/britische-und-deutsche-unternehmen-sehen-brexit-als-gefahr/

26%Other


© 2016, CBRE Ltd.

“The problem, as far as tech companies are concerned, is that many of the brightest and the best actually come from Central and Eastern Europe”

“London doesn’t just compete in aggregate size, however. It’s also a key contender in terms of jobs and companies where the focus is on new applications-based technologies.”

Could Berlin, Paris, Dublin, Stockholm and Amsterdam pick up digital tech jobs?London, with its Tech City and Silicon Roundabout is the tech start-up capital of Europe but it’s not without competition. There are actually more people working in statistical classification “computer programming and consultancy” in Paris with London coming second in the EU jobs hierarchy. The rest of the EU’s top five is made up of Madrid, Frankfurt and Munich.

6 http://www.cartonspleins.fr/paris-ladresse-de-la-nouvelle-economie/

Airbnb, Dublin Google, Stockholm

The Factory, Berlin

The focus on the availability of migrant workers puts tech companies alongside companies in construction and leisure who are more commonly associated with worries over labour shortages. The difference is that technology industries are at the forefront of economic growth, new technologies and international competitiveness and they are talking about attracting highly skilled, highly sought after people. This is not to diminish the needs of the construction and leisure industries or the skills of their workers, but the new tech industries are of a different level of importance for the growth of UK PLC.

The leave camp argues that when the UK leaves the EU, unfettered migration from Central and Eastern Europe should be replaced by a points-based system that allows UK companies to pick the brightest and the best from around the world.

The problem, as far as tech companies are concerned, is that many of the brightest and the best actually come from Central and Eastern Europe and that whatever system is introduced it will be less flexible than what we currently have. In addition, the current points-based system that applies to non-EU immigrants has been criticised with companies citing problems of bureaucracy, inflexibility and excessive delays.

The focus of much of the UK remain camp’s protests in the tech sector has been SMEs and start-ups but large tech companies are now locating in London partly because of the depth of talent and the networks created by the smaller companies. So the ease of movement of international staff is also an issue for large companies. This is not just a start-up and SME issue.

London doesn’t just compete in aggregate size, however. It’s also a key contender in terms of jobs and companies where the focus is on new applications-based technologies. This is owing to its beneficial mix of entrepreneurial climate, established venture capital industry and attractive environment for a very cosmopolitan workforce. Its main competitors are not necessarily the biggest and the cities most often cited are Berlin, Dublin, Stockholm and Amsterdam.

Official data is not available to a detailed enough level to verify this selection, but analysis of detailed CBRE data on take-up and active requirements confirms the importance of these cities to Europe’s digital tech landscape and also points to Paris as a major player too.

In fact, Paris has a number of emerging digital-tech sub-markets6 (centred around the ‘Silicon Boulevards’ of Sentier and Saint-Lazare/Opéra/Bourse). The city is probably third in the digital tech hierarchy after London and Berlin, and must be considered as a potential destination for any jobs leaving London too.

One element of the London digital tech boom is ‘fintech’. To some extent this has developed because of the available pool of talent and finance that comes with being part of a bigger digital tech cluster, but proximity to one of the world’s biggest financial services centres is also likely to play a part. However, the implication is that if London loses banking jobs to competing centres then fintech jobs could go too. Frankfurt is not a major digital-tech centre so if Brexit is followed by a substantial re-location of financial services jobs to Paris it would also give a shot in the arm to the city’s growing digital tech industries. Some of the second-tier financial centres such as Amsterdam or Dublin might be well-placed to pick up these jobs too.


© 2016, CBRE Ltd.

7 London, A Leading Fin-Tech Cluster, CBRE September 2015 London

Ravensbourne is a university college for digital media and design, London

One element of the London digital tech boom is ‘fintech’7. To some extent this has developed because of the available pool of talent and finance that comes with being part of a bigger digital tech cluster, but proximity to one of the world’s biggest financial services centres is also likely to play a part. However, the implication is that if London loses banking jobs to competing centres then fintech jobs could go too. Frankfurt is not a major digital-tech centre so if Brexit is followed by a substantial relocation of financial services jobs to Paris it would also give a shot in the arm to the city’s growing digital tech industries. Some of the second-tier financial centres such as Amsterdam or Dublin might be might be well placed to pick up these jobs too.

So what should occupiers take from all of this?

There is massive uncertainty over the timing of Brexit and the shape of the eventual settlement. It will be tempting for occupiers to wait and see before making major leasing decisions but it could be a long wait

The leave vote is likely to take the pressure off London rents and availability in the short-term. But this comes with two caveats

1. A reduced development pipeline means that the situation could reverse within five years

2. And if the location of choice has to be London, the next one-two years will be a good time to secure a new lease

There will also be offsetting effects

• At the time of writing, sterling has fallen by over 11 percent against the euro since the referendum (over 15 percent since the end of 2015). The future path of exchange rates is always uncertain but most forecasters don’t expect sterling to recover to its previous levels while the period of uncertainty continues and many think it may take a long-term hit.

• The UK government is likely to announce a number of measures aimed at offsetting the negative impact of Brexit. These will range from additional infrastructure spending, to lower corporation tax and possibly other cuts to the corporate tax bill as well as deregulation — although the latter could take some time to come through.

• This combination of offsetting factors may actually make the UK more attractive for occupiers if the UK can negotiate a beneficial settlement on trade and passporting rights. And for occupiers, regardless of the settlement, this could have a positive impact if they’re not particularly sensitive to the eventual negotiated settlement.

There are a number of competing centres for both financial services and tech

For those companies who feel they have to relocate some or all of their functions from London there are some alternatives. But none have the same mix of scale, skills, infrastructure, regulatory environment and office stock as London but their property costs at least, are cheaper.


© 2016, CBRE Ltd.

Source: CBRE Flash Investors Survey February 2016. Responses do not sum to 100% as other responses are omitted.

Section 2 looked at which UK industries might be vulnerable to the UK’s leave vote and which other European cities might benefit from any relocation of economic activity. This implicitly assumes that the UK loses out by leaving the EU while the rest of the EU gains — a lose-win scenario. This is not the only potential outcome, however, nor is it the only one that property investors are thinking about.

What will happen to the EU when the UK leaves?3

Figure 5: Brexit: Who Wins and Who Loses

Figure 5 shows investors’ response to this question from a survey of 191 investors carried out by CBRE in February 2016. The majority of respondents (27 percent) opted for the lose-win scenario but there was a significant minority (21 percent) who opted for the lose-lose scenario whereby the UK is worse off as a result of Brexit and the rest of the EU is worse off too. Few respondents thought that the alternative win-lose (the UK wins and the rest of the EU loses) or the win-win options were likely.

8 Ireland and the UK would also have the complication of a land border that would no longer be part of the EU customs union which could cause particular problems for the Northern Ireland economy http://www.irishtimes.com/business/economy/brexit-threatens-northern-ireland-more-than-rest-of-uk-says-davy-1.26140069 Fitch Ratings, ‘Brexit’ Would Raise Downside Risks to EU Sovereigns, May 2016

Why might the rest of the EU lose out if the UK leaves?

27.2% 3.3% 0.6% 20.6%Europe Wins,

UK LosesUK Wins,

Europe LosesWin: Win,

Both more attractiveLose: Lose,

Both less attractive

There are a number of reasons why the rest of the EU might lose out when the UK leaves. Some of these could take years to unfold, some could happen rather sooner. A number of countries are highly dependent on the UK as an export market. Ireland8, Malta, Belgium, the Netherlands, Cyprus and Luxembourg all have exports to the UK that are the equivalent of eight percent or more of their GDP9 and might be seen as being particularly vulnerable, but the main threats from Brexit are less direct.

1. A less competitive EU

The UK has been the mainstay of the market-friendly liberal block in the EU10. Whenever policy, in a number of areas ranging from trade to regulation to competition, is up for debate or for a vote, the UK tends to find itself at one end of the spectrum supported by a number of other countries usually including the Netherlands, Sweden, Denmark and Estonia.

This affects voting in both the European Parliament and the Council of Ministers. In the case of the latter, it has gone further than just voting behaviour. Officials aim for a consensus and most policies do not go to a vote but there is still a perceptible market friendly, liberal influence from this block on many policies. This has been the case for successive UK governments, not just the current one. And, significantly, Labour members of the European Parliament have shared some of the pro-market, anti-regulation bias of some of their Conservative colleagues.

“the leave outcome may point to economic activity leaving Europe altogether rather than moving from the UK to locations in the rest of the EU.”

10 Buiter, Rahbari & Schultz March 2019, http://voxeu.org/article/implications-brexit-rest-eu

The leave vote might not necessarily be bad for the UK. If the UK becomes a deregulated beacon in the mire of an increasingly regulated Europe then it might attract more rather than less foreign direct investment than at present. But there are issues associated with that.

a. It wouldn’t benefit the UK if its nearest and largest trading partner were to be hamstrung by an increasingly regulatory system as well as by an anti-competitive and free-market bias.

b. The new EU would demand that the UK, or any other trading partner, stick to the new regime when doing business with Europe and a financial transaction taxmight be one way in which it does it.

c. The UK could simply be excluded from some areas of business — such as clearing in Euro-denominated bonds

Overall, a weaker and more regulated Europe would appear to point to a lose-lose outcome rather than win-lose. So, when thinking about which industries could leave the UK, the leave outcome may point to economic activity leaving Europe altogether rather than moving from the UK to locations in the rest of the EU.


© 2016, CBRE Ltd.

“The Italian Five Star Movement (M5S) is neither anti-migrant nor anti-EU but it is anti-euro and has called for a referendum on euro membership.”

11 Financial Times 16/2/16. http://www.ft.com/cms/s/0/58f9cc98-ce51-11e5-92a1-c5e23ef99c77.html#axzz48B6koZD0

Source: European Commission Autumn 2015

0 5 10 15 20 25 30 35 40 45

RomaniaCroatiaIreland

PortugalBulgariaDenmark

SpainLuxemborg

HungaryFinland

SloveniaBelgium

ItalySlovakiaSwedenFrance

NetherlandsGermany

United KingdomCzech Republic

PolandGreeceAustria

% having a fairly or very negative perception of the EU

Figure 6: Euroscepticism in the EU

2. Fragmentation

The UK is not unique in its Euroscepticism. As Figure 6 shows, there are countries that display even more Euroscepticism than the UK. Even countries that we’d consider central to the EU and to the euro area such as Germany, the Netherlands and France are not too far behind the UK.

Public perceptions of the EU are heavily related to current issues. Given that migration rather than economics is currently the hot topic, some of the data in Figure 6 could be seen as surprising. Nonetheless, when the UK leaves the EU it would almost certainly increase the potential for further fragmentation.

France

The big and immediate threat comes from the 2017 French presidential election. The policy of Marine Le Pen’s Front National (FN)11 is to emulate the UK in renegotiating the conditions of France’s membership of the EU against a threat of an in-out referendum. Le Pen is far from being the favourite to win the election, but the UK’s leave vote could give the FN’s campaign a shot in the arm and would give its ideas more credence in French politics generally. The FN’s ambition is to push back on migration and ‘ever closer union’ rather than EU membership per se. A French renegotiation would be disruptive to say the least, and could even lead to the breakup of the EU were France to actually leave.

12 Poll by Sifo for SVT. http://www.breitbart.com/london/2016/04/21/majority-of-swedes-would-want-to-follow-britain-out-of-the-eu/

Germany

The FN in France is not the only eurosceptic party in the larger countries. The Alternative für Deutschland (AfD) in Germany follows a similar right-wing, populist mix as the FN and it has made some gains in recent local elections. Italy has more than its fair share of eurosceptic parties including the Five Star Movement (M5S) on the left, the Lega Nord (or Northern League) — a right wing separatist party and Fratelli d’Italia — Alleanza Nazionale (Brothers of Italy or FDI) which espouses similar sentiments to the FN in France and the AfD in Germany. As with the FN, many of these parties are anti-immigration and Eurosceptic rather than anti-EU, although the Party for Freedom in the Netherlands (PVV) is an out and out anti-EU party. In all cases, the referendum result in the UK could act to ‘encourager les autres’ with unsettling results.

ItalyThe Italian Five Star Movement (M5S) is neither anti-migrant nor anti-EU but it is anti-euro and has called for a referendum on euro membership. The M5S has done well in this year’s municipal elections and forthcoming referendum on constitutional change in Italy will give the MSS another chance to inflict damage on the government. If the government loses, which is looking like a distinct possibility, Prime Minister Renzi will resign and, although it will not immediately usher in an MSS government it could bring the day of an MSS government and a referendum on euro membership closer.

Protest parties aside, the non-euro area countries could face different issues. Every EU country except Denmark and the UK are committed to eventually joining the euro and, indeed, the euro was originally intended to be the currency of the entire EU not just a part of it. Following the great financial and euro area sovereign debt crises, however, it looks unlikely that many of the current non-euro countries will be in a hurry to join.

Sweden in particular looks like an unenthusiastic candidate. The Swedish government maintains that a referendum would be needed before Sweden could join the euro. With opinion polls currently showing 75:14 against, it doesn’t look like there’ll be one soon. Other countries where European Union membership looks likely to happen later rather than sooner — if at all — include Poland, where the ruling Law and Justice Party is against membership, and the Czech Republic where opinion polls currently show a 70:29 anti-euro majority.

The coexistence of the European Union and the euro area already creates tensions. The monetary union experiment has had major difficulties and many now see that the only way that it can survive long-term is if it is accompanied by fiscal union too. Were this to happen it would be consistent with ever closer union but it would make life for countries outside of the euro block but within the EU increasingly difficult. For as long as the UK is an EU member, it acts as a balance against the centralising tendencies of the euro area.

Without the UK, countries like Sweden, Denmark, Poland and the Czech Republic will find it increasingly difficult to live outside of the euro area. Perhaps for this reason, an opinion poll in Sweden before the UK referendum found that while support for the EU commanded a 44:32 majority, were the UK to leave this would reverse to a 36:32 balance of opinion in favour of leaving the European Union.12

Opinion polls taken since the UK referendum result have actually shown a firming of support for the EU in continental European countries but this sentiment might not last that long. The workings of the single currency are still an issue as is migration and the referenda and elections of the coming year still have the potential to be quite unsettling.


© 2016, CBRE Ltd.

Could there be a win-win outcome?Much of the preceding discussion and most of the debate on what happens to the UK and the rest of the EU after Brexit assumes that the EU will continue, more-or-less, as it is now, possibly losing a few more members, after the UK leaves but this is not the only potential outcome.

As mentioned, issues with the single currency were causing stresses and strains within the EU when Brexit was a mere twinkle in the eyes of UKIP members and the right wing of the Conservative Party. Moreover, the discussion of populist and protest parties across Europe reveals that many of them are anti-euro (or anti-euro as it functions now) rather than anti-EU. Brexit may provide an opportunity to tackle long-standing problems with the single currency as well as to define the post-Brexit EU.

Possible outcomes after BrexitNo outcome, of course, is certain but Figure 7 attempts to broadly categorise the potential scenarios.

‘Muddle through’ the top left quadrant or scenario describes what most analysts believe is likely. The UK manages, eventually, to negotiate an amicable settlement which preserves some aspects of the UK’s current access to EU markets for financial services with a compromise on migration — and possibly budget contributions. The rest of the EU continues much as before but is perhaps a little more introspective as described above.

‘UK excluded’ describes the scenario that the rhetoric coming from some other EU members might suggest. The UK leaves the EU and compromise on financial services and trade is not possible unless the UK accepts the ‘four freedoms’ which it will not do. The rest of the EU then becomes rather more introspective.

“The realisation that the ambition of a single large European Union with a single currency was no longer an option would lead to more flexible arrangements with other countries”

‘Further break-up’ is the scenario where the single currency area assumes greater power within the EU and economic policy generally is focused on the needs of the single currency area. The result is that other countries, notably Sweden and Denmark leave the EU and the remainder of the EU becomes much more aligned within a single currency area. The central European countries who are not euro members stay as long as Structural Fund money keeps flowing but could also be leavers if the funds start to dry up.

‘European Realignment’ is an extension of ‘further break-up’ but it goes further and is much more thought-provoking. This scenario would see much more political and fiscal integration in the euro area. This may be combined with a consolidation of membership with some of the southern European countries leaving the euro altogether or forming an alternative monetary union (the ‘flexible euro’ option). Either way, the current failings of the single currency would cease to be a drag on economic growth in the euro area. The move towards political and fiscal integration in the core euro area countries would make it much more certain that countries like Sweden and Denmark and possibly more would leave.

The realisation that the ambition of a single large European Union with a single currency was no longer an option would lead to more flexible arrangements with other countries. There could, for example, be a smaller, consolidated single currency area with growing political and economic integration, coexisting with a wider trading block which includes the existing EFTA countries, the UK, Sweden, Denmark, possibly some southern European who leave the single currency and, possibly, some of the central European countries eventually.

These scenarios have implications for economic growth which will inevitably drive property market prospects too.

‘Muddle through’ would see the kind of growth rates expected before the referendum, possibly a little worse for the UK in the short-term and little change for the rest of the UK. ‘UK excluded’ would be one of the much talked about downside outcomes for the UK before the referendum and this would have negative consequences for the rest of the EU.

‘Further breakup’ would be negative too if compromise deals couldn’t be made between the exiting and the remaining EU countries. The residual EU would also suffer from negative trade effects and more introspective policy making. If there was a move towards sorting out the problems with the single currency, however, this scenario could have an upside too, particularly for single currency countries.

‘European realignment’ is the really upbeat scenario. This overcomes the single currency’s economic problems and many of the political strains within Europe while permitting an open trading relationship between EU and non-EU members in a more flexible European economic block. The result could be higher rates of economic growth all round.

As to the probability of any of these scenarios we are in the realms of speculation. ‘Muddle through’ is definitely the base case with, say a 40 percent chance of being the outcome and we can give a 20 percent probability to each of the other three. We are not sure exactly how, but the odds are that Europe will look rather different in five, or so, years’ time.

Figure 7: What might Europe look like in five years time?

Muddle Through

Free Trade Agreement (FTA)

Compromise on financial services

Compromise on migration

No changes to the workings of the Euro area

European Re-alignment

Re-invented EFTA

Compromise on migration

Political integration in Eurozone

Consolidated Eurozone?

UK Excluded

World Trade Organisation (WTO) rules

No passporting

Migration Controls in UK

Further Breakup

Sweden, Denmark leave too; possibly others

(Netherlands)

FTAs or WTO rules

Limited access for financial services

Migration controls

Political integration in Eurozone


© 2016, CBRE Ltd.

Conclusions for occupiers

An unavoidable message from Section 3, and to a considerable extent the whole of this publication is that occupiers will face a number of years of uncertainty

Years could actually pass and it will still not be entirely clear which of the four scenarios, or a different outcome completely, will be the eventual outcome of Brexit. Whatever the scenario though, there will be a major impact on the relative attractiveness of different locations.

Under the ‘muddle through’ scenario the UK competitive position remains more-or-less the same as it is now but:

• there will be considerable uncertainty for some time over the eventual settlement

• depending on how long it takes for the eventual settlement to become clear, companies with a UK presence and a reliance on either passporting rights or on migrant labour might want to delay location decisions or to ‘insure’ against future problems by maintaining or setting up a presence in another EU country

Questions for occupiers to considerFaced with such uncertainty, occupiers should ask:• Would the UK still be an attractive location

under the ‘Canada option’ which might be the fall-back position?

• If yes, are they in a position to take advantage of potentially attractive leasing deals that may appear over the next one or two years?

• What are the labour / workforce implications of the current situation? Anecdotal evidence that some are finding it harder to attract EU labour even now, and others have voted with their feet?

• If no, where are the alternative locations? But there’s no hurry. Alternative outcomes that may benefit one location over another may start to appear.

• What is the optimal trade off between on the one hand, waiting for greater informational clarity and on the other hand, enjoying any first mover advantages associated with major relocations?

‘UK Excluded’ has more serious consequences but it’s unlikely to go further than the ‘Canada option’. The loss of passporting rights will mean that many banks, both UK and non-European domiciled, will need to have a presence in at least one EU country:

• Some overseas banks may find it beneficial to have their main European HQ in the EU with a smaller operating division in the UK.

• Tech and other companies, who are particularly dependent on quick and easy access to skilled labour from Europe will also have to consider their location.

• On the other hand, UK excluded could lead to a more introspective and anti-competitive EU which may help to balance the UK’s disadvantages from ‘exclusion’ as will the likely further weakness in sterling under this outcome.

‘Further breakup’ has some of the characteristics of ‘UK Excluded’. The difficulties associated with the loss of passporting rights and limits on migration will still pose challenges for UK locations but:

• the UK and other countries leaving the EU may benefit from lower corporate taxes and de-regulation (eventually)

• any movement towards political integration in the Eurozone could improve economic performance there but the benefits could be mitigated if it is accompanied by more introspective and anti-competitive policy making.

‘European Re-Alignment’ is potentially a higher growth scenario for most of Europe, particularly southern Europe:

• In cases where market proximity is an important consideration for location decisions, southern Europe will become more attractive for additional locations

• The UK and other countries leaving the EU will not suffer any of the adverse consequences associated with ‘UK excluded’ or ‘further breakup’.

Occupiers should also proceed with re-configuration plans aimed at locating activities that do not need to be in expensive city-centre locations elsewhere. The rationale for this will not change although the list of alternative locations to be considered might because of changes to exchange rates, taxation and regulation.

CONTINENTAL DRIFT28

© 2016, CBRE Ltd.

Contacts

For more information about the issues raised by this report, please contact:

Neil BlakeHead of EMEA Research t: +44 20 7182 2133

e: [email protected]

Jos TrompHead of Continental Europe Researcht: +49 8924 206018


Richard Holberton Senior Director t: +44 20 7182 3348


Miles GibsonHead of UK Researcht: +44 20 7182 2738


www.cbre.co.uk/research

Global Research and ConsultingThis report was prepared by the CBRE UK Research Team which forms part of CBRE Global Research and Consulting — a network of preeminent researchers and consultants who collaborate to provide real estate market research, econometric forecasting and consulting solutions to real estate investors and occupiers around the globe.

CBRE Disclaimer 2016CBRE Limited confirms that information contained herein, including projections, has been obtained from sources believed to be reliable. While we do not doubt their accuracy, we have not verified them and make no guarantee, warranty or representation about them. It is your responsibility to confirm independently their accuracy and completeness. This information is presented exclusively for use by CBRE clients and professionals and all rights to the material are reserved and cannot be reproduced without prior written permission of CBRE.

About CBRE Group, Inc.CBRE Group, Inc. (NYSE:CBG), a Fortune 500 and S&P 500 company headquartered in Los Angeles, is the world’s largest commercial real estate services and investment firm (in terms of 2013 revenue). The Company has approximately 44,000 employees (excluding affiliates), and serves real estate owners, investors and occupiers through approximately 350 offices (excluding affiliates) worldwide. CBRE offers strategic advice and execution for property sales and leasing; corporate services; property, facilities and project management; mortgage banking; appraisal and valuation; development services; investment management; and research and consulting. Please visit our website at www.cbre.com.

Jan LinsinSenior Directort: +49 691 700 77663


Marie Hunt Executive Director t: 353 161 85543


Aurélie LemoineDirector, Divisional Researcht: +31 153 64 34 88


Cecilia Gunnarsson Research Manager t: +46 84 1018757


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