UBS: Breaks it

Those campaigning for the UK to leave the EU often focus on immigration, arguing that it could be reduced after Brexit. Yet economists know that higher immigration is good for growth and so do markets. Their disquiet is evident. Sterling has nosedived as the markets wrestle with the uncertain consequences of Brexit, both for the UK's economic growth and its trading prospects.

Many people are worried about foreign machines coming into the UK and taking up all the positions in UK factories. Free movement of capital means that machines from anywhere in the EU can be brought into the UK, where they use up British electricity. When the machines break they are a drain on UK engineering services. Leaving the EU would allow the UK to stop this unwanted machine migration.

If this sounds like nonsense to you, then you are right. Who would worry about importing machines from Europe to UK factories? There is no fixed amount of machines that the UK can have: more machinery increases the productive capacity of the economy, allowing the UK to produce more and grow richer. Even if the machines break down occasionally they more than pay for themselves.

Yet these arguments, with the same logic, are applied to economic migrants. There is no fixed number of jobs that the UK can have: more workers means more productive capacity. This is so obviously true: if you had decided in 1960 that there was a 'fixed' number of jobs, then everyone who joined the labour force since then would be unemployed. But history shows us that increasing population is associated with increasing growth. And plenty of studies show that immigrants contribute more tax than they use up in public services.

Relying on this 'lump sum of labor' fallacy to guide economic policy is a recipe for slower growth. So to economists, concerns about the economic impacts of immigration are overblown, and sometimes simply a disguise for the angst some feel about social change. But in a macro perspective, immigration is quite simply positive for growth.Just like economists, the markets understand this point, and have not reacted well to a perceived increase in the risk of a UK exit from the Eurozone, or Brexit. Sterling has taken a nosedive, suggesting investors are less willing to keep money in the UK. And this is at a time when markets are jittery, when normally they would want to put their money into a safe haven like the UK.

What do markets look for in a 'safe haven'? Liquidity is important, and on that score the UK looks fine. Strong external finances are another important factor, but here the UK looks decidedly fragile. Most safe haven countries have a solid current account surplus (so they spend less than they earn) and a strong net international investment position (they own more foreign assets than foreigners own of their assets). The two exceptions are the US and UK (chart 1). But the US has the exorbitant privilege of being the issuer of the global reserve currency. The UK has no such privilege.

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