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British Pound Trades Above $1.29 As May Quietly Backs Limits On Irish Backstop

The British pound has been rallying all morning on Monday, driven by reports that Prime Minister Theresa May is quietly backing an amendment that would impose a time limit on the Irish Backstop, a measure that is likely to win over dozens of votes for a modified version of Theresa May's deal - even as the EU continues to oppose the measure, as May has said.

Government source tells me PM is likely to give a non-committal answer, if asked during her statement later whether she backs the Andrew Murrison amendment, sticking a Dec 2021 end-date on the backstop.

— Heather Stewart (@GuardianHeather)

Wall Street analysts, including a team at Goldman Sachs, have welcomed the news by lowering the odds of a disorderly Brexit, and raising the odds of a delayed Brexit, or a Brexit under the terms of a modified deal that May is expected to put forward after Tuesday's 'meaningful vote' (which is widely expected to fail, perhaps by more than 200 votes).

However, in what many see as a disconcerting omen ahead of the vote, Tory whip Gareth Johnson resigned on Monday so he can oppose May's deal, as he explained in his resignation letter

Gareth Johnson letter pic.twitter.com/9Vz25VCfqp

— Beth Rigby (@BethRigby)

Johnson, the MP for Dartford, which voted leave in the 2016 referendum, complained in his letter to the prime minister that the backstop in her agreement "gives our country no clear, unilateral path out of the European Union and ensures we will be fettered in our ability to negotiate trade deals."

"This agreement prevents us from taking back control and instead could leave us perpetually constrained by the European Union," he said. "Like you, I am not only a Conservative but I am also a committed unionist and I cannot accept the additional regulatory compliance required of Northern Ireland that would set it apart from the rest of the United Kingdom."

May said in a speech on Monday that the EU would oppose any constraints on the backstop. May added during her speech that she doesn't want to see Article 50 delayed, according to the Guardian.

Given the increased possibility that the UK might remain in the EU for longer, the pound has rallied, breaking above $1.29 for the first time since November (though it soon retraced some of those gains).

May urged MPs in a speech on Monday that they should "give this deal a second look," whatever they have previously concluded. "Yes, it is a compromise," he said, while adding that the EU would likely oppose any limitations on the backstop, which EU leaders said in a letter on Monday should never take effect in the first place, anyway.

Meanwhile, Labour Leader Jeremy Corbyn stepped up his threats to call a no confidence motion in the government if May's deal is defeated on Tuesday (even as she has quietly backed the limitations on the extension). May responded by once again accusing Corbyn of playing politics.

Meanwhile, Goldman Sachs analysts said that they now see a higher probability that the UK will still be in the EU by the end of Q2, and that the probability of it remaining in the bloc is now higher than the probability that it would leave without a deal at the end of Q1.

Here's an excerpt from a Goldman note that lays out the most likely scenarios ahead of Tuesday's vote (text courtesy of Goldman).

What happens tomorrow? 

The UK Parliament will vote on the current version of the Brexit deal, as negotiated with the EU.

Voting is scheduled to get underway tomorrow (15 January) at 7pm (London time). The main vote is a simple ballot among MPs in the House of Commons, “for” or “against” the current version of the Brexit deal. The Prime Minister needs a simple majority to ensure her deal passes. Since a handful of MPs typically do not vote, a simple majority amounts to 320 MPs.

The result of the main vote is likely to be announced in Parliament by around 8pm, and Parliament is then done for the day. All developments in Parliament are broadcast live. After the result of the vote, the Prime Minister is likely to make a public statement.

Will the Brexit deal pass tomorrow? 

In our view: No. Back in December, the Prime Minister postponed the Brexit vote, conceding that her deal faced parliamentary defeat “by a significant margin”. In our view, not enough has changed since December to ensure ratification, especially with respect to the controversial post-Brexit customs union "backstop."

On our estimates, as many as 100 of the Conservative Party’s 317 MPs - as well as the 10 DUP MPs on which the government relies for its working majority - intend to vote against the deal tomorrow. Around a third of those 100 Conservative dissenters favour “no Brexit”; perhaps around two-thirds favour a “no deal” Brexit. Assuming around 240 of the Labour Party’s 257 MPs - as well as all MPs from all other parties - also vote against the government tomorrow, we expect the current deal to muster the support of only 225-250 MPs, at this stage.

Fundamentally, in our view, the tail risks to the Prime Minister’s Brexit deal have not yet intensified enough to enforce discipline on those who find fault with the deal in its current form.

So what will happen next?

We think the Prime Minister will come back to Parliament with minor modifications in a matter of days.

If indeed the deal fails, we think the Prime Minister will bring back a modified Brexit deal to the House of Commons for a second vote. This must be done within three sitting days: that is, by Monday 21 January, at the latest. A third attempt (or indeed a fourth) cannot be ruled out. The timing of amendments to that modified Brexit deal will be a crucial determinant of when and how the current impasse in Parliament is overcome. In our view, critics of the current deal have an incentive to delay the timing of those amendments, to maximise their effect.

What will the Labour Party do? 

The Labour Party is likely to move a motion of “no confidence” in the Conservative government; only if that fails do we expect the Labour Party to take a concrete stance on a second referendum.

We expect the leadership of the Labour Party to move a motion of “no confidence” in the government if the deal fails. If that motion succeeds, a cross-party government would need to be formed within 14 days. If that cross-party government proves impossible to form, a general election would follow. In our view (and, indeed, in the view of senior Labour MPs themselves), this path to a general election looks narrow. That said, this path crystallises two questions on which the path to resolution will hinge. First, will the leadership of the Labour Party whip its MPs in favour of a second referendum, or instead whip its MPs in favour of an extension of Article 50 and renegotiation of a “permanent” customs union with the EU? Second, to what extent are pro-EU Conservative Party backbenchers willing to vote against (or indeed bring down) their Conservative government on the proviso that the Labour leadership is prepared to back a second referendum?

How likely is a second referendum? 

In our view, the probability of a second referendum has been rising, but it remains outside our base case.

With Parliament wresting the agenda-setting power away from the Prime Minister, we think the probability of “no Brexit” is rising, but remains moderate. A second referendum is not our base case because it remains unclear what Parliament will do with the agenda-setting power it is accumulating. Although the Prime Minister’s critics have begun to coalesce around their opposition to a “no deal” Brexit, those critics have so far proven unable to coalesce around a single, well-specified alternative. Only when MPs choose to table concrete amendments to the Prime Minister’s modified Brexit deal will it become clear whether any specific alternative can command a majority in Parliament. At this stage, we think there are too many Brexit outcomes still in play for an amendment in favour of a second referendum to command a majority. A pro-EU Conservative Party backbencher may deem Monday 21 January an opportune moment to test this view. It is more likely, however, that pro-EU MPs also opt to count down the clock, waiting for competing Brexit alternatives to be eliminated first.

What is the chance of an extension of the Article 50 deadline? Agreeing for more time beyond 29 March has become more likely, but the EU will wait for a clear request from the UK government.

Conditional on Parliament in the UK expressing a clear path towards legislating for a second referendum, we think the EU would agree to extend the 29 March deadline embedded in Article 50. If the will of Parliament is instead expressed as a desire for a slightly amended Brexit deal, we think the EU would also be willing to agree to a short extension, in order to create more time to take stock of negotiations. In a scenario in which Parliament has failed to coalesce around a well-specified alternative, we think the EU would be less willing to offer the UK more time, given the European Parliament elections (scheduled for 23-26 May).

So is “no deal” off the table? Largely, but not entirely.

We think the probability of a “no deal” Brexit is low, and falling, but not zero. A “no deal” departure on 29 March is the default outcome if nothing else happens. But, in practice, a “no deal” exit would require an impasse in Parliament over every feasible alternative, as well as insistence by the EU that the existing Article 50 deadline cannot be extended. In particular, a “no deal” departure would require Parliament to turn down the option of unilaterally revoking Article 50: an option which is now clear in legal terms, even if still muddied in terms of political viability. In our view, co-ordination failure on such a scale looks unlikely given the large macro impact of a “no deal” scenario, but it is not impossible.

So you maintain your base case? 

We maintain our base case, but see the risks skewed towards a later, softer Brexit.
We maintain our base case that Parliament will pave the way to a status quo post-Brexit transition phase, beginning at the end of March. We think the risks to that base case are skewed towards a later resolution of Brexit uncertainty (with ratification only after March) and a softer version of Brexit in equilibrium (in which some features of customs union membership or single market participation endure). In that scenario, we think the EU-27 would allow for a short extension to the UK’s Article 50 deadline. In the limit, that distribution of risks implies a second referendum on EU membership, perhaps in May. We think the probability of the UK remaining in the EU by the end of Q2 is higher than the probability of the UK leaving the EU in a disorderly manner at the end of Q1.

* * *

May could still call off the vote on Tuesday. If it is defeated, many believe May will return a few days later with another deal that includes minor revisions on the backstop that could win over more votes.