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UK leadership race kicks off as the economy starts to weaken

Key Points
  • The U.K. is looking increasingly in limbo when it comes to its political and economic life as the country awaits a new prime minister and the outcome of Brexit.
  • British Prime Minister Theresa May stood down as the leader of the Conservative Party on Friday.
  • A leadership race to succeed her as party leader, and prime minister, is taking place.
Pro-EU supporters outside the British Parliament buildings in London on Dec. 12, 2018. 
Mike Newberg | CNBC

A leadership contest has kicked off in the U.K. after the resignation of beleaguered Prime Minister Theresa May and it looks like former Foreign Secretary and London Mayor Boris Johnson – a politician known for having a sharp wit as much as for his gaffes – could be the next leader of the country.

Monday was the deadline for nominations of those standing in the ruling Conservative Party's leadership race and although there are 10 candidates on the final list, some names are more well-known than others including Boris Johnson and Jeremy Hunt (the current foreign minister), Home Secretary Sajid Javid and Michael Gove, the environment minister.

To be able to run as a candidate, Tory members of parliament (MPs) had to have the backing of eight colleagues. Now the final list of 10 candidates are known, a series of votes will take place to whittle the number down to two candidates who will face the wider Tory party membership who then pick their preferred candidate and decide on the party's – and country's – next leader. The final winner will be announced on July 22.

One frontrunner, Michael Gove, has seen his leadership bid hit by revelations about past cocaine use, leading to increased scrutiny on all the candidates, with some admitting to recreational drug use during their university years. Boris Johnson, meanwhile, has attracted some criticism for his promise of an income tax cut for those who earn over £50,000 a year (around $63,000).

British Prime Minister Theresa May stood down as the leader of the Conservative Party last Friday and will act as an interim prime minister until a leadership contest is complete. Conservative MPs will have their first vote on Thursday this week and that will see the least popular candidate eliminated from the leadership race (if they get less than a certain amount of votes).

The race to succeed her has put Brexit, by now something of a torturous parliamentary wrangle over the departure from European Union, both at the forefront of the political debate and on the backburner, because dealing with Brexit has been delayed by the leadership contest.

Most leadership candidates have been keen to promote their pro-Brexit credentials as the wider Conservative Party and pro-Brexit members of the public call on the government to make progress on leaving the EU by the new deadline of October 31.

Boris Johnson, who is widely expected to become Tory party leader according to polls, has said that he would try to renegotiate the Brexit deal that May hammered out with Brussels, claiming that he would withhold paying a £39 billion divorce bill that was previously agreed would be paid when the U.K. leaves the bloc.

After three years of Brexit negotiations since the Brexit referendum in June 2016, the potential prospect of talks being re-opened under Boris Johnson will send a long sigh of exasperation through the political establishment in Brussels.

Officials there have already said the deal on offer will not change making the possibility of a "no deal" departure from the union more like come October, even though the majority of lawmakers in the British Parliament have voted against such a scenario. Philip Hammond, Britain's chancellor of the exchequer, told CNBC on Saturday that the probability of a no deal departure is "very small."

VIDEO2:2702:27
A no-deal Brexit is unlikely, UK's Philip Hammond says

Teneo Intelligence's macro research team warned Monday that "expectations about renegotiations and no-deal will be raised by most contenders," and warned of more volatility in the meantime.

"But once the new PM has taken over, the reality of political polarization will once more constrain their ability to make good on their promises. The result will be increased volatility in the run-up to the 31 October extension deadline," the team said in a note Monday.

GDP hit

In the meantime, the U.K. economy appears shaky as continuing uncertainty over the country's future relationship with the EU, its biggest trading partner, continues to dampen business and investor confidence.

The U.K. economy contracted by a bigger-than-expected 0.4% in April after a 0.1% decline in March, the Office for National Statistics said Monday. In terms of quarterly performance, growth slowed to 0.3% in the three months to April following a 0.5% expansion in the first quarter. The pound fell almost 0.6% against the dollar after the data, to 1.2651.

The monthly GDP decline was attributed mainly to the "dramatic fall" car production which was seen to have fallen 24% in April from the previous month - the biggest decline since records began in 1995. Analysts said that the economic boost provided by stockpiling by manufacturers in the lead up to the original Brexit date of March 29 had now reversed.

Commenting on the figures the ONS' Head of GDP Rob Kent-Smith said "there was also widespread weakness across manufacturing in April, as the boost from the early completion of orders ahead of the U.K..'s original EU departure date has faded."

Commenting on the latest growth data, which encompassed a fall in manufacturing and industrial output and flat services output, James McCormick, head of Desk Strategy at NatWest Markets, told CNBC Monday that the U.K. was looking increasingly fragile.

"They're not good numbers ... and if you look at the U.K. economy it looks to me that you had a major inventory stocking ahead of the original March Brexit date and we're now seeing the flip-side of that," he told CNBC's Street Signs.

"The U.K. is now struggling with political uncertainty and economic uncertainty and my guess is that that is going to be the case for the next couple of quarters, at least."

McCormick said there could be another similar stockpiling situation heading into the new October 31st Brexit deadline. "The longer we continue with the Brexit discussion, the more the long-term implications start to take hold. Capital investment has struggled for a while and will continue to struggle because who's going to want to invest in this economy with so much uncertainty?," he said.

VIDEO5:1405:14
Where did Brexit come from?

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Correction: The story has been updated to reflect the correct day for the first vote by MPs for the U.K. leadership race.