Posted by James Worrall, Partner
Brexit White Paper – “a real blow for the UK’s financial and related professional services sector”?
The Government’s proposals for the new financial services arrangements between the UK and the EU post-Brexit, detailed in yesterday’s White Paper, have been roundly criticised by key figures within the industry. Policy chairman of the City of London Corporation Catherine McGuinness has labelled the proposals “a real blow for the UK’s financial and related professional services sector” and warned of the impact on job creation and growth in the wider economy that would result if it forms the basis of the final deal.
What are the proposals within the white paper?
The White Paper acknowledges that when the UK leaves the EU and the single market it can no longer operate under the “passporting regime” whereby a financial services firm based and regulated in one EU country (or the broader EEA), and authorised under one of the EU’s single market directives, can do business in other member states on the basis of their home state authorisation.
Chancellor Phillip Hammond had previously championed the principle of “mutual recognition” and advocated this as the basis for the trading relationship between the UK and the EU in the industry post-Brexit. Mutual recognition would result in the UK being entitled to adopt its own standards and regulations for financial services and for these to be automatically recognised by the EU. Mutual recognition would allow UK firms to operate on broadly the same basis they do at present and is the model favoured by a number of industry representatives.
The approach proposed in the White paper however is not one of mutual recognition; it is for a relationship based on regulatory “equivalence”. It would see the application of the EU’s existing approach to non-member states whereby the EU’s regulators acknowledge that a non-EU country’s financial regulations (as to the legal, regulatory and supervisory regimes) are as good as its own, or “equivalent”. Unlike a model based on mutual recognition, the EU would decide on a case by case basis whether the UK regulations achieve the same regulatory objectives as EU regulations, even if they do not precisely mirror them. Provided the non-EU country’s, in this case the UK’s, regulations are deemed “equivalent”, it would then be permitted access to the financial services sector within the bloc. The White Paper calls for an expansion of the equivalency principles, reflecting the deep connections between the UK and EU’s financial markets and for arrangements for regulatory co-operation and dialogue. It is proposed that the agreement would contain a shared intention from the UK and the EU to avoid adopting regulations that provide divergent outcomes in relation to cross-border financial services and there would be supervisory cooperation in relation to firms which post a systemic risk or that provide significant cross-border services.
What’s the industry’s reaction and what are the consequences?
As the White Paper notes, UK-located banks underwrite around half of the debt and equity issued by EU businesses and circa £1.4 trillion of assets are managed in the UK on behalf of European clients. The financial services sector employs around 7.3% of the British workforce and remains the UK’s largest tax paying sector, contributing 11.5% of the total tax take. The consequences of loss of access or much more limited access to EU markets for the UK would likely result in a substantial negative impact for the UK economy. The proposals within the White Paper have broadly been received negatively by the financial services industry with the preferred approach of many within the industry long having been mutual recognition. The City of London financial district and TheCityUK, which promotes Britain as a financial centre, were strong advocates of this model for the post-Brexit relationship. Whilst the EU had previously dismissed this option, Miles Celic, Chief Executive of TheCityUK summed up reaction, citing that the overriding issue for firms is the ability to continue to service customers, and “mutual recognition would have been the best way to achieve this. It’s therefore regrettable and frustrating that this approach has been dropped before even making it to the negotiating table.”
One of the material risks for the industry of a post-Brexit regime based on equivalence is that the UK will be vulnerable to the declaration of equivalence being withdrawn on short notice, something likely to undermine long-term planning for businesses. The UK would also need to ensure that its regulatory regime remained broadly aligned to the EU’s so as to remain equivalent. Whilst the proposal for a shared intention to avoid adopting regulations resulting in divergent outcomes, and for supervisory cooperation, are welcome, how palatable this will be for the EU remains to be seen. The terms of a final deal based on an equivalence approach could result in the UK being a “rule-taker” from the EU in the industry, something unlikely to be palatable to hard-Brexit supporting MPs.
Another area of major concerns for financial services firms is that new regulatory barriers could force the fragmentation of UK firm’s balance sheets. If this were to occur, it is estimated that the wholesale banking industry would need to find an additional £23-38 billion of capital, costs that would ultimately be borne by consumers and businesses.
In light of the various areas of concern, and the negative reaction, a spokesman for the Treasury has sought to reassure the industry and the City:
“We want to have a close future relationship on financial services with the EU – this should not be in doubt,” they said. “This proposal is the best option for getting a good deal for the City. It preserves the mutual benefits of integrated markets, protects financial stability, and preserves the City’s global reach.”
However, with leading industry figures seemingly unappeased by the assurances, the EU’s reaction to the White Paper’s proposals for financial services is awaited with interest.
For more information on the proposals and their implications, or on the wider implications of Brexit for the financial services industry, contact James Worrall or another member of our Financial Services sector team
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