Financial firms’ Brexit equivalence upgrade seems achievable, but a sideshow

27 February 2020 12:39

A UK push for enhanced EU equivalence conditions that would offer London financiers greater certainty after Brexit seems likely to be achievable, given the narrow distance between negotiating mandates published by both sides this week.

A Japan-style regulatory forum seems likely to be the vehicle for regulators to warn each other of any legislative changes that could jeopardize UK financial firms' access to their clients in the EU.

But that only partly limits the Brexit pain — and may end up being a sideshow: Ongoing changes to EU banking, insurance and asset management laws, as well as those on data or migration, are set to take place far from the political cut and thrust of Brexit talks, yet may prove far more consequential to future relations with London.

Under the terms of the political declaration agreed between the UK and EU, both parties commit to try to conclude “assessments” of each other's regime by June, a move preliminary to actually deciding to grant market access to foreign financial companies.

Once granted, both sides still have the right to withdraw their equivalence finding at any time, an issue causing consternation in the UK industry. As it stands, the EU can withdraw recognition with as little as 30 days’ notice; that could upend the business model of the London Stock Exchange, which needs to offer EU clients three months’ warning of contract termination.

That problem seems broadly fixable; laws don't change overnight. The UK’s mandate cites the model of the existing EU-Japan trade deal, under which the two parties agreed to consult each other before altering legislation or withdrawing equivalence findings.

In practice, the financial regulatory forum set up with Japan — or similar ones that the EU has with the US and Canada — are little more than talking shops. This case may be no different: Both the UK and EU would see binding powers as an erosion of sovereignty.

The proposals could also be held hostage to wider disputes over subsidies or judicial scrutiny. But at least the landing ground in this area seems clear, and compatible with the EU’s own position published earlier this week.

— Insufficient —

Even with this strengthening, equivalence findings are still a flaky foundation on which to build a cross-border business model. And the ground underneath them could soon shift, as the EU begins a comprehensive overhaul of its financial laws.

Major investment banks want to be able to reach European clients while keeping investment decisions close to the large and liquid capital markets in London. That is done not through equivalence procedures, but via the permission to delegate functions outside the EU’s jurisdiction.

The European Commission failed in a previous attempt to impose more EU control over those delegation arrangements, in a review of EU financial watchdogs’ powers. But they are not immune from change: France still regards them as a suspect loophole.

There are hints that, in a bank-capital overhaul due in June, the commission may want to address a perceived shortcoming. Foreign banks that open branches in an EU member state are subject to national, rather than EU rules — meaning the likes of Ireland or Luxembourg could seek to attract London-based institutions and their business by undercutting.

In other areas, the need for equivalence could be relaxed. A forthcoming review of EU market-instrument rules mean an obligation to trade shares only on EU or equivalent markets is repealed, or at least rejigged, if Berlin gets its way.

The same could happen to EU laws on benchmarks, which are widely perceived as overambitious. The bloc has already delayed introduction of the laws that could block the use of foreign indexes such as FTSE Russell’s stock-market metrics; they should all be overhauled in a forthcoming review, EU watchdogs advise.

In short: A new EU-UK regulatory forum will have plenty to talk about, but the EU retains the right to legislate as it pleases.

— Beyond finance —

In reality, many of the financial sector’s Brexit woes lie outside financial regulation altogether.

The City of London Corporation, representing the capital’s historic financial district, said last week it was keen to avoid a post-Brexit immigration crackdown causing a brain drain — and UK ministers are eager to vaunt the help their proposed trade agreement could provide.

A proposed mutual recognition of qualifications to be included in the trade deal would “ensure that everyone in our service sector can continue to have access to the opportunities in every market in which they currently work,” Michael Gove, the UK minister for the Cabinet Office who heads up Brexit work, told lawmakers this morning, when asked how the deal would aid the financial sector.

In other areas, financiers are terrified of the consequences of a failure to grant the UK data adequacy. That could mess up the structures of cross-border businesses, used to sharing human-resource and contractual data with their head offices. The right, in principle, could be torn up overnight.

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