UK should not exclude possibility of a Brexit with no banking deal
The City should not tangle itself in red tape to preserve its business that is EU-facing
The EU has frequently criticised Britain for not specifying what sort of trade arrangement it wants with the bloc after Brexit. Yet one could lay much the same charge at Brussels’ door. After all, it has been largely silent on what sort of final relationship it sees itself having with the UK.
The European Commission gave some pointers last week, especially on the thorny question of financial services. First, the EU’s principal negotiator, Michel Barnier, said that any free trade deal would not preserve the single market “passport” rights of UK-based banks after Britain’s departure — the legal permit that automatically gives them the ability to trade across the bloc from a single location.
Then, as if to follow that up, the EU unveiled some draft legislation. This aims to tighten the established mechanism through which the bloc grants so-called “equivalence” status to third countries, such as the UK after Brexit. The law indicates, for instance, that Britain might have to continue to apply EU rules even on such arcane matters as bonus caps, for its own regulations to be deemed equivalent to EU standards.
The immediate reaction was that Mr Barnier’s bald statement was the bigger blow. Actually, it is the draft law that is more concerning, especially as equivalence or some variant has always been the most likely mechanism through which City of London companies would retain any EU-mandated access to the single market.
Take the issue of bonus caps — admittedly a politically smart choice for Brussels to use to illustrate its intentions with the planned law. Who after all sees it as a priority for the UK government to fight for City-based bankers to receive even higher pay? Yet the Bank of England has already said it would consider dismantling the bonus cap after Brexit, precisely because it has its own alternative in the form of longer vesting periods that would achieve the same objective.
And that is the fundamental point with equivalence: rules should not need to be identical, but only to have the same higher objective — one that critically preserves customer protection. This was certainly Mr Barnier’s view when he negotiated the EU’s largest equivalence deal to date — with the US over central counterparties after the Americans forced derivatives to be centrally cleared following the financial crisis.
Then, he stressed the principle that when two countries’ rules were “comparable and consistent” with each other’s objectives, it was “reasonable to expect [each] to rely on those rules and recognise the activities regulated under them as compliant”. Few could argue that UK rules are not equivalent to European ones — they are presently identical.
So why the more prescriptive approach? Brussels says it is necessary to deal with the systemic risks caused by Europe’s continued dependence on the City of London after Brexit.
But turning the UK into a financial rule-taker would not obviously reduce these perils. Indeed, by separating rulemaking from regulation, it could conceivably magnify them. For instance, concerns at some future point about the stability of the eurozone could encourage EU officials to impose restrictions on the functioning of markets — such as short selling bans and curbs on the ability of institutions such as credit rating agencies to issue “unhelpful” judgments on sovereign issuers and financial institutions. Mark Carney, the Bank of England governor, warned last year that such outcomes could “cause a risk to financial stability”.
Much ultimately depends on how the EU chooses to define its more granular definition. Too tight an approach, and that must likely push the UK in the direction of retaining regulatory sovereignty even at the price of losing officially sanctioned access privileges.
Even before the Brexit referendum, when the UK envisaged remaining a full EU member with voting rights, the government of David Cameron was already worried about the increasingly intrusive and mercantilist direction of EU financial regulation. Theresa May has ruled out a Norway-type end state as an unacceptable version of exit, partly because of the need to take others’ rules.
Leaving without a deal on financial services is not Britain’s objective. But it cannot be excluded if an acceptable way forward cannot be conjured.
The City’s powerful position in EU finance was largely built before the passport was invented, and it should not tangle itself in European red tape simply to preserve a portion of the 20 per cent of its business that is EU-facing.
The UK should, in those circumstances. accept Mr Barnier’s view that finance will not be part of any special treaty, maximise the legal and linguistic advantages that allow it to be competitive, and continue to expand its global trade.