Summary
Open and globalised capital markets are in the interests of both the UK and the EU. Operating against the backdrop of a robust regulatory framework, they promote financial stability and give businesses and consumers access to the products and services they need. The Government has stated that the UK will leave the EU Single Market, which allows for the free flow of financial services across the borders of 28 Member States, when it exits the EU. It is imperative that doing so does not undermine the benefits of participation in a globalised financial system.
In agreeing the relationship between the UK and the EU post-Brexit, both sides should favour an end state allowing mutual market access. Fragmentation would lead to costs increasing and to financial stability deteriorating. The dangers of disintegration are already apparent in proposals that envisage the possibility of relocating the clearing activity of central counterparties (CCPs) to the EU, and in the political rather than purely economic calculations emerging in the broader Brexit negotiations.
In defining the future environment for financial services, regulation and supervision are key. Brexit will not automatically entail divergence from the EU’s standards, and there are sound reasons for the UK to maintain a high degree of regulatory alignment with the EU in financial services as part of preserving mutual market access.
An agreement based merely on the EU’s present ‘equivalence’ framework would not be a reliable long-term basis for either the UK or the EU. Any form of alignment that renders the UK a de facto rule taker would not be acceptable, given that future EU regulation may not be appropriate to the needs of the UK economy. The Government has said it will seek a close economic partnership with the EU, based on a free trade agreement (FTA). We agree that such an arrangement would be beneficial for both the UK and the EU.
An agreement on mutual access would need to be underpinned by broad and deep supervisory cooperation between the UK and EU. The foundations for this already exist, based in part on the renowned technical expertise of UK regulators. We conclude that both sides should maintain this cooperation, given its importance for the safety and soundness of the fabric of cross-border financial institutions that has developed as a result of the evolution of the Single Market.
The UK financial services industry is also a major part of the UK’s own economy. In light of this, the Government urgently needs to offer clarity on both the future relationship it will seek to achieve in the second phase of negotiations with the EU, and on transitional arrangements. We received evidence that, without this clarity, firms may be forced to implement costly and potentially irreversible contingency plans. The Government also needs to ensure, both immediately post-Brexit and over the longer term, that the financial services industry continues to have access to the global talent on which it depends, including reviewing its visa policies.
The immediate issue the Government faces in moving towards the future relationship will be transposing the EU’s body of law, the acquis communautaire. As the UK takes over regulation hitherto defined in EU law, substantial powers will devolve upon the domestic regulators: the Bank of England, Prudential Regulation Authority and Financial Conduct Authority. This will require Government and Parliament to give thought to their role in overseeing the exercise of these powers, including consideration of the extra resources that may be required.
Once the UK has the capacity to exercise greater control over its domestic legislation, it will be able to tailor the regulatory framework to its own priorities in order to foster innovation, for example in the UK’s burgeoning FinTech industry. There are also aspects of the EU regime that are less appropriate for the domestic UK market and that in some respects diverge from international standards. We conclude that opportunities for varying the regulatory framework where appropriate should be welcomed.
However, putting in place a suitable domestic regime cannot mean abandoning the international standards that have been crucial to repairing the global financial system since the post-2008 crisis. The UK has been instrumental in shaping and promoting those standards and has consistently advocated their faithful implementation. The UK must continue to invest in and promote global standards if it wishes to see them maintained.
Furthermore, international standards could provide a bridge between the UK and the EU in defining a future relationship based on shared outcomes, rather than the literal interpretation of rulebooks. We believe that a future relationship can be secured that is to the benefit of both the UK and EU, provided that a mutual commitment to effective regulation and supervision is maintained.