Brexit and the financial services industry: The story so far

Policy brief
Mark Boleat
27 March 2018

The City will survive Brexit, but it will not emerge unscathed. In order to remain competitive Britain’s financial services industry will need to adapt, as it has always done.

London is the world’s leading international financial centre. While it is important not to overstate the impact of the UK’s membership of the EU, the single market has benefitted the City. As such, it is no surprise the financial sector was broadly in favour of remaining in the EU.

The industry has accepted the referendum result and is preparing for Brexit. However, it remains in its interest for the UK and EU to come to an arrangement that maintains mutual, cross-border, market access for UK and EU-based institutions and for continued easy access to EU talent. The industry is also in favour of a long transition period, agreed as quickly as possible.

Yet financial institutions have been put in a position whereby they have no choice but to prepare for a worst-case, no-deal scenario. Ensuring a stable transition and a deep and comprehensive future UK-EU partnership is not in any one party’s gift. There is much that could still go wrong, and the industry needs to guard against the potential fallout.

Some firms have already triggered contingency plans. Others are holding off on making a decision until late 2018. While talk of transition has provided some comfort, the longer it takes for the EU and UK to agree its composition, the less useful it becomes.

In the long run the UK’s priority market remains the EU. Financial services do not lend themselves to being included in trade deals largely because of the specific regulatory requirements to which the industry has to be subject. While the single market includes almost all financial services, no trade agreement has anything other than minor provisions relating to them.

Brexit will not destroy the UK’s financial services sector – the industry will adapt as it always has done – but it will probably lead to a smaller proportion of the total European market being based in London and the UK. In order to mitigate the damage the government could:

1. Seek to remain in the single market, with (some) influence over the rules. The first part – single market membership – could be achieved through EEA membership, although politically this would require the UK going against its stated policy and existing red lines. The second part – a say in the rules – seems natural given the size of the UK financial services sector, but it is not in line with EU structures and thinking.

2. Press for the EU to agree to mutual recognition of regulation and supervision, as well as a mechanism to settle differences. If remaining in the single market proves politically unpalatable, mutual recognition would be a good solution for corporates and governments in respect of efficiency of financial markets. Early indications from the EU are that this will be difficult to achieve. It would mark a major change from the way the EU deals with third countries, and does not fit into the EU’s institutional arrangements. In addition, some EU countries are keen on attracting financial services business from London. From the UK perspective, as with any other international agreement, mutual recognition would mean sacrificing some ‘control’.

For the moment, the first option appears to be off the table and the second will be very difficult to achieve. Regardless, there are a number of prerequisites to keep Britain competitive in the financial services market. They include:

  • A clear vision of the sort of economy and financial services industry that the government wants to emerge.
  • Tax and regulation policies that enhance the UK’s competitiveness.
  • An immigration policy that maintains the UK’s attractiveness to talent from the whole of the world.
  • Massively increased activity in international financial diplomacy: in the international agencies, with the EU and with the other countries that have major financial centres – the US, China and Singapore in particular.

In addition, the finance industry, and industry more generally, need to be more vocal. The British people voted to leave the European Union in 2016. They did so in the absence of any reliable information on what ‘out’ looked like; they did not vote specifically to leave the customs union or the single market. Industry needs to be vigorous in pointing to the consequences of alternative courses of action and advocating policies that help to promote prosperity in Britain.

The government has been publicly supportive of a deal that protects the UK’s financial services industry, but to achieve this it needs to modify other negotiating aims, and at the same time further ease the regulatory constraints on EU-based institutions operating in the UK. The jurisdiction of the European Court of Justice (ECJ) may be a red line for the British government in some areas, but it should not be a red line in the financial services sector. For the financial services industry there is no problem with joint supervision by the UK and the EU of activity in the EU by UK-based institutions. The principle of paying into the budget for preferential single market access seems reasonable. The government will have to concede some of these points if there is to be any hope of a reasonable deal for financial services.

Mark Boleat is a senior associate fellow at the Centre for European Reform and a former Chairman of the City of London’s Policy and Resources Committee. 

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