Everything you ever wanted to know about Brexit (but didn’t have time to read)

Everything you ever wanted to know about Brexit (but didn’t have time to read)

There are few issues more challenging for the City of London and the financial services industry than the potential implications of Brexit. Yet there are few things less enticing than the prospect of reading the many dozens of often dense reports written on the subject. New Financial, a think tank launched in September 2014, read more than 70 reports on the potential impact of Brexit and summarised nearly 50 of them, coming up with a summary of the opposing outlooks.

10-point summary of the optimistic outlook for Brexit

■ Much of the pessimism over the outlook for the City of London has been overdone. For most firms in the UK, passporting is not a significant part of their business model and, even at larger investment banks and asset managers, it accounts for only about one-fifth of the business they conduct in London.

While some firms may have to relocate some staff and operations to the EU, the impact on business volumes and jobs in the UK will be manageable, and far less than claims that hundreds of thousands of jobs will be lost.

■ The most likely settlement is an equivalence-based framework in which UK-based financial institutions and market participants can continue to conduct business in the rest of the EU and vice versa. The UK and the EU can build upon existing equivalence arrangements – and fill in the gaps in sectors where equivalence does not currently apply – to reach a mutually beneficial model based on international standards and a transitional arrangement to minimise any short-term disruption.

■ The UK has a strong hand in the negotiations: London is a strong player in setting the global standards that play an increasingly important role in shaping regulation around the world and the UK’s expertise is valuable to regulators and policymakers across the EU.

■ At the same time, the rest of the EU needs access to the City of London as much as, if not more than, the City needs access to the rest of the EU. It is unlikely that the EU will cut off its nose to spite its face by preventing companies and investors in the EU27 from accessing the expertise, capital and liquid markets in the UK.

■ Brexit is a great opportunity to remove onerous EU regulation over which the UK has increasingly little control. EU regulation is based on a one-size-fits all regime and burdensome rules such as the bonus cap, the potential financial transaction tax and other regulations which are a drag on financial services in the UK and are often applied to domestic institutions that do no do any business with the rest of the EU. The potential savings from deregulation could add up to two to three per cent of the sector’s costs per year.

■ Even within an equivalence framework, there is a lot that the UK can do to further improve its competitive advantage. There is plenty of scope for UK policymakers to rewrite some legislation while ensuring market integrity and financial stability. The UK could also reform corporate taxation to make it a more attractive destination, and could even set up a ‘financial freezone’ to attract and retain international business.

■ While the EU and single market membership have played a role in London’s success, it was a successful international financial centre long before the introduction of passporting. Its success is based primarily on the language, location and time zone, a deep pool of talent, strong rule of law and efficient legal system, flexible labour markets, openness and regulatory expertise. These advantages will continue on the other side of Brexit. And besides, the single market in financial services is largely illusory.

■ These advantages have combined with technology to create a network effect and the growth of an ecosystem around financial markets. While other financial centres in the EU may poach some business from London at the margin, none of them will be able to replicate this ecosystem in any significant way.

■ While London has benefitted from free movement of people, it will continue to act as a magnet for non-EU nationals, EU nationals currently working in the industry in the UK will be allowed to stay, and it is likely that the UK will set up a liberal work permit scheme for skilled workers from the EU.

■ Brexit opens up new horizons: London can turn to and partner with emerging markets such as China and Brazil and other non-EU markets. New agreements will boost jobs, taxes and the financial services surplus that will more than offset any impact from leaving the EU. These opportunities include Islamic finance, masala bonds, renmimbi trading, green finance and fintech.

10-point summary of the pessimistic outlook for Brexit

■ None of the solutions put forward as an alternative to existing membership of the single market provide anything like the same level of access or certainty which many UK-based firms currently use to access markets and clients in the EU (and vice versa) and none of the alternatives would realistically be concluded within two years from triggering Article 50. This means that the UK government and the industry will have to invest a huge amount of time developing a ‘next best’ solution.

■ Whatever settlement is agreed, the UK will have to negotiate a transitional arrangement to minimise the short-term disruption to the industry. However, even with a transitional arrangement in place, many firms will have to put contingency plans into action to ensure that they have continued access to the EU regardless of the final agreement.

■ Losing access to the single market means that many UK-based firms will need to set up subsidiaries with their own capital and risk management, which would entail substantial costs and disruption to them and their clients. Some operation and jobs will move to the EU as well as to the US. This will cost many thousands of jobs, along with lost tax revenues, spending power and economic output.

■ The UK would lose influence over the future direction of the capital markets on its doorstep, which represent the biggest market for many firms based in the UK. Without a seat at the table, it would lose influence over future EU regulation (but may have to implement it).

■ Continued membership of the single market via the EEA was never politically achievable nor desirable, as the UK would have to accept all four freedoms of movement (goods, workers, services, capital) and contribute to the EU budget without having a say on existing or future legislation.

■ Equivalence is not a panacea: it does not grant full access to the single market, requires a degree of compliance with existing and future legislation with minimal input, is not available across all EU financial regulation and can be withdrawn if and when EU and UK regulations diverge over time. Proposals for some form of enhanced equivalence based on global standards are welcome but are likely to take many years to agree.

■ Swiss-type and other types of FTAs involve a series of bilateral agreements in which negotiations can take many years. There is no precedent where access similar to the one provided by passporting has been granted and requirements for financial institutions are usually strict. If a bilateral agreement is not achieved, WTO rules will apply and EU’s services commitments with WTO are not generous.

■ Wholesale deregulation of UK markets is not a realistic prospect: UK firms will still need to comply with EU regulations when they transact in the EU; most regulation will stay in place as the UK has played a huge role in formulating EU financial services regulation; many rules stem from international bodies such as the FSB and G20; and, in many cases, UK authorities have been stricter than their EU counterparts. There is a fundamental trade-off between deregulation and equivalence: London can either try to enhance its position as an international financial centre by deregulating in order to increase its share of non-EU business or remain equivalent to EU rules to retain some access to the single market.

■ UK financial firms will not be protected against discrimination from other member states by EU institutions. By leaving the EU, the UK authorities and UK-based firms will also lose some of their international bargaining power in international forums such as the G20 and FSB.

The industry could lose access to EU markets just as the EU economy begins to recover and the EU27 push ahead with closer integration and capital markets union.

■ At the same time, the UK would lose automatic access to the large pool of EU talent in financial services: EU nationals represent as much as a quarter of staff in sectors such as private equity, hedge funds and investment banking.


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