More on EU-UK financial sector cooperation

As discussed earlier, my co-author Christy Petit and I recently wrote and published a study on financial sector trends in post-Brexit UK and future EU-UK regulatory cooperation.   We presented the study this week in the Committee on Economic and Monetary Affairs of the European Parliament as well as at a dinner organized by the Association of German Banks and the Representation of the German state of Hesse to the EU. Summarising an 80-page report in 15 minutes is always difficult, with the additional challenge that between publication and presentation, the agreement on the  Windsor Framework did not only ease the tension over the Northern Ireland protocol but also unlocked several other options for EU-UK cooperation that had been on hold. While the most prominent (in the news) is the negotiation about UK participation in Horizon, in the financial sector cooperation it would be the signing of a Memorandum of Understanding and the establishment of a Regulatory Forum to discuss issues of common interest, as laid out in a declaration attached to the Trade and Cooperation Agreement from 2020.

Will such an MoU and Regulatory Forum be a major change in financial sector cooperation between the EU and UK? I would strongly disagree with such a hope and promise.  There is a reason why the financial sector was excluded in the first place from the TCA (any reference to trade in services explicitly exclude the financial sector).  Also, the provisions on financial sector cooperation in the recent trade deals signed by the UK with third countries are extremely thin, focusing on regulatory dialogue and non-discriminatory market access.

While allowing entry of foreign financial institutions and market participants into a country’s banking system, countries insist for a reason on national regulatory and supervisory power and are loath to share it. And while it is true that the last decades have seen an increase in global and cross-border cooperation (especially after 2008), the sovereignty principle rules strongly in the financial sector policy framework. There are a few cases where countries formally share regulatory and supervisory power, such as in the case of the banking union in Europe. One important reason for keeping regulation and supervision on the national level, in addition to high economic costs (including for non-stakeholders) of fragility and crisis, is the fiscal responsibility that countries often take on for financial sector losses (as nicely documented in this paper by Luc Laeven and Fabian Valencia).

It is therefore not surprising that the EU is reluctant to move beyond sector-specific equivalence agreements with the UK (or Switzerland, for this matter), currently with the UK in only one area, CCPs. And even here, this equivalence decision is temporary (extended until mid-2025), with a clear political will in the EU to attract more euro clearing away from London into the Single Market and preferably into the euro area.  There is a clear stability concern, as laid out in this ESMA report, which reports on different crisis scenarios for the UK CCPs and the limited role and powers that EU regulatory authorities would have in case of their failure and resolution, even though there is failure of these CCPs would have enormous implications for EU financial markets.

In sum, I would not expect any immediate changes in the relationship between regulators on both sides of the English channel or in terms of market access for UK based financial institutions and market players.  Supervisory cooperation has been ongoing, independent of the political stand-off. Regulatory dialogue is important, including to avoid dramatic regulatory divergence and planning for worst-case scenarios. Expecting more than that seems unrealistic.