How `Equivalence' Stands to Shape Post-Brexit Banking: QuickTake

(Bloomberg) -- British banks have had to lower their expectations for how they’ll do business with the European Union after the U.K. leaves the bloc. The U.K. government dropped its initial demand that British-based banks retain easy access to the bloc, instead proposing a framework based on one available to countries outside the EU. It’s an arrangement known as regulatory "equivalence." And it’s a plan whose basis the EU may be ready to endorse.

1. What is regulatory equivalence?

Generally speaking, it’s Nation A accepting that Nation B’s rules are as strict as its own and letting Nation B’s companies do a limited amount of business on its territory for such time as Nation A sees fit. Under EU law, the European Commission designates a third country’s rules and its oversight of specific businesses as “equivalent” based on assessments by the bloc’s own supervisors. The commission can take as long as it likes to do so.

2. Would that work?

For the British finance industry, a standard equivalence arrangement has huge shortcomings, the most important of which is that it’s granted unilaterally by the EU and can be withdrawn with 30 days’ notice. That hardly provides the predictability and stability that businesses covet. The current process for granting equivalence is also scattered over many pieces of legislation and would open doors to only some parts of the finance industry, leaving out deposit-taking and lending.

3. What’s the solution?

An expanded version. That’s what the government of Prime Minister Theresa May proposed in July. May’s White Paper suggested including more services and addressed how to ensure each side has autonomy over granting market access while making sure companies can’t be kicked out overnight. According to a Nov. 1 report in the Times of London, the two sides are close to reaching an agreement based on equivalence -- but with some extra features to make it more palatable. The key concessions, according to the Times, are that the notice period for equivalence to be withdrawn would be a lot longer than 30 days, and neither side would unilaterally deny access without arbitration.

4. How did we get to this point?

Initially, the banks hoped to keep their so-called passporting rights to continue selling their products and services throughout the European Union after Brexit. Once that prospect dimmed, they hoped at least for "mutual recognition" by the U.K. and EU of each other’s regulations, which would have allowed the London-based banks to keep serving the EU with minimal disruption. To the EU, both passporting and mutual recognition looked like "cherry-picking" -- the U.K. trying to benefit from the good bits of being in the bloc without putting up with the obligations of membership. The U.K.’s shift reflected its understanding that, post-Brexit, the EU isn’t going to allow British banks to continue operating as they have.

5. What has the U.K. industry said about the plan?

Reactions were mixed when May first proposed it in July. TheCityUK, which represents the financial services industry, angrily mourned the decision not to push for mutual recognition, as did the City of London Corporation, which manages the British capital’s financial district and called the proposal “a real blow.” U.K. Finance, which represents about 300 firms in banking, recognized the shortcomings of the existing equivalence arrangements and said the “government is right" to seek to strengthen them. The Association for Financial Markets in Europe, whose members focus on wholesale markets, said it hoped the plan “will form the basis for negotiations to progress" toward a deal that would maintain financial stability.

The Reference Shelf

  • The Times of London says a tentative agreement on financial services will see the EU accept that the U.K. has equivalent regulations to Brussels.
  • Bank of England Governor Mark Carney’s testimony to Parliament on "dynamic equivalence." 
  • The slides summarizing the EU’s preliminary position on regulating services in a Brexit deal.
  • A QuickTake on a “no-deal Brexit” and another on the issues facing the U.K. financial industry.

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