How would a Brexit affect financial services regulation in the UK?
Financial services is one of the UK's most important sectors, contributing over £126bn to the UK economy and representing 10% of GDP. The key post-Brexit issues for the sector are summarised below.
A new regulatory framework
The UK's relationship with the EU forms the basis of the UK's regulatory framework for financial services, mainly through a myriad of ever harmonising directives, such as MiFID II. There are three potential outcomes of a Brexit which could replace the current framework:
-
Membership of the European Economic Area (EEA), allowing full access to the single market but requiring general compliance with EU legislation and principles.
-
Membership of the European Free Trade Association (EFTA), consisting of bilateral agreements granting access to the single market on a sector by sector basis in return for compliance with sector-specific EU legislation.
-
Reliance on current membership of the World Trade Organisation (WTO) and unilateral treaties, meaning no access to the single market and compliance with EU and national regulations unless specifically negotiated.
UK regulation of financial services
Despite many rules being sourced in EU law, the regulation of financial services is broadly unlikely to change significantly for a number of reasons.
Firstly, the FCA and PRA have been influential in the design of key directives such as Solvency II and will be slow to reject rules they helped shape to improve regulation following the financial crash. Secondly, the respective roles of the FCA and PRA constitute a UK-imposed high watermark of "twin peaks" regulation, which is unlikely to be weakened by unravelling current rules. Thirdly, the UK will be keen to maintain regulatory equivalence with EU member states so that UK firms can maintain access to the single market in financial services (outcomes 1 and 2 above would require this).
Finally, some rules embody continuing obligations outside of the EU, such as the EMIR, which implements the G20's commitment to reform the derivatives market in 2009.
It is possible that some rules, such as the AIFMD, could be reduced to ease the burden on those dealing in lower risk alternative investments. However, the regulatory appetite for this is unclear and it is unlikely to be high priority in the immediate aftermath of a Brexit.
EU regulation of UK financial services
Currently, there is no EU-specific regulation of UK financial services as EU "passporting" rules allow providers access to the whole of the single market by relying solely on UK authorisation. Loss of this regulatory freedom would be felt keenly by the full spectrum of banks, building societies, insurers, brokers/intermediaries, fund managers, investment firms, advisers and payment service providers.
Many EU and non-EU financial firms currently headquarter their operations in London and have been vocal about leaving in the event of losing their passporting rights. London is also the largest centre for financial services in the EU. 2,000 UK firms passport their services and their activities constitute 75% of all MiFID passported services into the EEA.
It is likely that the implications for EU consumers as well as the UK economy would motivate both the UK and the EU to maintain single market access for UK financial services. If not, the exact rules imposed by EU regulation of UK financial services will depend on which of the outcomes detailed above the UK is able to achieve in the wider post-Brexit negotiations.