UK financial services employ 2.2 million people, and generate approximately 12% of the country’s economic output. The UK has established itself as Europe’s financial centre and the global leader in international banking, fund management, international insurance and private equity.
The importance of the City – not just financial services – to the British economy is barely calculable. In 2014 alone, financial and professional services contributed £66 billion in taxes and generated a trade surplus of £7.2 billion. And, make no mistake, any Brexit deal will substantially affect the financial services sector – whether in terms of trade agreements, the rights of businesses to operate in different states, the movement of labour, or whether businesses choose to move their HQs from London.
Financial service regulation – a brief introduction
Since 1999 the EU has allowed financial service firms authorised to do business in one Member State to trade in others without separate authorisation. The initiative, designed to expand the single market through the Financial Services Action Plan, is called passporting.
After the 2008-2009 financial crash, EU regulatory focus turned to curbing specific and undesirable market behaviours, resulting in:
- The creation of the European System of Financial Regulation
- The creation of the European Banking Authority that has stress tested the banking sector and sought to improve weaknesses in banks’ capital structures.
- The launch of the European Securities and Markets Authority to improve the quality of financial legislation and to regulate credit agencies
- The establishment of the European Insurance and Occupational Pensions Authority to support the stability of the financial system and oversee credit institutions, investment firms and e-money
- The creation of the European Systemic Risk Board for macroprudential oversight across the EU
European regulation has also been expanded since 2011 to include alternative investment products (e.g. hedge funds), private equity and housing funds under the Alternative Investment Fund Managers Directive.
Uncertainty is a key phrase associated with Brexit – financial services will feel that uncertainty more than others.
- A special arrangement to ensure the continuation of ‘passporting’ will have to be agreed. Otherwise, firms in the UK won’t have the right to trade in EU countries without authorisation – forcing some to consider whether they should be based in Britain
- Member States including France have intimated they’re prepared to take a tough line on passporting – which could also require UK businesses to establish subsidiaries in individual Member States
- The UK will no longer be able to influence EU financial regulations. This could make for more red tape, with Member States having to consider British representations and the clout of the City when enacting financial legislation
- A period of stagnation could ensure, with businesses choosing to wait and see what a future trading model between the UK and EU will look like
- EU Member States will be better able to pursue their priorities to curb undesirable behaviour within the sector and extend the scope of pan-European regulation
- The UK will be able to create its own regulatory framework responsive to the needs of the City, while also improving the quality of supervision and strengthening market incentives
- For major EU financial centres such as Frankfurt, there’s a real opportunity to challenge London’s position as the global hub – particularly if an agreement on passporting cannot be agreed