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Brexit challenges and the financial regulatory environment

 
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The nature of the United Kingdom’s withdrawal from the EU clouds the picture in Europe’s largest financial market, London.

The withdrawal deal is still being negotiated, but the risks of each scenario are increasingly clear for the big banks. Let’s look at some of the key points of post-Brexit scenarios.


What comes next?

If the UK totally removes itself from the European banking system, its regulatory framework is unclear. The Bank of England would once again reign supreme over the British financial markets. This is certainly the most likely scenario, although the high-stakes drama around Brexit is baffling and unpredictable.

A softer Brexit, with a customs union, would create a bit more certainty for financial markets. In this scenario, the UK would still regulate its own financial markets, but some of its financial services, such as cross-border transfers, might still fall under EU regulations.

What happens if the UK takes a different tack, adopting a Norway-style model joining the EEA and securing EFTA membership? Companies would of course still be able to enjoy travel benefits under the passport regime, but also be able to keep their existing regulatory framework, providing certainty to financial markets and investors. For the EU, this is perhaps the most preferred outcome at this moment.

European Communities Act 1972

The relevant UK law in any scenario is the European Communities Act 1972. Specifically, what will be the UK’s attitude towards it post-Brexit? The law integrated much of the EU’s financial services laws into UK law via secondary legislation (not directly passed by parliament). These laws wouldn’t apply any more, unless parliament enacted them too. The UK would probably retain some of these laws, but it’s not clear which or how it would happen. This is perhaps the most uncertain of the Brexit impacts for financial markets, as Parliament’s attitudes towards these laws cannot be reliably predicted.

Will small banks benefit from Brexit?

They might. Sam Woods, deputy governor of the Bank of England’s Prudential Regulation Authority, says in the Financial Times that ‘some models of Brexit might allow the UK to cut back the amount of regulations that apply to smaller lenders’. This would allow smaller banks to be more competitive. Smaller UK banks were often stymied by the different legal traditions across the EU 27, and the desire to harmonise regulations and supervision made smaller domestic firms less competitive, according to Woods. 

However, Woods has said the Bank of England and the Financial Conduct Authority will not be watering down financial supervision as a result of Brexit, and the financial markets can expect the same stability. This appears to be a concession to Brussels, because the UK will have to be seen as an ‘equivalent’ to retain single market access. So a ‘bonfire of regulations’ post-Brexit can’t happen if the UK is to retain this access, according to Woods. That means, at least in his view, that a softer Brexit is all but assured if single market access is still on the table.

 
Arthur Shah-NazarovBrexit