07 May 2018

A bespoke services deal with EU 27: fantasy or reality?

Anyone who thinks that it will be easy for the EU to grant the UK a bespoke deal on financial services needs to understand what the EU27 thinks is at stake. After all, the Great Financial Crash had its European headquarters in the City of London and has resulted in a re-structuring of the EU’s economic governance rules to give a hugely enhanced role for Eurozone bodies such as the Eurogroup. The crisis forced the whole thrust of financial regulation within the EU to move on from “mutual recognition” – pioneered by UK Commissioner Lord Cockfield in the 1990s – to a single Eurozone regulator such as the Single Supervisory Mechanism for the banking system.

However, the UK Government has now revived the concept of mutual recognition especially for financial services. As Brexit Secretary Davis put it: each side would "trust each other’s regulations and the institutions that enforce them.” This may work on the day of Brexit but the Prime Minister raised the issue pointedly in her Florence speech – what happens when we want to diverge? The EU believes it has answered this question explicitly in its published negotiating guidelines “The European Council further re-iterates that the Union will preserve its autonomy as regards decision –making” – meaning the EU27 will decide for itself what it wants to do. This is hardly surprising for a group that is about seven times the size of the UK.

When the UK chooses to diverge from EU regulations, it is a reasonable presumption that the EU will no longer “trust” the new UK rules. Both sides will only change their rules when there is some event that requires it. If the other side does not follow, then there would be a divergence from what is deemed necessary – automatically killing mutual recognition, making it an ineffective strategy to secure the long-term future of the City as the EU’s financial centre.

Equivalence

In any case, the EU thinks of special deals for financial services as “cherry picking” and has vociferously ruled that out. Instead, it would offer “equivalence” whereby UK rules would be examined and found to be equivalent to EU rules. In effect, the UK would be a “rule-taker” – in Jacob Rees-Moggs incendiary phrase, a “vassal state”.

ECON Rapporteur MEP Brian Hayes has just published a draft European Parliament report on the EU’s relationship with third countries for financial services – so including the UK after Brexit. He argues that the 'time is right to completely reform our equivalence rules, particularly in light of Brexit' and call for a standalone financial services agreement between the European Union and the United Kingdom. 

His analysis is strong if the City is "realistically planning to rely on equivalence as the platform for post-Brexit single market access for the City of London, then we will have serious problems for financial services cooperation between the UK and the rest of the EU. It is a very limited form of access".

A “Canada plus plus plus” deal – what is in CETA?

So we come back to the EU27’s proposal of Canada’s 'comprehensive and economic trade agreement’ (CETA) deal as the only plausible template.

What could this actually mean for financial services? The CETA document is 1598 pages long with just 230 pages of treaty language and the rest detailed schedules of tariffs and quotas. Chapter 13 is about financial services and runs to just 14 pages – with 13.16 perhaps the most difficult article for the UK as it is entitled “prudential carve-out” and provides that “a party may, for prudential reasons, prohibit a particular financial service or activity.” That short sentence opens the way for the EU27 to protect itself against another financial crisis by requiring any provider of services into the EU to comply not only with EU rules, but also the necessary enforcement process provided by the European Court of Justice. That is the meaning of the EU27’s negotiating guidelines.

In any case, “Canada plus plus plus” is vulnerable to a much bigger problem – as outlined by the UK Trade Policy Observatory. They argue the EU is likely to reject a bespoke “Canada” trade deal for UK for a very simple and basic reason. “The EU genuinely believes that countries are either in or out of the Single Market, even if it grants a few derogations from the rules to members and gives some non-members member-like market access in a few cases… The MFN clause means that any CETA+ commitments made by the EU in an existing or future trade agreement with a third country (e.g. the UK after Brexit) must be extended to Canada in the relevant dimensions…"

Whilst the Hayes report does not deal with the Most Favoured Nation problem, the EU27 Guideline implicitly does: access for financial services will be entirely on EU terms. A bespoke deal for financial services that gives a special mutual recognition with the UK – or even equivalence – is an unrealistic expectation.

© Graham Bishop