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12 September 2018

Sleepwalking towards crash-Brexit – 144th Brussels for Breakfast – CPD Notes

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The odds for a no-deal, chaotic Brexit soared in the summer due to fierce infighting within the Conservative party and the publishing of recommendations in case of no-deal, to the point that some argue that May's government will be completely unable to achieve any form of Brexit agreement.

Graham Bishop / Paula Martín Camargo


Organised by the Centre for the Study of Financial Innovation (CSFI) with co-presentersMark Foster (Kreab) and Angus Canvin (UK Finance).This blog covers the key subjects since our last meeting that I hoped to cover but, as always, we ran out of time to deal with them all. As a Friend, you can watch the 35th `structured’ CPD web-cast with CISI. These Notes may be read to record a further 30 minutes of `structured CPD’, including a dipping into the links to the underlying stories.

Highlights from the “Brussels for Breakfast” meeting

The new term opened with a burst of speculation about the top jobs in the EU that are now up for grabs during the next year. Nominations for the new Chair of the SSM have now closed – with only two declared candidates. If Sharon Donnery – Deputy Governor of the Central Bank of Ireland - is appointed, how will that affect the chances of her Governor – Philip Lane – being appointed to the ECB Board to replace Peter Praet?

Chancellor Merkel seems to have decided that Germany should have a run for Commission President rather than ECB President. Does that open the door to one of the excellent French candidates for the ECB? But is her support for MEP Weber as the EPP’s Spitzenkandidat a ruse to allow the European Council to install its own choice, rather than accepting the European Parliament’s decision? However, the successful candidate must obtain the support of an absolute majority of MEPs --- more in the months ahead!

We honoured our promise not to discuss Brexit politics but we could not avoid the problem of continuity of contracts. So far, the Commission has argued that it is a matter of private contracts and not public policy – despite UK demands. However, the head of the German regulator – BaFin – has now come out in favour of public action – as has AFME. We were told that one of the problems in private re-papering was the risk that those “in the money” had an economic interest to just demand “the money” instead!

Banking union quickly came into focus as we discussed the progress reported by the EBA’s latest Risk Dashboard: CET1 ratios slipped a tad to 14.4% and overall NPLs down to 3.9% - a third down in 3 years but still standing at €779 billion. However, banking ROE slipped to 6.8% - still below the cost of capital for most banks. This led us into a discussion of the problems faced by smaller banks - the natural funders of SMEs – that are financed largely by retail deposits that may turn out to be more exposed to bail-in than depositors may realise.

CCP interdependency was featured in an IOSCO report that demonstrated that the industry continues to ever-more concentrate – not only amongst clearing members but also in services provided to the CCPs. These inter-dependencies underline the need for stress tests to promote CCP resilience, recover and resolvability.

Mark your diary:   145th “Brussels 4 Breakfast”: 16th October at CISI offices


These Notes for the Friends of Graham Bishop will be supplemented by our full Workbook for our CPD clients (link) – in conjunction with the 30-minute CISI webcast. We our “CPD Weekly – 10 Minute Read ‘n Verify” (link) complies with ESMA Guidelines

Key items from the rest of the month:

After a summer of utter despair for UK PM Theresa May, who saw some of her own Ministers turn against the proposal agreed at Chequers and was forced to publish plans on what a no-deal Brexit would mean for every British industry to assuage Tory Brexiteers, autumn offers no brighter perspectives for talks on Britain’s disconnection from the EU. With the far right on the rise, migration to the EU an unresolved issue causing vociferous divisions among member states and mounting pressure to step up efforts to complete Banking Union and agree on the next EU budget before the Parliament elections in May next year, Brussels has ‘bigger fish to fry’ and isn’t likely to devote much time or grant important concessions to a country that seems to be shooting itself in the foot as it waves goodbye to the largest political and economic bloc in the world.

A detailed analysis of the so-called Chequers plan, or the White Paper on a new UK “partnership” with the EU, shines a light on the naivety of its key assumption: the premise that the UK and EU27 are negotiating on a level playing field rather than with a partner 6-8 times one’s size, writes Graham Bishop. The complete absence of any detail on how the detachment will be accomplished and how new arrangements – which keep being at odds with the EU’s main requirements - will be put into place for financial services, along with a unrealistic approach to the timelines for deliberations and implementation of these, “confirm that there is no realistic possibility of even half a life-belt for years to come,” Bishop concludes. 

The White Paper didn’t go down well among May’s team and prompted several high-level Cabinet resignations such as Boris Johnson - who demanded the proposal be ditched outright - and  David Davis - who warned that he’ll vote against the plan, - which raised the prospect that the Prime Minister could be defeated in Parliament later this year. The rift among Tories was exposed the day the new Brexit Secretary, Dominic Raab, presented the first batch of technical notices for British businesses to know how to proceed in case of a cliff-edged split with the EU  in an upbeat tone, only to be faced hours later with a letter by Chancellor Philip Hammond saying the crash would cost public finances £80bn. That sum would be added to the 2% of GDP that Brexit has already cost to the UK, according to UBS estimates. The £7.8bn dip in services exports to the EU in the first quarter of the year due to a big decline in trade with the EU a year ahead of Brexit must have contributed significantly to the Swiss bank’s calculation, according to the Office for National Statistics (ONS). The repercussions of the EU and the UK officially starting splitting WTO membership agreements are yet to be seen.  

On the EU side, the top EU negotiator for Brexit talks, Michel Barnier, also rejected the plan agreed at Chequers, saying that he is ‘strongly opposed’ to its trade proposals. Barnier instead urged to find a "backstop" solution in the Withdrawal Agreement for the Northern Ireland border, one of the main issues of the 20% of the deal still pending agreement – however, the EU broker tried to appease increasing worries that negotiations could fail, saying a deal could be reached “within six or eight weeks.” The Frenchman shows no signs of softening his negotiating stance and British mainstream politicians of all parties should ready themselves to accept the Barnier package deal, Andrew Duff cautioned. But it is also in Brussels’ hand to avoid the abyss and make sure that they agree on a firm direction by the autumn, experts at Bruegel argued.

All these circumstances increasingly point to a disorderly Brexit, Fitch acknowledged, signalling that “an acrimonious and disruptive no-deal Brexit is a material and growing possibility”. If negotiations with the EU finally collapse, half of Britons said the final decision over whether to leave the European Union should be taken by the public in a referendum, according to a survey of more than 10,000 people. Such a vote could reverse the course of Brexit, according to a new poll commissioned by the People’s Vote campaign for a fresh referendum: The English region that could be crucial to a Conservative election victory and backed leaving the European Union in 2016 has swung against exiting the EU.  

The financial world across Europe is bracing itself for a tumultuous break up in a few months: ESMA reminded UK-based regulated entities that short time remains for the submission of authorisation applications to the EU in case they will not be able to operate from Britain as before Brexit.

Brussels is confident that the market itself will be able to mitigate the impact of a hard Brexit on financial servicescontracts, downplaying warnings by the Bank of England that the validity of some £29tn of derivatives, such as interest rate swaps, could be called into question unless authorities act to ensure their continuity. But the president of to Germany’s top financial regulator BaFin, Felix Hufeld, expressed concerns that run counter to Commissioner Dombrovskis’s assurances that the industry doesn’t need urgent regulatory or legislative action. Hufeld said the industry alone cannot solve the problem and UK and EU must swiftly put proper measures in place to ensure a smooth transition of derivatives contracts.

Regulatory disruption is another cause for major consternation among fund managers that buy riskier additional tier 1 (AT1) and tier 2 bonds, who are worried that European bank debt issued under English law worth over €100bn may no longer comply with the EU’s MREL regulation if negotiators are unable to come to terms with the Brexit puzzle. But there will be no regulatory race to the bottom post-Brexit and UK will keep meeting global regulatory standards, chair of the Financial Conduct Authority (FCA) Charles Randell assured, citing the own firms’ interest since they believe the “quality kitemark” current UK regulation brings is an important commercial advantage on the global stage.

Banks expanding operations to the EU to secure business will be given greater leeway to choose the modelthat best fits their interests, a stance in contrast to the much stricter line from the ECB.  Andrew Bailey, the head of the Financial Conduct Authority, said the regulator is “open to a broad range” of arrangements on how to book risk and profit, provided that procedures were properly overseen by the UK financial watchdog. The issue has become more urgent in view of the rising chances of a disorderly Brexit, as is preventing a widespread shift of regulatory capital to the EU, the head of the UK Treasury cautioned. Philip Hammond’s warning chimes with industry fears that the divorce will fragment European financial markets, forcing banks to divide the pools of capital concentrated in London. This would be a more strategically important issue than jobs shifting from the City to other European financial hubs, bank executives agree, because it ultimately creates employment, investment and tax revenues.

Even if it may not be considered as relevant as moving capital out of London, the drip, drip of financial jobs relocating to the EU27 redoubled during the summer: the Swiss bank UBS flagged 100 million francs in Brexit-related costs and said to be leaning towards Frankfurt to establish its European headquarters, the city chosen by Credit Suisse as its key post-Brexit hub and where Deutsche Bank has shifted half of its euro clearing. Bank of America’s decision to move research staff to Paris created a dangerous precedent that has raised concerns about The City’s future. The French capital was also named by TP ICAP, the world’s largest interdealer broker, as its new EU headquarters post-Brexit, while Baillie Gifford picked Dublinto Brexit-proof its business.  

Sam Woods, the UK central bank’s top supervisor, reiterated the BOE’s view that last year’s stress test showed British banks are strong enough to overcome a disorderly Brexit, thanks in part to new rules on capital and liquidity introduced since the financial crisis. Woods said firms aren’t fully ready for the operational changes but he sees progress, and was optimistic that draft legislation introduced by the Bank to provide temporary authorization to EU firms so they can continue doing business even without a transition period would yield a crucial backstop. But much more is needed from EU regulators to avert damage to European economy in the event of a hard Brexit, the UK Government warned. In a paper on financial services trade with third countries after Brexit, lawmakers highlighted data which shows’ Britain’s preeminent position in the industry and therefore in Brexit deliberations. The paper reiterated the UK’s requests: ‘enhanced equivalence’ that goes beyond what the EU already has with other countries, and a future trade deal on financial services close to the new EU-Japan pact. The expanded equivalence regime demands were dismissed outright by Germany, and sparked doubts that they won’t work for brokers.

One of the sectors that could hit hardest is clearing of derivatives in euros, whose European market is concentrated in the UK: a significant disturbance involving a major UK CCP could affect financial stability and market functioning across the EU, ECB’s official Yves Mersch reminded. As shown in a report that maps interdependencies between central counterparties and their clearing members and other financial service providers, high concentration and interdependency of the CCPs market shows that the default of a CCP clearing member could result in defaults of the same entity or its affiliates in a high number, as well as have significant consequences for the rest of the network. Mersch supported amending both EMIR and Article 22 of the ECB to establish a comprehensive legal framework that is in a condition to address the risks CCPs pose to the Union. Regulatory buffers will be all the most important due to other European market’s difficulties to attract clearing business that can be overseen within the EU: Deutsche Börse chief executive Theo Weimer has tempered his expectations to quickly win a large share of the British-dominated industry. Weimer’s ambition was to secure a quarter of the business but Deutsche Börse’s current market share is stuck at around 8%.


Euro bonds are intensely topical in the debate around European Union reform. A proposal by the Commission to develop a regulation on Sovereign bond-backed securities (SBBS),seeks to provide an enabling framework for a market-led development of SBBS, thus encouraging banks and investors to diversify their holdings of euro area bonds.But commentators at Bruegel warned that the ECB is compromising the attractiveness of euro-area sovereign bonds and should refine its collateral framework in order to continue protecting its balance sheet without putting at risk the safe-asset status of sovereign bonds of the euro area. 

Authors at VoxEU proposed a 20-year Purple bond transition as a safe asset for the euro area. Their study illustrates how the tool could address issues relating to the complexity of splitting the existing sovereign debt stock and concerns on contagion amongst senior and junior debt structures, which impede a single safe asset, and offer a path to genuine Eurobonds.  

Banking Union

Outgoing ECB’s head Mario Draghi’s warned EU officials at the end of June, when they agreed to beef up the eurozone’s bailout fund by giving it enhanced powers, but fell short of an agreement on a common deposit insurance - “make sure that it works and that it works soon.” It turned into a prediction when Elke Koenig, chief of the region’s bank failure agency, cautioned politicians that the arsenal given to the Single Resolution Fund remains insufficient to shore up a troubled eurozone bank. Predictions to fill the pot of the public guarantee that serves as a backstop for the fund fall far short of the funding needs required in case a large bank fails, Koenig pointed out.

A reminder that was met with scepticism in Germany, were lawmakers rule out the idea unless a strong oversight is provided to ensure that losses aren’t passed on to German shareholders, especially if they come from a failed bank based in a Southern country - like Italy. The issue has been put off until December Council, but economic advisor to German government Isabel Schnabel urged policymakers to go ahead with the two elements of the Banking Union that are still missing - a European deposit insurance scheme (EDIS) and a system of regulation for banks’ sovereign exposures – before it is too late, that is, before Eurosceptic forces in Italy and across the EU surge in the next Parliament elections as voter intentions show, and become a block that will slow down the deepening of eurozone reform.

The risk reduction vs. risk sharing debate has drained most of the time to make Banking Union work, jeopardising the project's key benefits, Vice-Governor of the Bank of Portugal Elisa Ferreira warned. Ferreira said that recent research by the ECB has shown that with proper risk-based banks’ contributions, an almost negligible cross-border subsidisation occurs, which renders fears totally unjustified.

The Portuguese official drew attention to the fact that, “ultimately, the incomplete set-up of the Banking Union and the full implementation of the resolution regime are a dangerous combination.” The EBA keeps developing resolution rules: the authority reported good progress in the functioning of resolution colleges in 2017. Guidance on capital requirements shows further improvements: the EBA's monitoring of capital instruments proved to have been beneficial in the implementation of the Capital Requirements Regulation, whereas its final guidance to strengthen the Pillar 2 framework focused on stress testing.

The European Banking Authority’s Risk Dashboard confirmed steady improvements in the management of NPLs across the EU, an ongoing headache for banking officials, but reminded that banks profitability remains a key challenge. The ECB announced further steps in its supervisory approach to address the need to reduce the stock of NPLs.  

ESMA’s officer Jakub Michalik appeared before the ECON scrutiny session on Benchmarks Regulationto provide an update on the Authority’s recent work in this regard. ISDA launched a market-wide consultation on technical issues related to new benchmark fallbacks for derivatives contracts that reference certain interbank offered rates (IBORs). Top UK regulator Andrew Bailey urged bankersto stop using the controversial interest rate benchmark LIBOR, which is being replaced by a new overnight rate, SONIA, because they risk destabilising themselves and the financial system, Britain’s top regulator has warned.   

Authors at OMFIF analysed the claims of the Bundesbank on the ECB (through the Target-2 system) that are approaching €1tn, and concluded that Target-2 masks reduced fragmentationand that the Eurosystem should follow the lead of the Fed and rebalance the system annually.

The Basel Committee on Banking Supervision’s latest review of the progress of the biggest banks on its approach to risk data depicted a poor performance of the 30 global systemically important banks in this respect, a circumstance that is exacerbated by the threat of cyber attacks.

The race is on to find the next European banking top officials: Angela Merkel declined to push its leading candidate, Jens Weidmann, to succeed ECB head Mario Draghi when he steps down at the end of October 2019. Some of the frontrunners to fill the post include names as prominent as Benoît Cœuré, an ECB insider preferred by the Bank; the head of the IMF Christine Lagarde; or France's central bank governor François Villeroy de Galhau. For her part, Danièle Nouy is about to complete her term at the helm of the Single Supervisory Mechanism, whose job seeking to level the playing field by imposing the same standards on banks in the eurozone generated notorious clashes with Italian bankers.

Capital Markets Union

A group of European countries dubbed “the new Hanseatic League” by diplomats, is pressing Brussels to  “redouble” efforts to build a Capital Markets Union (CMU), warning that Brexit and looming EU elections have shortened the time available to “target and prioritise” certain important CMU measures that can realistically be completed by the May 2019 EU parliament elections, which will shut down legislative work in Brussels for several months. The Commission continued work on the flagship project, with new regulation aiming at providing guidance on protection of cross-border EU investments.

ESMA kept readying guidance on the new European financial rules: the Authority updated the Questions and Answers on its temporary product intervention measures; made
new bond liquidity data available and launched a consultation on the clearing obligation under EMIR.

Discussions around the recovery and Resolution of CCPs prompted researchers atECMI to suggest to bring the 10 CCPs in the euro system under the umbrella of the SRB as a resolution authority and extend to them, as a last resort, the use of the temporary public sector funding mechanism of the Single Resolution Fund (SRF) and its forthcoming final fiscal backstop, the European Monetary Fund. The IOSCO published a report showing jurisdictions progress towards implementing standards for payment, clearing and settlement. The Securities Commission called for comments on governance of OTC derivatives data(other than UTI and UPI),  while theFSB and standard-setting bodies consulted on the effects of reforms on incentives to centrally clear over-the-counter derivatives.

Reviving the securitisation market in the EU is a key goal of financial lawmakers, who published rules to help transition to the new STS regime, which comes into force in January of next year: ESMA defined standards for the implementation of the Securitisation Regulation anddisclosure standards, whereas the EBA published final draft technical standards defining the homogeneity of the underlying exposures in securitisation and providing clarity on risk retention for securitisation transactions.

PCS issued two documents designed to assist market stakeholders to prepare for the new STS securitisation regime. 

ESMA consulted on revising credit rating agencies’ (CRAs) periodic reporting and clarified its endorsement regime for non-EU credit ratings. The Authority fined five Nordic banks with €2.48 million for issuing credit ratings without authorisation.

Asset Management

MEPs approved creating a Pan-European Personal Pension Product (PEPP)that will increase investment choices for retail clients and provide a safe way to boost their retirement savings.

ESMA found that national regulators need to improve their supervision of UCITS engaging in efficient portfolio management techniques.The Securities and Markets Authority asked the European Commission to provide clarity to market participants and investors on the issue of the compatibility of the reverse distribution mechanism, or share cancellation, under the MMFR.


The European Supervisory Authorities published further guidance on the Key Information Document for PRIIPs. EIOPA published the first set of Questions & Answers on the application of the Insurance Distribution Directive. The Insurance Authority examined the causes of insurers’ failures and near misses in a report that gives the parting shot to a series aimed at enhancing supervisory knowledge of the prevention and management of insurance failures.  

Corporate Governance/Accounting 

The FRC released the 2018 UK Corporate Governance Code which puts the relationships between companies, shareholders and stakeholders at the heart of long-term sustainable growth in the UK economy.

Deloitte issued the results of its global IFRS insurance survey, which shows that 90% of worldwide insurersbelieve they will be compliant with IFRS 17 by 1 January 2021. The IAESB published two new Accounting Education Insights articles on professional scepticism.

Accountancy Europe mapped the implementation of new EU audit rules as of August 2018, two years after the implementation deadline. The Public Company Accounting Oversight Board announced it will examine auditors’ ‘going concern’ reporting - crucial judgments that indicate whether a company is viable for the next 12 months.   

Clients Union

The IESBA released new enhancements to its global ethics code which address more fully the responsibilities of professional accountants around the offering and accepting of inducements.  

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