UK Edition
Britain has two challenges it must tackle simultaneously. First, it needs to make sure that the City of London retains as much access as possible to European markets. This could prove simultaneously easier and harder than is usually portrayed. But the second issue is that we need to diversify away from the single market: it is a hopelessly low-growth part of the world economy. That part of the Brexit equation is usually overlooked.
Let’s take each in turn. One way to sell to the EU is to use the passport, a mechanism which is currently available to members of the European Economic Area. The limitation, of course, is that EEA membership requires single market membership and it isn’t clear whether that is something that the UK would want to retain after Brexit.
The Prime Minister wants far greater controls over immigration. This could theoretically be possible within the single market: Liechtenstein, for example, is able to limit the free movement of people – so the idea that the Four Freedoms are indivisible is simply propaganda.
EEA members also have a more general “emergency break” over migration. Yet such an arrangement may not be enough for May. She may well be able to negotiate a suitable compromise – or otherwise may decide to leave the single market. A range of outcomes are clearly possible – but yes, it is perfectly possible that we could lose the passport as it is currently understood.
This would be no reason to panic, as even Moody’s now grasps. There will be a new access system known as an “equivalence regime” under MiFID II: it is designed to make it much easier for non-EEA countries with rules that are deemed to be sufficiently harmonised with those of the single market to trade with the EU. The original MiFID directive was originally introduced in the UK in 2007; it is now being updated and extended, with the changes taking place on 3 Jan 2018 (though, of course, this may not happen). The new rules are called MiFID II.
Let us assume that the UK, which currently has an identical set of financial rules to the EU, qualifies for equivalence – this should in fact automatic, at this stage at least, and until we choose to dramatically vary our regulations. Under this new system, a wholesale UK-based business that dealt with professional clients and counterparties would need to register with the European Securities and Markets Authority (ESMA). It could then trade with the EU from London just like now.
It would be a bit trickier when it comes to selling to the retail market or to some elective professional clients – but it already is today. Under the new rules, if a country has implemented MiFID II’s article 39, the “equivalent” country would then simply have to establish a branch in each EU member state in which it wants to trade. Crucially, a branch is much easier to set up than a subsidiary: they require far less capital and resources and in practice could simply be little more than a brass plate.
Needless to say, lawyers disagree on everything, including on how all of this would work. The most important point here is to compare any change to the reality as it currently exists – the EU doesn’t have a real single market in financial services. Some supposedly extra costs post-Brexit already exist today.
The problem with this option, of course, is the need to maintain equivalence, a status which the UK could lose if it wanted to tear up some of the stupid, economically illiterate EU rules that currently bind the City. If we wanted to ditch the dumb bonus cap rules – which merely push up basic pay and make banks riskier – the EU may decide that we are no longer equivalent.
So what then? There are other ways that UK-based firms (including subsidiaries of US or other financial institutions) could access the EU outside of the single market.
The big banks and institutions already have lots of subsidiaries across the EU. They could probably retain almost all of their staff in London, but operate via these subsidiaries (some disagree, but I don’t buy their arguments). It would, though, be potentially harder for small firms though, in practice, not insurmountable. The negative may be small – but we can’t be sure.
There may be some loss of business and some loss of employment. But if this change went hand in hand with other domestic pro-City policies, the extra costs could be cancelled out, ensuring that the City remained the best place for finance firms to base themselves. The City already trades with the world, not just the EU.
In theory, the best option for the long term would be negotiate a continuation of the passport outside of the single market and without requiring any equivalence regime, as part of a broader game of give and take. It is in the interests of Germany and others to have access to London’s pool of capital.
Even if they don’t see it that way in the heat of the moment, we are about to enter a massive negotiation, where everything will be up for grabs. May must make it clear that she will prioritise, one way or the other, maintaining good access to Europe for the City.
But the second issue is that we need to diversify away from the single market and the EU, for the obvious reason that it is a hopelessly low-growth part of the world economy. The UK accounts for 54pc of all worldwide euro-denominated claims booked outside the euro area, and 60pc of all liabilities – but the single currency’s importance is waning, mirroring the eurozone’s relative decline.
This is one reason why the City has started to lose market share in areas such currency trading. Yes, we need to find ways of keeping EU markets open – but we desperately need to use Brexit as the impetus to diversify as quickly as possible.
allister.heath@telegraph.co.uk
Let's not forget during the Brexit bunfight that we must also diversify away from Europe