The Square Mile has reigned supreme as Europe’s leading financial centre for decades. The integration of the single market during the nineties, which included ‘passporting’, allowed the free flow of labour and capital across Europe, and accelerated London’s emergence as Europe’s pre-eminent centre of banking and finance.
Talent from across the continent flooded to London where, thanks to Thatcherite deregulation, there was more money to be made than anywhere else in Europe.
By some measures, a quarter of the financial services sector’s annual revenue comes from business related to the EU. While the EU is an important market for many UK industries, the Institute for Fiscal Studies (IFS) calculates it is especially important to financial services, with around 40% of exports going to Europe. Many overseas banks, seeking access to European markets, have made the UK their European headquarters. It’s no wonder, then, that some of Brexit’s most vociferous critics have come from the world of banking.
Ever since the UK voted to leave the EU in 2016, banks have been planning for withdrawal by setting up EU trading hubs, relocating staff to other European financial centres and modifying processes to account for the extra layer of bureaucracy entailed by leaving. Preparation is challenging, not least because the terms of the UK’s departure remain uncertain.
However, with the unveiling of Theresa May’s withdrawal agreement, we at least have a realistic vision of what Brexit could look like. Her deal allows us to narrow down the impact on the banking industry to three possible scenarios: May’s withdrawal agreement; no deal; remain (most likely resulting from a referendum in which May’s deal and/or no deal is pitted against remaining in the EU).
May’s deal entails an extended transition period, meaning no catastrophic Brexit ‘cliff edge’ for 21 months at least. Beyond that, there is little for bankers to cheer. The UK had hoped to negotiate its own unique deal on financial services, but under the terms of May’s deal, the UK will be treated like any country outside the EU. Post-Brexit there will be no ‘passports’ allowing bankers and financial services professionals to operate freely across the continent. Instead the UK will rely on ‘equivalence’, a rule which stipulates that market access can be withdrawn at 30 days’ notice. It should be noted that the withdrawal agreement merely sets the terms of departure, and forms the starting point for any deal going forward. It’s therefore possible future negotiations could lead to special concessions for UK banks. However, this seems unlikely given May’s unwillingness to budge on key Brexit promises, such as ending freedom of movement.
According to the government’s own forecasts, May’s deal will have a significant, if not catastrophic, impact on the financial sector. Reports published by DExEU estimate the cost to UK banks, insurers and fund managers of losing their automatic right to do business in the EU, could amount to just under a tenth of its existing £35bn in annual EU trade, i.e. around £3bn per year. Last month the Bank of England said it would expect to the City to lose 5,000 jobs by March 2019 as a result of Brexit. This estimate assumed a reasonable Brexit withdrawal arrangement roughly in line with May’s.
In recent days some influential voices in financial services have expressed support for May’s deal. Writing in the Financial Times, Norman Blackwell, chairman of Lloyds Banking Group, argued that the agreement will end “the damage of continuing uncertainty” and does, despite the compromises, deliver the “essence of Brexit”. John McFarlane, Chairman of Barclays, also expressed support for the deal, though it should be said he has also overseen the expansion of Barclays’ Dublin office with many London-based staff likely moving to the Irish capital.
For most, though, support of May’s withdrawal agreement is grounded more in fears of no deal than any fondness for the deal itself.
In October, financial intelligence company Moody’s said UK banks are well positioned to weather a period of turbulence, thanks to strong capital and robust liquidity. That UK banks will survive Brexit was given further credence by reports that all seven of the UK’s biggest banks passed the Bank of England’s no deal ‘stress test’. However, survival is a low bar, and banking industry executives are virtually unanimous in their assessment that leaving the EU without any deal at all would have a catastrophic impact on the sector.
Without a deal, UK banks would have to trade with Europe under WTO rules, meaning the UK would be treated as a ‘third nation’, i.e. a country outside the EEA. The EU has rebuffed UK attempts to work out a special compromise for financial services industry, meaning banks with UK headquarters seeking access to the Single Market would have to relocate to the continent. In October, Elke Konig, the EU’s top banking regulator, said ‘letter-box’ relocations would not be enough, and that actual transfer of staff would be necessary. Over the summer, a survey of financial services companies by Ernst and Young found 34% of 222 companies have considered or confirmed moving some of their operations to Europe following Brexit. With a no-deal Brexit, we can assume this figure would increase significantly.
There is plenty to be concerned about, then, as we inch toward the 11 December vote on May’s deal. If the vote fails to get through parliament, as looks likely, it’s hard to know what will happen. As no deal looms, MPs may be tempted to hold their noses and vote for the deal, just to avoid the chaos of a disorderly Brexit. If, after multiple attempts, May still can’t get the withdrawal agreement through parliament, she could be tempted to call another referendum, in which case remain once again becomes a possibility. At this stage, the only certainty is that no one knows what is going to happen. For the banks it’s a case of prepare for the worst, and hope for the best.