With the EU-UK Trade and Cooperation Agreement of 24 December 2020 ("Agreement"), the UK and the EU have fundamentally changed market access for financial services firms. As of 1 January 2021, UK financial services firms intending to do business in the EU are no longer allowed to make use of the European Single Market and offer their services cross-border based on the European Passport. Therefore, the implications of the Agreement for financial services are more severe than for trade, coming close to the effects of a no-deal (hard) Brexit. Especially the role of London as the main hub of the EU's financial market will change, as services such as the trading in EU shares are shifting to the continent.
However, even though the immediate effects can be severe, the mid- and long-term implications for the financial industry must not be bleak. Firstly, especially larger financial institutions have reorganized their European operations in anticipation of a hard Brexit well in advance of 31 December 2020, and therefore reduced their dependency on the Single Market greatly. Secondly, as the UK and the EU intend to agree on a Memorandum of Understanding establishing a framework for Financial Services Regulatory Cooperation by 31 March 2021, it seems possible that a significant array of financial services may in the future be offered between the EU and the UK on the basis of equivalence decisions.
Financial Services: The takeaways
Market Access – The Agreement provides for some specific rules for cross-border financial services between the UK and the EU. However, it does not allow for broad market access under such concepts as general equivalence or "mutual alignment", as were discussed in the course of the negotiations. Insofar the Agreement does not go beyond the rules provided for in the EU-Canada Comprehensive Economic Trade Agreement ("CETA"). Furthermore, the Agreement does not provide for a "most-favoured nation" clause in the area of financial services that would allow the EU and the UK to claim any more favourable treatment granted by the UK or the EU respectively in their future agreements on financial services with other third countries. General Rules – Under the Agreement the UK and the EU are bound by certain general rules concerning financial services: No limitations may be imposed on the number of service suppliers, the total of service transactions or assets and the total number of service operation or on the quantity of service output (Article SERVIN. 2.2, 3.1). In principle, no local presence is required for service suppliers as a condition for cross-border supply (Article SERVIN.3.3), but both parties have reserved the right to adopt or maintain measures providing for the need of local presence for financial service suppliers (ANNEX SERVIN.2). Services and service suppliers enjoy no less favourable treatment than national or third country suppliers (Article SERVIN.2.2, 2.4., 3.4, 3.5). Financial services new to the territory of a party have to be allowed if they would be allowed under the national provisions of that party (Article SERVIN.5.42). Access to payment and clearing systems operated by public entities shall be granted (Article SERVIN.5.44).
While these rules do provide for a much more liberal market access between the UK and the EU for financial services than would have applied under WTO- and GATS-rules in a no-deal scenario, the Agreement falls short of liberalizing financial services in any way close to the EU's Single Market. A main reason for this is that the parties have also agreed on a Prudential Carve-Out.
Prudential Carve-Out – As also provided for in the CETA-Agreement between the EU and Canada, nothing in the Agreement shall prevent the UK or the EU from adopting or maintaining measures for prudential reasons (Article SERVIN.5.39). Such measures include (a) the protection of investors, depositors, policy-holders or persons to whom a fiduciary duty is owed by a financial service supplier; or (b) ensuring the integrity and stability of the Party's financial system (Article SERVIN.5.39 par. 1). Under this rule, the EU and the UK may unilaterally set, for example, the requirement of prudential authorisations, notifications and ongoing supervision in their respective jurisdictions. This can restrict the trade-enabling function of the Agreement for financial services significantly.
International Standards – Both parties are working towards the incorporation of internationally agreed standards in the financial service sector for regulation and supervision (Article SERVIN.5.41). This includes, for example, standards adopted by the G20, the Financial Stability Board and the Basel Committee on Banking Supervision.
What is the next step?
Joint Declaration – Further to the Agreement, the UK and the EU have made a Joint Declaration on Financial Services Regulatory Cooperation ("Joint Declaration"). By this, the parties announced a structured regulatory cooperation on financial services, with the aim of establishing a durable and stable relationship between autonomous jurisdictions, and declared their shared commitment to preserve financial stability, market integrity and the protection of investors and consumers. They intend to agree on a Memorandum of Understanding ("MoU") by March 2021 establishing the framework for this cooperation. The MoU shall also provide for arrangements on how to deal with equivalence determinations.
What about Equivalence?
No Equivalence Plus or Mutual Alignment – In the Agreement the parties have not provided for a general equivalence regime ("Equivalence Plus" or "Mutual-Alignment"), which was discussed in the course of the negotiations. Under such regime, market access could have been provided for a broad range of financial services on the basis of a mutual recognition of their respective regulatory standards.
Existing Equivalence Rules – Current EU and UK law provides for third-country recognitions regimes, allowing market access in specific areas of financial services based on unilateral equivalence decisions. E.g., EU law provides for approximately 58 of such equivalence decisions in the fields of securities and markets, while it does not provide for equivalence in the areas of deposit taking, lending, payment services, mortgage lending and insurance mediation and distribution. The existing regimes follow different rules and differ significantly, only sometimes setting aside authorisation requirements. Equivalence decisions are taken (and revoked) unilaterally, based UK or EU interest respectively.
EU Determinations – Until today, European Authorities have only taken equivalence decisions allowing UK central counterparties (CCPs) market access in the EU. The EU seeks further clarifications on how the UK will diverge from EU frameworks, how it will use its supervisory discretion regarding EU firms and how the UK's temporary regimes will affect EU firms, before further equivalence determinations can be taken.
Joint Declaration and MoU – The Agreement does not include any elements pertaining to equivalence frameworks for financial services. However, in the Joint Declaration the EU and the UK have declared that their arrangements under the upcoming structured regulatory cooperation on financial services will allow for transparency and appropriate dialogue in the process of adoption, suspension and withdrawal of equivalence decisions. Part of the MoU expected by March 2021 will be a discussion on how to move forward on both sides with equivalence determinations, without prejudice to the unilateral and autonomous decision-making process of each side.
Impact on business
Immediate impact – Access of service providers to the EU and UK financial services market is no longer possible under EU passporting rights. Compliance with the local legal obligations on market access, including authorisation requirements and supervision, is needed to continue business. These obligations do not apply if and as far as the EU and UK authorities make equivalence determinations for the specific sector of operation. Currently only UK CCPs may access the EU market based on equivalence.
Equivalence – As far as equivalence determinations are taken, businesses need to be aware that they can be revoked unilaterally if the EU or the UK changes its regulations. Both the UK and the EU have reserved their right to autonomous decisions in the area in the Joint Declaration. When an equivalence determination is revoked, businesses need to comply with the general regulations again. However, it may be hoped that the upcoming MoU will be setting some clear and transparent rules on when and how equivalence decisions may be revoked, thereby giving businesses sufficient safety and reliability to react and adapt their operations in time.