Understanding the Impact of Post-Brexit Passporting Rights on Financial Services
The phrase 'after Brexit, banks will lose all passporting rights' refers to a significant change in the regulatory landscape for financial services within the European Union (EU). Currently, banks that are authorized in one EU country can operate and offer services in other countries from either their home office or local branches without needing additional licenses. This flexibility is largely managed by the home country's supervisory authority, allowing local branches to function effectively in each country.
What Does Passporting Mean for Banks?
Without passporting rights, the situation will revert to pre-EU single market regulations. This means that banks would need to establish local subsidiaries that are separately capitalized and supervised, and each subsidiary will be subject to local regulatory requirements. Unlike in the past, these subsidiaries will need to have substantial resources to prove their self-sufficiency to local regulators. This model is similar to how EU banks currently operate in the United States.
Impact Beyond Banks
The loss of passporting rights extends beyond just banks and affects essential financial operations such as derivatives and foreign exchange (FX) contracts. The derivative market, with a value of 29 trillion dollars, and the daily FX market, totaling over 2 trillion dollars, rely heavily on London's financial infrastructure. Without appropriate permissions, servicing these contracts from London will become extremely challenging, potentially making them impossible.
Other areas impacted include insurance, pension payments, and investment funds. For instance, the legal recognition of UK judgments in disputes is also at risk without the appeal process to the European Court of Justice (ECJ). Similarly, insurance companies and pension funds may face limitations in servicing and paying out claims and benefits across borders.
Mitigation Strategies and Regulatory Workarounds
To mitigate these risks, many companies are setting up regulated subsidiaries in new cities such as Dublin, Paris, Frankfurt, and Amsterdam. These subsidiaries can help maintain operational continuity and compliance with local regulations. However, the process of novating contracts to these compliant entities is likely to be complex and costly.
Theresa May's Explanation and Concerns
During a significant speech on Britain's Brexit priorities, Prime Minister Theresa May highlighted the importance of passporting rules. She explained that these rules allow EU finance companies to offer services across the 28-member bloc with a local license without needing separate licenses for each country. The loss of these rights is the biggest concern for the finance industry, as companies are setting up new regulated subsidiaries in various cities to hedge against business disruptions.
She also pointed out that Brexit and the loss of passporting rights could significantly damage London's standing in the global financial industry. Currently, London generates about 22% of the UK's GDP, with a substantial portion coming from financial services, even though it only accounts for 12.5% of the UK's population.
As the UK continues to navigate the complexities of Brexit, the impact on the financial sector is likely to be substantial, affecting everything from inter-bank transactions to international financial agreements.