Navigating UK Financial Services Equivalence and FTA Decisions: Options and Implications

The decision by the EU to grant or not grant equivalence for UK financial services is a critical juncture that could have significant implications for the UK's financial sector, its trade deals, and its relationship with the EU. This article explores the options available to the UK and the potential outcomes of these decisions.

Equivalence and the Threat of Withdrawal

The absence of financial equivalence from the EU could be met with a range of responses from the UK. One option, as suggested, is for the UK to give notice that it will withdraw from the Free Trade Agreement (FTA). This approach, however, is not without its downsides. A threat of withdrawal might be seen as hyperbolic and detrimental to bilateral relations. In fact, a more pragmatic approach could see the UK demanding that EU banks operating in the UK undergo a comprehensive UK stress test, which would be significantly more rigorous than current EU tests. Banks that fail these tests would either have to rectify the issues or face closure.

The Financial Stability Concerns

It's worth noting that the Bank of England (BoE) and its governor, Andrew Bailey, have proposed rules that do not allow software expenditures to count towards recapitalization. This move is seen as critical for stress test purposes. If the UK executes this policy, it could potentially be a harbinger of stricter financial regulations to come, further raising the stakes in the equivalence debate.

The Role of the Trade Cooperation Agreement (TCA)

Should the EU refuse to grant financial equivalence, the UK could still operate under the terms of the Trade Cooperation Agreement (TCA). This agreement provides a framework for continued trade and cooperation, albeit with potential financial costs. The termination of the TCA would require twelve months’ notice and would mean the imposition of standard tariffs and quotas on all EU imports into the UK and UK imports into the EU. This option should be considered only if the financial costs and market disruptions can be mitigated.

The EU's Stance on Equivalence

The EU has historically been cautious about granting equivalence to countries, particularly financial competitors. Considering the UK as a geographically proximate financial rival, the EU may be wary of granting financial equivalence to avoid regulation and oversight gaps. A similar experience exists in the Swiss financial equivalence arrangement, where the Swiss federal government faced challenges with the EU Commission's regulatory alignment.

The Northern Ireland Protocol and Brexit Withdrawal Agreement

Regardless of the outcome of the equivalence debate, the Northern Ireland protocol will continue to operate until 2026, or until the Northern Assembly votes on it in 2024. This protocol is covered in a separate Brexit withdrawal agreement, ensuring that the status of Northern Ireland remains a focused but distinct issue from the broader UK-EU relationship.

In conclusion, the future of UK financial services equivalence and FTA decisions is crucial. While the UK has the option to threaten withdrawal or demand stricter stress tests, the most pragmatic and sensible strategy may lie in operating under the TCA until a definitive decision is made. Navigating this complex landscape requires a careful balance of financial stability, regulatory requirements, and pragmatic diplomacy.