The results are in for the referendum on the United Kingdom’s membership of the European Union (EU), held on Thursday June 23, 2016. The UK voted by a narrow 52%/48% majority to leave the EU - “Brexit.”
Britain’s vote on the referendum to leave the EU is not legally binding and does not represent a formal notification to withdraw from the EU. The referendum is advisory rather than mandatory and in theory Parliament could ignore the will of the people by deciding to stay in the EU.1
Next steps related to Brexit are complex and dynamic, both politically and legally. In order to begin the process of exiting the EU, Article 50, as set out in the Lisbon Treaty, will need to be invoked. In addition the British Parliament will need to pass the laws that will let Britain exit out of the EU.2
What are the implications of Brexit on Financial institutions?
Financial institutions have been able to historically provide services to clients and engage in investment activities throughout Europe based on passporting which allow UK-based firms to operate on a cross-border basis within the EU.3 With the Brexit vote, it is likely that passporting will no longer be available, potentially forcing firms that wish to access EU markets to move their operations within those markets. This may result in financial institutions making changes to their European legal entity structure and the location of some roles.
UK-based financial institutions may find themselves struggling to serve European clients as they are at risk of losing passporting rights. Passporting rights allow British-based institutions to sell into the rest of the EU without having a branch there, under the EU’s UCITS (Undertakings for the Collective Investment of Transferable Securities) and AIFMD (Alternative Investment Fund Manager Directive) directives.4 This is how the British subsidiaries of non-EU banks are able to do business throughout Europe from London.
Depending on the outcome of the exit negotiations, investment managers may find themselves having to move to a European Economic Area (EEA) fund hub, such as Luxembourg or Dublin, to maintain their unconstrained access. This would be both time consuming and costly.
Implications for cross-border activity
Many foreign institutions have a presence in the UK to service the UK financial market, a large number of non-EU financial institutions also use their UK presence as a hub to access clients and markets across the EU.
The extent of the impact of Brexit will depend on the arrangements negotiated and put in place during the transitional period but there are cross-border activities that should be considered:
- Continued access to European markets – EEA firms which currently conduct business in the UK may not have access to the European markets. The loss of the passport system for UK financial institutions would likely trigger some migration of global firms’ EU headquarters away from the UK.
- Market infrastructure – The benefits of MiFID (Markets in Financial Instruments Directive) and EMIR (European Market Infrastructure Regulation) may no longer be available to UK-based institutions. Firms operating UK-based trading venues or clearing or settlement systems should consider how they can continue to service EU-based firms or link up with an EU-based market infrastructure.
The UK financial-services firms would find themselves having to follow EU law such as the AIFMD and MiFID II. The UK firms may still be able to access EU markets, but with no representation at EU level, UK regulators would have no say over the design of rules that UK firms would be required to adhere to.5
Take-aways for clients
For now, nothing is expected to change. The UK will likely stay in the EU for two years or more while they negotiate the terms of the exit.
Financial institutions are encouraged to develop their contingency plans and identify the impacts of Brexit to their business:
- Strategy – growth and relative attractiveness of UK / EU markets
- Financial Markets – volatility and disruption, including currency fluctuations, interest rates, equity and bond markets
- Customers and Clients – communications, reassurance, managing impacts of legal entity moves
- Corporate Structure – legal entity, branch, subsidiary changes required to retain UK and EU market access
- Regulation and Regulators – changes in regulatory oversight / changes in regulatory regimes
- Market Infrastructure – retaining access to funding and crisis facilities as well as exchanges, clearing houses, payments systems
- People – communications, reassurance, managing impacts of legal entity moves. Changes to talent pool locations, costs, level of flexibility and employment law
- Third Parties – effects of trade agreements on costs / contracting entities and locations
- Data and Technology – changes in data protection regulation impact (e.g. General Data Protection Regulation), constraints on data location and sharing
- Real Estate – head office or other location changes
- Migration – depending on the above, timing and mechanisms for making changes to legal entities, capital, assets, people, technology, data, customers
For the world’s big banks, still trying to rebuild eight years after the financial crisis, Brexit should inevitably bring additional regulatory and compliance requirements and possible changes to existing requirements which may lead to additional expense and disruption.
For more on Brexit, see a blog post covering the short term implications of Brexit on the conduct and culture agenda.
- “Brexit: what happens when Britain leaves the EU,”Vox World, June 25, 2016. Access at: http://www.vox.com/2016/6/23/12021222/brexit-what-happens-next. “Brexit: What happens now?” BBC News, June 29, 2016. Access at: http://www.bbc.com/news/uk-politics-eu-referendum-36420148.
- “International banking in a London outside the European Union,” The Economist, June 24, 2016. Access at: http://www.economist.com/news/business-and-finance/21701334-after-post-vote-turmoil-international-banks-will-have-think-about-their. “The economic impact of ‘Brexit’,” Capital Economics report for Woodford Investment Management, February 2016. Access at: https://woodfordfunds.com/economic-impact-brexit-report/#financial-services-and-the-city. “Brexit: Impact on financial regulation,” Bloomberg Intelligence, June 15, 2016. Access at: http://www.bloomberg.com/professional/blog/brexit-impact-financial-regulation/.
- “Brexit: Impact on financial regulation,” Bloomberg Intelligence, June 15, 2016. Access at: http://www.bloomberg.com/professional/blog/brexit-impact-financial-regulation/.
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