Betrayal of financial services shows UK government failure in Brexit talks

The British government has abandoned a big part of the economy.

European heads of state and government attend a European Union summit in Brussels on Friday. Picture: AFP

For a measure of the British government’s shrunken Brexit ambitions, look at what’s happening in financial services.

Britain is about to go “no deal” on one of its most cherished industries. No matter whether the government strikes a thin Brexit trade agreement, which is now the best that can be hoped for, or fails to secure anything, as looks more likely than ever, the die is cast for the City. There is nothing in the negotiations for a sector that accounts for 6.8 per cent of GDP, employs a million people across Britain (two-thirds outside London) and pays £75bn ($136bn) a year in taxes.

Brussels has walked over us and, frankly, the government no longer cares. What matters is fishing, accounting for 0.1 per cent of GDP and employing 24,000 people, and state aid, to deliver a semblance of sovereignty. The remaining goals serve the narrow politics of levelling up and taking back control, even if as many jobs are lost in finance as are saved in coastal communities. Perhaps enough for the Brexit purists but no one could call it a victory.

Brussels made it clear in July, shortly after the option to extend the transition period into 2021 expired, that British investment banking would not be declared “equivalent” from next year.

To continue trading in the EU, Britain needs an “equivalence” ruling to replace the “passporting” regime enjoyed by member states. Financial regulations are aligned now, which is why Sajid Javid, in his last weeks as chancellor, said in February: “As we leave the EU with the same rules, achieving equivalence on day one should not be complicated.”

It should not have been, but it has proved too much for this government. Brussels played hardball, using a technical review as cover to remove investment banking from the equivalence regime. Andrew Bailey, the Bank of England governor, clocked the trick for what it was. As he told MPs last month: “It is interesting — I use my words carefully here — that the largest amount of value is in article 47 (investment banking) equivalence.”

A few days later, the EU declared clearing houses equivalent for 18 months from January but only because rewriting £43 trillion ($78.4 trillion) of derivatives contracts posed a threat to financial stability. Eighteen months were granted to give “EU market participants time to reduce their exposures to UK (clearing houses) and give EU (clearing houses) time to build up their capability”, the financial services chief Valdis Dombrovskis said. Like the equivalence ruling, it was a land grab, plain and simple.

As Boris Johnson told Britain to prepare for “no deal” on Friday, the outcome for financial services is a reminder of how far the government’s ambitions have fallen.  In February, a briefing paper showed Britain hoped to secure “permanent equivalence” for London’s financial services industry that would last for “decades to come”. The goal was embedded in the political declaration that Theresa May signed in 2018 and which Mr Johnson tore up this year.

Even then, however, Mr Javid believed a financial services deal could be a template for broader “regulatory co-operation arrangements” in other services industries. Mark Carney, then Bank of England governor, was similarly campaigning for outcomes-based “super-equivalence” that would set a new standard for multilateral collaboration.

The EU would concede because losing direct access to London’s deep capital markets would cost too much to bear, they claimed.

Now we’re being told that no deal, or what the Prime Minister calls an Australia-type deal, would be a “good outcome”, even if it means a desperate scramble to prepare British ports and borders.

Yet only last December, on the campaign trail, he said he could “absolutely guarantee that we will get a deal” — not just any deal but the “great deal” he drove through parliament. None of their words are worth a counterfeit fiver.

Brexit talks aren’t over yet and if there is one cast-iron rule of EU negotiations it is that things only move at the very last minute. But whatever happens in December, there will be no deal in financial services.

That issue is concluded and should be seen as a stain on the government’s record. Senior industry figures describe how Britain drifted into a hard Brexit for banks as officials quietly gave up.

At least the banks are ready. They have set up subsidiaries in Dublin, Paris and Frankfurt to continue serving EU clients and more staff will move as more business shifts to the Continent. Will Wright, founder of New Financial, a think tank, says “Brexit will rewind the clock about 20 years” — not devastating for the City but enough to diminish it. According to the consultants Oliver Wyman, half of British financial services relates to domestic clients and a quarter to the EU.

Some, but not all, of the EU business will migrate. The big unknown is how much of the remaining overseas trade uses London simply as an EU gateway.

Technically, Britain could choose equivalence — just as we could choose to cave on fisheries and state aid — but it is not worth it. There, too, the parallel between financial services and the broader Brexit deal is striking. When the best alternative is poor, the trade-off changes. Without super-equivalence, Britain has to be a passive rule-taker to access EU markets. In return we would recover £10bn of Britain’s £300bn financial services revenues.

Against that, the attractions of no deal multiply. We would no longer need to apply rules that add unnecessary costs for smaller banks, complicate monetary policy and weaken the resilience of big lenders, as the EU leverage ratio does. “The precise, textual version of equivalence is not great for competitiveness or financial stability,” Alex Brazier, an executive director at the Bank, told MPs last month. Yet it’s a trade-off we were told would not need to be made.

The economic cost of Brexit is not what matters any longer; the electorate was clear on that. Besides, it won’t be the first time that politics has proved expensive.

The Land Compensation Act 1962 was far more ruinous by turning us into a nation of debt-hungry property speculators but, unlike Brexit, the counterfactual was never calculated. It is by the promises it has made that this government of Brexiteers should be measured.

To judge from financial services, it will fall a long way short.

Philip Aldrick is economics editor for The Times.

The Times