So good day, I am Ignazio Angeloni, I am Fellow of the Harvard Kennedy School and of the SAFE Centre, research centre, in Frankfurt.
And today, we are going to talk about supervisory equivalence and why supervisory equivalence is important particularly now after Brexit.
We need to step back for a moment and go back to twenty years ago.
Some twenty years ago, the European Union decided in order to strengthen its economy and the growth potential of its economy,
it needed to create a Single Market among its member countries.
The project was launched in 1993 and included not only goods, but also services, and in particular financial services.
One key part of the Single Market legislation is that in order to conduct business anywhere in the Union,
a financial institution needs to be authorised by one member country alone.
This provision is called passporting, because de facto, when a financial institution is authorised by a member state, that came to
a passport, that allows an institution to operate anywhere in the Union.
Now, the geographical span of the Single Market is actually broader than the European Union, because it covers the so-called European Economic Area,
which includes three additional countries, Liechtenstein, Iceland and Norway, which are not part of the European Union,
but have accepted the rules of the Single Market and apply the rules of the Single Market in those countries.
So, financial institution of countries that do not belong to the European Economic Area, are called third countries.
Third countries can cooperate freely within the Union, provided the regulatory supervisory system is considered equivalent to that of the European Union.
Equivalent jurisdictions enjoy not only these facilities, but they also enjoy certain favorable treatment from a prudential point of view.
Still provided the jurisdictions are considered equivalent from a regulatory supervisory point of view.
In order to establish equivalence, the European Union conducts review of the regulatory system of those countries
in order to see if the rules applied in those countries are in fact equivalent,
not necessarily identical in all details, but in substance equivalent to those of the EU.
In addition, to verify that supervisors in those countries actually enforce those rules effectively.
After the assessment, the initial assessment, they also conduct, periodic review to verify that the conditions have not changed.
And, if the conditions have changed, they can withdraw the decision of equivalence.
So, this is a little bit of dynamic process.
As of today, the EU has granted equivalence with regard to banks, prudential provisions of banks, they have granted equivalence to many countries,
including in particular the United States, Japan, Canada, and also a number of emerging market countries, such as for example Mexico and Brazil.
Now, as of last year, January 2020, the United Kingdom, the UK, ceased to be a member of the Union, and has become a third country effectively.
This is a unique case.
The UK is the first instance of a country, that leaves the European Union, and the agreements that have been reached, the Brexit agreement, between the UK and the European Union, do not cover financial services, only goods.
So, that's the reason why Brexit raises a number of unprecedented issues in the relationship between the two jurisdictions.
London, as everybody knows, is a dominant player in euro-denominated markets
and in particular foreign exchange, derivatives trading and derivatives clearing.
In addition, the London-based banks provide support to euro-area firms in a number of ways
In particular, debt and equity insurance, mergers and acquisitions, syndicated loans etc. etc.
So, before Brexit, obviously the UK was part of the European Union, so the regulatory system of the UK was actually fully aligned, not only equivalent,
but fully aligned to that of the EU.
And the transition to a third country status obviously changes this in a very radical way,
and may have adverse effect on the functionality of banking and financial markets,
and also have an impact on the two economies, both the economy of the UK and the economy of the Union,
and possibly on financial stability as well.
So, one effect has already materialised at the beginning of this year, 2021.
Amsterdam, the stock market of Amsterdam, has overtaken London as a hub for trading of European shares and derivatives.
This is a major change that has already changed and more changes are expected, with repercussions that are very difficult to predict,
but maybe adverse and also long-lasting.
Sofar, the European Union has granted equivalence to the UK in some areas,
but not in the crucial one of banking regulation and supervision.
Conversely, the UK has announced a temporary passporting regime of three years, and equivalence, thereafter, in certain areas relating to banks.
The EU's hesitation arises from the concern that the UK's banking regulation may start diverging in a substantial way.
In fact, Brexit was motivated precisely by the desire of the UK of no longer being subject to the EU legal framework.
Now, one needs to keep in mind that equivalent provisions are structural in nature,
in the sense that they influence business strategies of financial institution in a relatively long-term manner.
For example, they affect location of establishment and related investments, that financial institutions may.
As such, frequent change of equivalence should preferably be avoided.
Hence, the desire of the EU authorities to better understand the developments in the UK before making a decision.
Now, negotiations are ongoing, the issue is not settled, and the outcome is not easy to predict at this stage.
Two ways out can be envisaged:
The EU could, for example, grant a temporary equivalence to the UK, at least in certain areas.
Perhaps, reciprocating the decision that the UK has already made.
And also could put in place, as already mentioned, a framework of periodic reviews to detect whether significant divergence occur overtime.
Thereby, possibly, triggering the withdrawal of the equivalence.
Or, the UK may decide to make further concessions in the form of commitments to facilitate a solution of the dispute.
Now, neither of these two outcomes, for the moment, seem very easy on political guaranty.
What is certain is that Brexit will affect the landscape of financial services provision across the channel for a long time to come.