Recent moves by the European Commission, including the repeal of some existing equivalency decisions and a communication stating the re-evaluation of its approach to markets outside the European Union, have some concerned about the future of U.K. access as the chance of a "no deal" Brexit on Oct. 31 seems increasingly likely.
On July 29, reports emerged that the EC would repeal existing equivalence decisions regarding credit rating agencies for Argentina, Australia, Brazil, Canada and Singapore. The repeals came at the same time the EC published a communication in which it says it is reviewing its overall approach to non-EU countries and related equivalence policy.
"It should be noted that equivalence empowerments do not confer a right on third countries for their framework to be assessed or to receive an equivalence determination, even if those third countries are able to demonstrate that their framework fulfils the relevant criteria," the document reads.
The communication also reiterates that an equivalence decision is a unilateral and discretionary act conducted and concluded by the EC in accordance with EU priorities and the interests of EU financial markets, and that as part of its discretion the EC may adopt, suspend or withdraw any equivalence decision as necessary. The EC may also grant a time-limited equivalence or set conditions or limitations to equivalence decisions.
The recent repeal of credit rating equivalence in the five countries marks the first time that the EC has withdrawn equivalence-based access to the single market, although in June it allowed some temporary permissions for Switzerland and its stock exchange to expire amid failed negotiations over a partnership treaty. This action resulted in EU and Switzerland investors losing direct access to each other's stock exchanges, although they are still able to trade Swiss shares through a broker that is a member of the Swiss exchange.
The recent credit rating repeals do not affect the derivatives markets directly, but they do carry symbolic weight for the UK's financial sector which loses the right to seamlessly offer services across the bloc after the scheduled Brexit date.
While there is no explicit mention of Brexit in these EC actions, they indicate how recent EU legislative changes – for instance amended ESAs regulations – have strengthened the roles of European supervisory authorities, both in terms of initial assessments as well as ongoing monitoring of equivalent third countries.
"The revocation of the equivalence decisions for credit rating agencies in the five jurisdictions is clearly a warning shot that the Commission is now taking the monitoring of continued equivalence more seriously and that countries that do not continue to keep their laws in line with the EU risk losing equivalence," says Chris Bates, partner and head of the financial regulation practice at Clifford Chance in London.
The U.K. and the EU have agreed in principle that equivalence should form the basis of market access after Brexit. This is stated in the Political Declaration attached to the Withdrawal Agreement published in November 2018 that sets out the framework for the future relationship between the two parties. In the event of a no-deal Brexit, and if there is no transition agreement, the EU and the UK will be dependent on each other's assessment of equivalence, lawyers say.
"In the absence of a transitional deal this [the repeals] brings home the point that EU and UK firms will be entirely dependent on the assessment of the respective regimes by the Commission and HM Treasury. This is a process which may in practice be bound up with politics, be slow and any assessment may, of course, change," says Jonathan Herbst, partner and global head of financial services at law firm Norton Rose Fulbright.
To this last point, Bates says: "The Commission statement asserts an unfettered right to decide whether or not to consider countries for equivalence determination or to impose time limitations or other conditions. The Commission has taken the view that it can weaponise the EU's equivalence regimes for unrelated political purposes – as in the case of the time limitations on the recognition of Swiss trading venues that unsuccessfully aimed to force the Swiss government's hand in the negotiation of the proposed Swiss-EU framework agreement."
He adds, "These issues will become particularly acute in the 'Brexit cold war' that is likely to follow a no-deal exit from the EU. The Commission is likely to use financial services regulation as part of the EU's negotiating leverage to gain its objectives on the financial settlement and the Irish backstop."
The EC says any assessment will be based on the principles of proportionality and will be risk-sensitive, meaning that the EC expects stronger safeguards against risks when a third country's impact on the EU markets is high.
The EC has, to date, taken over 280 equivalence decisions for more than 30 countries. On 29 July, it adopted equivalence decisions for certain interest rates and foreign exchange benchmarks administered in Australia and Singapore and extended existing equivalence decisions in the field of credit rating agencies for Hong Kong, Japan, Mexico and the U.S.