Given the importance of the financial services industry to the UK, why has it not been more successful in shaping the Brexit negotiations? This weakness is rooted in the contingency of the City of London’s position within the British state, and the system of pluralist representation upon which it rests, write Thomas Warren (University of East Anglia), Scott James (King’s College London) and Hussein Kassim (University of East Anglia). In short, this has left the City ill-equipped to respond to the core redistributive concerns that now dominate the post-Brexit political debate.
The UK’s financial sector, based predominantly in the City of London, is a major contributor to the UK economy, generating 7.2% of economic output, employing 3.5% of the UK workforce, and producing 11% of total government tax revenue. Yet, at every stage of the Brexit debate, the preferences of the UK’s financial sector have been downplayed. The City overwhelmingly backed the UK’s continued membership of the EU only to suffer a historic defeat in the referendum. Its fortunes have fared little better since then. Despite the City’s largest firms voicing strong support for continued single market membership, this option was unequivocally ruled out by Prime Minister May in January 2017. Hopes were raised when the UK government finally threw its weight behind the City’s push for a ‘bespoke’ deal on financial services with the EU based on mutual access and mutual recognition. But the July 2018 Chequers deal backtracked on this, excluding services from the UK’s commitment to abide by the EU’s common rulebook. The future relationship sketched out in the UK-EU Political Declaration, therefore, threatens to leave the City of London reliant on the EU’s existing and largely piecemeal third country equivalence regime, permitting more limited market access on a highly discretionary basis.
How can we explain the City of London’s apparent ineffectiveness at shaping the Brexit negotiations? From a historical perspective, we argue that this apparent weakness is not so surprising. It is the outcome of longer-term political-institutional developments that have reconfigured the relationship between the City of London and the British state, generating deep-rooted fault lines which Brexit has graphically exposed.
The City’s influence traditionally rested on a system of ‘club governance’: informal and closed institutional networks that existed between the City of London, the Treasury and the Bank of England which ensured that the financial industry’s interests were directly represented within government. The system was challenged by the ‘Big Bang’ deregulation of 1986 which led to the transformation of the financial sector from one driven by institutions (represented by the older, institutional trade associations, like the British Bankers’ Association and the Association of British Insurers) to one driven by products and markets (leading to a proliferation of new, specialist groups, like the International Swaps and Derivatives Association). These changes produced a highly fragmented pattern of business organisation, with the financial sector represented by over fifty separate trade associations. State-finance interaction, therefore, became increasingly defined by a highly pluralist mode of interest intermediation, characterised by low levels of collective action and relatively weak trade associations, in which lobbying power resided predominantly within individual firms. These quiet politics of influence served the City very well for many decades. It rarely had to engage in Wall Street-style lobbying around core regulatory issues (such as defending the UK’s ‘light touch’ regulatory regime) or redistributive issues (for example, the size and role of financial services in the UK economy), so long as these issues were largely settled in the UK political arena. The internalisation of pro-finance narratives by successive UK governments from Thatcher to Blair tended to limit financial lobbying to more technical distributive questions (impacting on individual firms or sectors), which did not require strong, centralised industry associations. To the extent that these existed, they focused principally on promoting UK financial services overseas.
The global financial crisis shattered the foundations upon which this pluralist system rested. To address mounting public anger and hostility towards the financial sector in the wake of the bank bail-outs, UK ministers and regulators introduced one of the toughest regulatory regimes in the world for banking. In this febrile context, the political debate shifted from technical issues of distribution to more fundamental questions related to regulation (for example, banking reform) and redistribution (e.g. reopening debates around the role of manufacturing, industrial policy, and the so-called ‘finance curse’). This gave the financial sector a greater incentive to organise collectively: leading to the creation of a new promotional body, The CityUK, to defend the interests of financial services and restore its public reputation; and the International Regulatory Strategy Group, to provide a more hard-edged role in coordinating lobbying around new regulatory developments. But the effectiveness of these new bodies has continued to be constrained by the wider pluralist mode of interest intermediation within which they are embedded. In particular, competition between internationally-active members, commercial sensitivity regarding business plans, and legal restrictions on how firms interact, tended to limit meaningful coordination to less contentious regulatory issues, such as domestic taxation or trade liberalisation.
Brexit has compounded this longer-term trend, placing core redistributive concerns – related to the impact of free movement on jobs and wages, the balance between manufacturing and services in the UK economy, and the economic divide between London and the rest of the UK – at the heart of the political debate. Following the EU referendum, the City once again sought to strengthen its collective capacity to ensure that its voice would be heard during the Brexit negotiations. For example, the sector’s main associations and financial firms established a new Task Force (the European Financial Services Chairman’s Advisory Committee), headed by twelve senior financial executives, to provide high-level coordination of the sector’s lobbying activities. But these efforts were again hampered by collective action problems, rooted in the historic weakness of the City’s organisational capacity, and the variegated impact of Brexit on different parts of the financial sector. For example, the creation of the EFSCAC Task Force led to heightened confusion over the assignment of roles between the main lobby groups, as each jostled for position. In addition, the redistributive implications of different post-Brexit arrangements exacerbated divisions within the financial sector. On the one hand, large global investment banks, which rely heavily on the ability to passport into the EU single market, and which tend to exert significant influence within the main trade associations, were highly vocal in pushing for an EEA-style solution. On the other hand, UK-focused retail banks were more concerned to avoid the UK becoming a ‘rule taker’ from Brussels in the future, while other parts of the financial sector (notably insurance and hedge funds) viewed Brexit as an opportunity to roll back burdensome regulations.
In short, we argue that the UK’s distinctive pluralist mode of interest intermediation left the City ill-equipped to respond to the challenge posed by Brexit, and the fundamental questions of political economy that it poses. The financial crisis and the UK’s impending withdrawal from the EU have exposed the contingency of the City of London’s position within the British state, and the extent to which the UK government is capable of wielding considerable political and policy autonomy from the financial industry. Adapting to the UK’s post-Brexit context is likely to put further strain on this increasingly fragile relationship.
This post represents the views of the author and not the Brexit blog, nor the LSE. A longer version of this blog is available as a working paper through the Horizon 2020 ‘EMU Choices’ programme (emuchoices.eu) or from the authors. © Copyright Stephen McKay and licensed for reuse under this Creative Commons Licence.
Thomas Warren (@DrTomWarren) is a researcher in European political economy at UEA. Scott James (@DrScottJames) is a Senior Lecturer in Political Economy at King’s College London. Hussein Kassim (@HusseinHKassim) is Professor of Politics at UEA.