Since Brexit, successive UK governments have looked to financial services to revive growth and competitiveness. But the ambitions for a post-Brexit ‘Big Bang 2.0’ package of financial regulatory reforms have been significantly scaled back. Scott James and Lucia Quaglia write that expectations for a thorough de-Europeanisation have been raised far beyond the capacity of the British state to deliver.
The United Kingdom’s withdrawal from the European Union in January 2020 has had profound implications for financial services and for British policymaking in finance. The institutional framework for financial regulation in the UK has been substantially reformed since Brexit, giving regulatory agencies significant new rulemaking powers while strengthening their accountability to elected officials in government and Parliament. By contrast, there has been very limited change to date with respect to policy – the ambitions for a ‘Big Bang 2.0’ package of regulatory reforms advocated by the government and parts of the financial industry have been significantly scaled back.
The financial services sector is a critical part of the UK economy. Its growth has been supported by the process of EU financial integration since the 1980s and the City of London’s ability to exploit the UK’s access to the lucrative EU single market. Prior to Brexit, financial regulation was extensively ‘Europeanised’, a trend accelerated by the 2008 global financial crisis, as competence for regulating finance was increasingly shifted to Brussels. Over time, the EU has developed an extensive body of legislation covering a vast array of financial services (banks, securities, insurance, investment funds, derivatives, payments), which has subsequently been incorporated into the domestic legal framework of member states, including the UK.
Three intertwined challenges
Following Brexit, the UK faced three intertwined challenges: 1) to reform the domestic institutional framework of policymaking in finance, following the repatriation of these competencies to the national level; 2) to determine the status of existing EU regulation already incorporated into national regulation, deciding which parts to keep and which ones to reform; and 3) to set out a future course for UK financial policy, necessitating greater clarity over the extent to which this would entail convergence or divergence from future EU rules. Below we assess each in turn:
1. Domestic institutional framework
The domestic institutional framework for financial services regulation has been significantly reformed since Brexit. While government and Parliament would henceforth set the broad policy framework for financial regulation, the main UK financial regulators – the Prudential Regulatory Authority (part of the Bank of England) and the Financial Conduct Authority – are now responsible for issuing regulation using existing rule-making powers and newly delegated powers. This constitutes a significant extension of regulators’ rule-making powers, justified on the grounds that this is necessary to enable regulators to make rules covering all areas of financial services included in retained EU law. More controversially, UK regulators have now been given a new secondary objective for promoting growth and competitiveness, alongside the existing primary objective of maintaining financial stability. By contrast, proposals to make regulators accountable through the introduction of a new ‘call-in’ power, permitting the government to block or change decisions by regulators in exceptional circumstances, was eventually dropped in late 2022.
2. Existing financial regulation
As for existing financial regulation, the 2018 European Union Withdrawal Act incorporated all EU-derived domestic legislation (for example, legislation implementing EU directives) and directly applicable EU law (for example, regulations) into the UK statute book, including for financial services. However, determining a future post-Brexit strategy for UK financial regulation has proved far more difficult. The government launched a major review of financial regulation in June 2019 with the ambition of enabling the City to exploit new post-Brexit opportunities. This fuelled calls within government and sections of the financial industry that it should support UK growth and competitiveness through a substantive and immediate break with existing EU rules – widely heralded by ministers as a ‘Big Bang 2.0’ for the City of London.
3. Setting out a future course
In December 2022, Chancellor Jeremy Hunt published a long-awaited package of regulatory reforms, dubbed the ‘Edinburgh Reforms’, consisting of 31 regulatory proposals designed to take advantage of the UK’s post-Brexit ‘freedoms’. On the one hand, the proposed changes are modest in scope, highly technical, and lack prioritisation. According to the think tank New Financial, roughly half of the measures – including plans to relax the Senior Manager’s Regime and UK bank ringfencing rules – have little or nothing to do with Brexit. On the other hand, we argue that the Edinburgh Reforms point to an emerging pattern of ‘differentiated de-Europeanisation’ – that is, a variegated pattern of policy change ranging from intentional regulatory divergence to continued active alignment with EU rules.
Building on wider de-Europeanisation scholarship, we suggest that the outcome of this process can be intentional, passive, failed, or no de-Europeanisation. Intentional de-Europeanisation refers to the deliberate dismantling of pre-existing EU rules with the intention of generating divergence. By contrast, passive de-Europeanisation takes place when existing rules are not actively dismantled, nor updated or adapted to keep pace with changes at the EU level – the result of which will be divergence over time. Failed de-Europeanisation refers to cases of intentional or passive de-Europeanisation that produce limited or no divergence: for instance, a situation in which the UK and EU independently adjusted their rules in an identical or similar way such that they remain (unintentionally) broadly aligned. Finally, the absence of de-Europeanisation indicates continued close alignment of UK and EU rules. We cite examples of proposed financial regulatory reforms for each, albeit with the important caveat that these are potential outcomes and thus subject to change (see Figure 1).
Figure 1. Potential outcomes of differentiated de-Europeanisation in financial services
Intentional de-Europeanisation. The clearest evidence of the UK’s intention to diverge from existing EU rules through less stringent regulation comes from capital markets and non-banking financial institutions, such as investment funds. Hence, the government has proposed to support wholesale capital markets by relaxing regulatory requirements as currently stipulated in the EU’s Markets in Financial Instruments Directive II, and to consult on tailoring rules covering short selling, payment accounts, investment research, and tax treatment of fund management. Conversely, the UK may also intentionally diverge from EU practice by imposing tougher bank capital and liquidity requirements on its own banks, as it has done since 2010.
Passive de-Europeanisation may arise where the development of new EU rules generates divergence from the UK – for example, in the area of digital finance. In recent years, the EU has issued stringent new rules for crypto finance – the 2022 Markets in Crypto Assets Regulation. By contrast, UK regulators have been slow to develop new rules in this area and the government has repeatedly spoken positively about the benefits of promoting London as a ‘fintech hub’.
Failed de-Europeanisation refers to the UK’s attempt to gain a competitive advantage through divergence being stymied or limited by parallel developments at the EU level. Successive UK governments have consistently championed two reforms as yielding a post-Brexit ‘dividend’ for the City: creating new opportunities for infrastructure investment by replacing the EU’s controversial Solvency II Directive for insurance firms; and efforts to encourage overseas firms to raise capital in London by simplifying the UK Listings Regime (based on the EU Prospectus Directive). Yet, in both cases, the EU has subsequently proposed similar reforms, thus narrowing any potential divergence.
No de-Europeanisation. This is most likely in areas characterised by high levels of cross-border interdependency – such as the clearing of euro-denominated derivatives by London-based central counterparties. Here there is significant pressure for active regulatory alignment to underpin the continuation of the current temporary regulatory ‘equivalence’ arrangements between the EU and UK which facilitates access to London-based clearing houses by EU-based financial institutions.
In conclusion, Brexit has introduced significant barriers to cross-border trade in financial services, contributing to a steady loss of financial business, activity and jobs out of London. Successive UK governments since 2016 have looked to financial services to revive UK growth and competitiveness in response to the political imperative of addressing the UK’s poor post-Brexit economic performance. Yet this has raised expectations far beyond the capacity of the British state to deliver. That rhetorical ambitions for Big Bang 2.0 have repeatedly been thwarted is a recognition that meaningful de-Europeanisation requires far more than an act of political willpower.
- This blog post is based on Differentiated de-Europeanisation: UK policy-making in finance after Brexit, Journal of European Public Policy.
- The post represents the views of its author(s), not the position of LSE Business Review or the London School of Economics.
- Featured image by Dixit Dhinakaran on Unsplash
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Non- Divergence or ‘Non De-Europeanisation’, is an interesting area because there may be good reasons for failing to take every opportunity all at once. Also international interdependence in the Global Economy is a reality. There is an international economy infrastructure to which nations must belong and so to some extent you will see some similarities which are necessary to function.