Finding ‘The Third Man’: Untangling the UK’s under EU financial systems equivalence frameworks post-Brexit
On 23 June 2016, the United Kingdom triggered one of the most significant political and legal events of the 21st century by voting to leave the European Union in a ‘Brexit’. Amongst the many changes set to be wrought by this unprecedented move, Brexit has thrust the question of what will happen to European financial market regulation once Britain leaves the shared market into the spotlight. Although at this stage, given the ongoing conjecture over when (and how) Brexit will occur, the position for the UK’s future trade relationship with the EU, the likelihood, shape or duration of any transitional arrangements and the impact on UK financial institutions across Europe remain wholly unclear, it appears likely that a continuation of the current ‘passporting’ arrangements is unlikely to be feasible politically. This article considers the implications of Brexit on the regulation of financial markets in the United Kingdom and the broader European Union. Specifically examining EU financial regulatory frameworks, this paper argues that the a two-way equivalence based arrangement for cross-border access to financial markets represents the most stable transitional arrangement for European finance in a post-Brexit market.
I INTRODUCTION AND CONTEXT
On 23 June 2016, the British public voted in a non-binding referendum to leave the European Union (the EU) by a margin of 52 to 48 per cent. The decision to remove Britain from the EU’s shared marketplace and political infrastructure in a ‘Brexit’ is an unprecedented – and wholly unexpected – decision, and, since then, much conjecture has been raised regarding what, exactly, this means from a socio-political, economic, and legal perspective. Helpfully, British Prime Minister Theresa May has told us that “Brexit means Brexit” – and it appears she is serious. The passing by the UK Parliament of the Withdrawal from the European Union (Article 50) Bill 2016-17 on 13 March 2017 opened the way to the formal notification by the UK of its intention to withdraw from the EU under Article 50 of the Treaty on European Union, followed quickly on 29 March 2017 by the so-called ‘Article 50 letter’ to European Council President Tusk setting out Britain’s intention to do so.
Given the unprecedented nature of a state leaving the EU bloc – which has not occurred since the inception of the European Economic Community via the Treaty of Rome in 1957 – there is no historical precedent to provide guidance as to how this should (or indeed, could) occur. Notwithstanding the convenient tautology of ‘Brexit [meaning] Brexit’ proffered by Prime Minister May, untangling how Brexit will occur – and what it will mean for existing legal and regulatory frameworks – is somewhat more complicated than accepting that Brexit will occur come what may. As noted by Ferran, there are ‘there are several different versions of Brexit’ to consider, ranging from a ‘soft Brexit’ (where the UK would cease to be a Member State of the EU but would continue to have access to the single market as a member of the European Economic Area (the EEA) or under a bespoke bilateral arrangement), through to a ‘hard Brexit’ whereby the UK would have no form of associate membership or other tailored trading relationship with the EU, and would presumably instead rely on its status as a member state of the World Trade Organisation (the WTO) as a basis for future trade agreements.
Prime Minister May’s 17 January 2017 speech on the UK’s ‘negotiating objectives’ as part of the Brexit process clarified that the UK would not seek membership of the single market or the EEA – but rather would seek the ‘greatest possible access’ to the single market through a new Free Trade Agreement which could theoretically, in certain areas including financial services and regulatory frameworks, ‘take in elements of current single market arrangements.’ Prime Minister May also contemplated the option of a ‘phased implementation period’ – with the implication that a transitional arrangement of some form is likely to be sought. Whilst helpful, these statements were light on detail, and those hoping for more clarity in the UK government’s 2 February 2017 White Paper on Brexit (which called for ‘the freest possible trade in financial services between the UK and EU Member States) were left wanting, as the White Paper disposed of discussions on financial services and regulation in four short paragraphs, all of which referenced vague aspirations as to ‘continued market access and cooperation’.
Reflecting the broad strokes of Prime Minister May’s speech and the White Paper, the Article 50 Letter confirms that the UK intends to leave the single market and proposes general implementation periods for certain regulatory reforms. Significantly, it notes that the UK and the EU have regulatory frameworks which, in a general sense, ‘match’, and that the ‘divorce’ negotiations should accordingly prioritise how the shift of regulatory frameworks is handled and how disputes are to be addressed. The letter accordingly identifies the key issue for financial services access in a post-Brexit market – namely, how, given the likelihood of future regulatory divergence between the UK and the EU, market access can be managed and mutual recognition of regulation assured. Significantly, whilst the letter is vague in respect of most aspects of the future legal reform required by Brexit, it does expressly reference a need to address the risk posed to British and European financial services regulatory frameworks with a ‘bold and ambitious’ Free Trade Agreement.
Whether or not the UK will be able to succeed in negotiating the Free Trade Agreement imagined by the Article 50 Letter with a bespoke financial market access arrangement which addresses these two issues is not, given the competing interests of the EU and the UK in the post-Brexit economy of Europe, clear. What is clear however is that under current EU law the UK will, following a hard Brexit, hold ‘third country’ status in relation to the EU financial market, and that the current ‘passporting’ arrangements used in the EU block are unlikely to remain feasible politically.
The concept of passporting relies on mutual recognition of prudential measures by member counties, coupled with minimum EU standards. It seeks to minimise legal, regulatory and operational barriers to cross-border provision of financial services in the European Economic Area (the EEA). A firm that is authorised by a regulator in one Member State is therefore allowed to carry out the same permitted activities in another Member State (the ‘passport’). It can do so by either directly providing cross-border financial services, or by setting up a branch in the other Member State. However, the integration of centralised rulemaking through the application of minimum EU standards means that, even if the UK were to be given rights and protections similar to those currently in place, it would remain possible that the UK could be simply outvoted in respect of any regulatory proposals applicable in the UK which the UK had rejected. Post-Brexit, the likelihood of the UK tolerating a European framework in which it is bound by rules that it has not supported itself seems remote – for the passporting system to be feasible, it is likely that the UK would have to be given a veto vote over rules, or the ability to opt out of passporting on certain topics. Also relevant would be the difficult position of supranational bodies such as the European Supervisory Authorities (ESAs), which harmonise the approach to supervision across the EU and have the right to step in directly on matters in extreme circumstances – clearly, post-Brexit any UK role for these bodies would be unworkable. Further, the EU regulations which provide for passporting are ultimately subject to interpretation by the European Court of Justice (ECJ), which would also seem undesirable for the UK – and an open question legally once the UK is removed from the EU and EU legislation and primary and secondary EU court rulings and legislation cease to apply in Britain. Although it is certainly possible that arrangements could be developed that protect UK sovereignty of rulemaking, supervision and adjudication in the areas considered here whilst maintaining some form of passport, this would clearly require significant deviations from the current EEA arrangements touted as a starting point for the solution, and, given the political difficulties of achieving the concessions from both the UK and EEA member states required to make passporting work, it is doubtful whether satisfactory adjustments could ever be achieved.
The idea of the UK as a ‘third country’ in the context of EU financial regulatory frameworks refers to the notion that, having given up its status as a Member State of the EU bloc, the UK would cease to be party to, and therefore benefit from, EU Treaty freedoms and principles of mutual cooperation and ‘no discrimination’ on grounds of nationality between Member States. Moving forward, the UK will in its dealings with the EU be forced to rely on the WTO General Agreement on Trade in Services (GATS) core principles of non-discrimination and equal treatment. Importantly, the specific protections in EU financial services regulation against economic and political discrimination on grounds of location or currency would fall away, leaving the UK theoretically exposed to increased levels of risk in its dealings with the EU market. As well as being outside any future negotiations on the design and operation of EU financial regulatory frameworks, the UK will no longer enjoy the standing afforded to Member States to bring actions before the ECJ – a status it has previously employed, for example, to block the European Central Bank (the ECB) from attempting to impose a mandatory geo-location policy to require clearing houses that settle large amounts of euro denominated transactions to be based in the euro area. Indeed, there are already reports of the location issue being re-opened within the EU; it appears that the ECB may now make the case for an expanded jurisdiction (including over central clearing) in order to for it to safeguard the euro-area financial infrastructure, and may even seek to withdraw from its liquidity swap line arrangements for clearing houses that were made with the Bank of England in order to enhance financial stability in relation to central clearing within the EU.
It is in this uncertain context that this paper will seek to explore the new phase of economic diplomacy and regulatory engagement between the UK and the EU, and to argue that a new, ‘equivalence’ based framework leveraging the ‘third country’ rules is the best way forward for European engagement with British involvement in European financial markets post-Brexit. Although it must be noted that a unified EU approach to the treatment of third countries around the concept of equivalence and with a fixed role for the various actors is not yet in place, this paper will, through an assessment of the existing EU equivalence rules in respect of key financial institutions, argue that Brexit has created a unique opportunity to create a unified EU system of the treatment of third countries that will both provide for the UK’s role in a post-Brexit Europe, provide certainty to existing financial markets stakeholders, and assist the single market with functioning in an increasingly globalised international marketplace.
II HOW THE SAUSAGE GETS MADE: THIRD COUNTRY LAWS, ‘EQUIVALENCE’, AND THE EXISTING EU FRAMEWORK
A Equivalence, explained!
Finance constitutes one of the most important areas of economic activity in the UK. The Office for National Statistics estimates the financial sector output to be 8 per cent of the UK’s national output, with some arguing that that if relevant business services are included, this number can be as high as 11 per cent. In short, the UK has one of the largest financial systems in the world, with current market value of the financial assets owned by British financial institutions standing at about £20 trillion (over 10 times the UK’s annual GDP). 13 Nearly a fifth of global banking activity is arranged or booked via the UK and around half of the world’s largest financial institutions, including banks, insurers, and asset managers, have their European headquarters based in London. Four UK banks—HSBC, Barclays, RBS and Standard Chartered—have been designated as Global Systemically Important Banks, and more than half of the euro zone banks raise capital in London in the form of either equity or debt , with the UK serving as a global hub for securities and derivatives trading.
Pre-Brexit, and as a member of the EU, the UK capitalised and developed the strength of its financial markets through the freedom of movement of capital as well as freedom of financial services throughout the EU provided for by EU legislation, with the free movement of capital guaranteed by the Treaty of Rome allowing UK households and firms to borrow and invest abroad and make cross-border payments without discrimination. The hard Brexit envisioned by the Article 50 Letter will force the loss of the rights to the freedom of movement of capital which has promoted the growth of the British financial services industry. At this stage, assessing the economic costs of losing these rights has proved difficult – although a quantitative study by Oliver Wyman indicates that nearly a quarter of British revenues in banking and asset management, and nearly half of the revenues in market infrastructure and other areas, are related to the EU, and that the low access scenario envisioned by the Article 50 Letter could result in total revenue loss of about £18–20 billion.
Although it’s clear that, under the hard Brexit envisioned by the Article 50 Letter means a loss of the TFEU rights, this is not the case in respect of the EU’s equivalence provisions and their application to the UK. The concept of ‘equivalence’ in EU law relates to the legal and procedural mechanism which manages third country (i.e., outside bloc) access to the EU capital markets (access) and how EU market actors and counterparties interact with third country entities (export).  The third country regime is distinguished from the interaction of member states in a number of ways. Although it is geared towards ‘outward looking’ bloc interaction, it is operated by single market legislation and utilised the EU’s supranational machinery, particularly the ECJ and ESA, as administrative watchdogs. The existing equivalence regime is rooted in complex historical, political, and institutional legacy effects, in that it has been substantially shaped by the various shifting political and economic interests in European financial services more generally.
Given the complex history of the equivalence provisions, it is not difficult to understand why the third country regime for EU markets is, even in the post-GFC arena, ‘partial, complex, and lacking in coherence’, with some discrete market segments subject to no (or very limited) rules relating to third country access. To add to the general confusion – reciprocity (the mutual recognition of law) may or not be required for access, depending on the specific market, and registration by the third country actor with ESAs, and submission to ESA authority, may or not be a condition of access. However, although the benchmarks against which equivalence (whether in relation to access or export) are measured prior to implementation vary between markets and nations, the ‘procedural route to the pivotal equivalence determination is broadly similar’. The EC is usually conferred with the power to initiate the equivalence process and the EC’s power to adopt an equivalence decision is almost always discretionary. The EC makes the equivalence decision in the form of an ‘administrative act’, usually under the ‘examination procedure’ for administrative rule-making, derived from TFEU Article 291. However, it is important to note that in a limited number of cases TFEU Article 290’s procedure for delegated acts is required to be complied with (which is itself based on EC oversight via the non-objection procedure). Technical advice in respect of the relevant legislation is usually provided to the EC by ESAs (particularly ESMA – the European Securities and Markets Authority), which engages in an ‘extensive assessment’ of the relevant jurisdiction; although this step is not always specified in the relevant legislation, as a matter of practice the Commission seeks out and relies on ESMA’s advice.
The equivalence decision ultimately made by the EC may be indefinite, time limited, full, or partial. It may include all the relevant financial governance elements of the third country regime, or only elements. The equivalence process is not transparent and only indications as to how it operates in the capital markets sector can be gleaned from Commission decisions on equivalence and from the related technical advice from ESMA. Clearly, this is a byzantine and enormously complex area of EU legislation – the explanation for which being that it reflects the necessarily bespoke ‘tailoring’ of legislation to fit specific situations. The benefit of this in respect of a post-Brexit UK integration is that the mechanics of equivalence provisions can be adapted in order to provide for each aspect of the UK’s financial services markets to be integrated into the existing EU equivalence framework. However, to do so – as will be explored below – will require significant work to ‘streamline’ and unify the existing ‘piece-by-piece’ approach to equivalency determinations.
B Equivalence in the context of the major UK / EU financial institutions
Given the above review of the concept of ‘equivalence’ generally, it is relevant to consider how this is applied in the context of the key financial markets and bodies that operate within the EU. This section will make detailed reference to the most important pieces of EU financial services regulation – the Capital Requirements Regulation (EU) No. 575/2013(the CRR), the Credit Institutions Directive 2013/36/EU(the CRD), the European Market Infrastructure Regulation (EMIR) and the Markets in Financial Instruments Directive 2004/39/EC as subsequently amended (MiFID), under which the equivalence frameworks of the institutions discussed in this section are governed. With respect to MiFID, it is important to note that in April 2014, the European Parliament approved both MiFID II, an updated version of the original MiFID law, and MiFID II’s accompanying regulation, MiFIR. However, this new legislation does not enter into force until January 2018. Where relevant, this paper considers the implications of MiFID II and MiFIR, as opposed to MiFID, as the occurrence of Brexit will fall after the revised legislation comes into place.
1. International Banking Groups
Under centralised EU legislation, EEA-member state deposit-taking institutions (banks)are free to conduct their crossborder business in the Union by providing services or through branches or subsidiaries. Third country banks (those incorporated outside of the EU), however, are positioned differently. They are required to obtain permission to operate either as ‘branches’ or as ‘subsidiaries’. The power to grant this permission rests with EU member states – without the approval, the third country banks cannot operate or provide financial services within the EU. Member states may also set certain conditions on the operation of the banks. Subject to the standard ‘most favoured nation’ safeguard provision that operative branches of third country banks must not be given ‘more favourable’ treatment than that accorded to branches of EU banks, Member State authorities are required to make their own determinations as to whether branches or subsidiary is the appropriate form for an operating third country bank. This decision is pivotal from a business perspective for the bank, as whilst operating as a branch is often a less costly option, when taking into account financial stability the establishment of an independently-capitalised subsidiary subject to local supervision (and resolution or bailout in the event of failure) is advantageous (not to mention the ‘soft’ benefits of operating as ‘more than a branch’ within a particular nation from a marketing perspective). There are no specific equivalence requirements or processes at the EU level applicable to decisions regarding bank branching – and neither are such decisions subject to ‘harmonised’ conditions.
However, formal EU equivalence tests do apply in certain other contexts applicable to international banking groups and corporations. Equivalence can facilitate streamlined consolidated supervision of an EU-based bank that forms part of a broader international banking group headquartered in a third country; provided that the third country’s regime for consolidated supervision is considered ‘equivalent’ to the relevant EU regime, the third country’s consolidated supervision regime will suffice. If equivalence is not found between the relevant third country and the EU’s consolidated supervision rules, the EU consolidated supervision requirements or other appropriate supervisory techniques which achieve the objectives of supervision on a consolidated basis will apply. To determine equivalence in respect of consolidated supervision, the competent authorities of the relevant Member State carries out the assessment of the equivalence of the relevant third country’s consolidated supervision regulations with respect to subsidiaries of third country groups. In difficult cases, the EC may request the European Banking Commission (the EBC) provide general guidance as to whether the consolidated supervision arrangements in third countries are likely to achieve the objectives of consolidated supervision from an EU perspective. Competent authorities are required to take account of guidance from the European Banking Committee and are required to consult with the European Banking Authority (the EBA) before adopting a decision.
Equivalence frameworks also ensure cooperation between supervisory bodies and individuals both within and outside the ‘colleges’ of supervisors essential for the effective supervision of an international bank group. Prudential supervisors must be able to freely exchange information secure in the knowledge that confidentiality and sensitive information will be treated with appropriate professional secrecy. The conclusion of a ‘cooperation agreement’ between EU banks and third country banks providing for an exchange of information with third country authority is subject to (and conditional upon) a guarantee that the third country’s professional secrecy requirements are at least equivalent to those in EU law. Indeed, there must be equivalence with respect to confidentiality requirements generally in order for any third country authority to be admitted to participation in a college of supervisors including EU institutions. The CRD provides under article 116(6) that in order for any third country authority to participate in a college of supervisors, all of the competent authorities in the college must be of the opinion that the third country confidentiality requirements are equivalent to those applicable within the EU.The resultant determination of equivalence does not involve the EC. The EBA has issued a number of recommendations with respect to the equivalence of a number of third country confidentiality regimes to inform the opinions of the relevant national competent authorities. These recommendations have been issued under the auspices of Article 16 of the EBA Regulation, and, as such, competent authorities must comply or explain their deviation from compliance with the EBA’s recommendation or regulation.
Equivalence can also unlock more favourable treatment with respect to certain categories of third country exposure for financial institutions. In a general sense, the detailed prudential requirements which are applicable to EU banks and other EU financial institutions provide for the making of equivalence determinations in a range of areas in order for the application of the same preferential treatment of third country exposures as would normally apply to EU exposures. In all exposure equivalence decisions, the responsibility to determine equivalence rests with the EC. Decisions are made by way of implementing acts or regulations. Although the EBA does not have a formal legislative mandate to assist the process, in practice it is regularly asked by the Commission to work on assessments.
2. Cross-border investment services and firms
At the time of writing, there is no cross-border passport available to third country based institutions who wish to be able to provide managed cross-border investment services to either retail or sophisticated investor clients. Although, as noted in the introduction to this section MiFIDII has not yet come into force, this section will base its analysis on the implications of that legislation, rather than the extant MiFID, as Brexit will occur after implementation has occurred.
With this in mind, the position under MiFIDII is that access is to be agreed on a ‘state-by-state’ basis – with the caveat that all agreements must remain subject to the usual ‘most favoured nations’ safeguard that third country firms must not be treated more favourably than EU-based firms. EU Member States have the right to retain discretionary nationally-based exemptions in local legislation permitting third country investment firms that do not already have a branch in the relevant country to provide investment services without local authorisation.
UK law provides for a generous exemption in favour of overseas persons under the Financial Services and Markets Act 2000 (Regulated Activities); however, varying degrees of ‘openness’ prevail across Member States. Where, however, a Member State chooses to require a third country firm to establish a branch, under MiFIDII there is an authorisation process to which a number of EU harmonized conditions apply. Although these conditions are not as stringent as a full equivalence-based examination, they are required to cover a number of key areas, including:
- the provision of services for which the firm requests authorisation in question being subject to authorisation and supervision in the third country;
- the requesting firm being properly authorised in the third country;
- due regard being paid to relevant recommendations relating to anti-money-laundering and terrorism financing;
- cooperation agreements are in place between the relevant Member State and third country authorities;
- the branch has sufficient initial capital at its disposal;
- persons are appointed to manage the branch in compliance with EU requirements with respect to management bodies;
- there is an OECD Model compliant tax cooperation agreement in place between the Member State and the third country; and
- the firm belongs to an authorised or recognised investor compensation regime.
Third country branches are also required to, on an ongoing basis, comply with these and certain other MiFIDII obligations and remain subject to the supervision of the Member State’s competent authorities – however, the relevant Member State may not place additional restrictions or requirements on the organisation and operation of the branch in respect of the matters already covered by MiFIDII.
Also relevant to consider is that, under MiFIR, third country firms will be able to provide investment services and perform investment activities with both eligible counterparties and with professional clients in the single market context without the establishment of a branch where it has been registered in the register of third country firms kept by the European Securities and Markets Authority (ESMA). Although ESMA has the ability to withdraw registration where it has a ‘well founded’ reason to do so, it does not play a supervisory role once a third country firm has been registered in a Member State. ESMA registration is subject to three conditions:
- an equivalence determination by the Commission with respect to the third country’s legal and supervisory arrangements;
- the firm being authorised in the jurisdiction of its head office to provide the investment services or activities to be provided in the Union and being subject to effective supervision and enforcement ensuring full compliance with the requirements applicable in that third country; and
- there being cooperation arrangements in place with the third country authorities.44 Subject to a transitional arrangement,
once there is an equivalence determination by the EC with respect to the relevant third country which remains on foot while the relevant institution is registered.
Following the introduction of MiFIDII and MiFIR, EU Member States will not be permitted to allow that third country’s firms to provide investment services or activities to eligible counterparties and professional in accordance with national regimes. Equivalence decisions made by the EC on these points will be required to state that the ‘legal and supervisory arrangements of the third country’ ensure that firms authorised in that third country comply with legally binding prudential and business conduct requirements which have equivalent effect to the requirements set out in MiFIR, MiFIDII, CRD and associated delegated and implementing measures, as well as providing a confirmation of reciprocity of treatment for EU firms under the relevant third country’s applicable legal or legislative regime. The relevant third country’s legal and regulatory framework must also operate to ensure both market transparency and market integrity by preventing abuse via the prohibition of insider dealing and market manipulation. The EC’s ultimate decision on equivalence is subject to oversight by the European Securities Committee, and ESMA as a source of technical advice.
3. Credit Rating Agencies
Post-GFC, the regulation of credit ratings agencies has been an area of global legislative and regulatory focus. Under EU law, the use of ratings issued by third country rating agencies for regulatory purposes relevant to the EU is restricted, and can only be used under either the ‘endorsement’ regime or the ‘certification’ regime. Endorsement allows ratings agencies registered with ESMA (which, it should be noted, is the single supervisor for rating agencies operating within the EU) to ‘endorse’, for EU regulatory purposes, a rating which has been issued by the third country agency (e.g., an individual product rating for a creditworthy asset). The endorsement process is subject to a number of conditions, including that the EU credit rating agency has verified and is able to demonstrate on an ongoing basis to ESMA that the conduct of credit rating activities by its associated third-country credit rating agency fulfils requirements which are at least “as stringent as” requirements applicable to EU credit rating agencies, and that it is subject to effective supervision. The “as stringent” standard is generally considered to be similar to the required standard for equivalence, and must be referred to in concert with the third country measures that are legally binding. Jurisdictions that have passed the ESMA “as stringent” test include most of the world’s largest financial markets, including the United States, Australia, Japan, Canada, Singapore and Hong Kong.
The certification system, on the other hand, is only available to third country credit rating agencies that have no presence or affiliation in the EU (provided they are not considered to be systemically important for the financial stability or integrity of the financial markets of one or more Member States). Certification is subject to a determination of third country equivalence by the EC, overseen and advised upon by the ESC. To be considered equivalent, it is required the relevant third country based ratings agency is subject to the following requirements:
- authorisation or registration;
- effective supervision and enforcement on an ongoing basis; and
- legally binding rules which are equivalent to the EU requirements for rating agencies (subject to certain exceptions and exemptions).
Similarly to the increased focus on the regulation of ratings agencies following the GFC, the regulation of benchmarking has seen much attention in the post-crisis landscape in the wake of widespread benchmark manipulation scandals. In this context, ‘benchmarking’ refers to the financial industry practice of formulating a standard against which the performance of a security, mutual fund, financial product, or other managed investment can be measured. The EU benchmark regulatory regime is managed under Regulation (EU) 2016/1011 amending Directives 2008/48/EC and 2014/17/EU and Regulation (EU) No 596/2014 (the EU Benchmark Regulations). The EU Benchmark Regulations bear many similarities to the treatment of credit ratings agencies from an equivalence perspective, as discussed in section 3 above.
Pursuant to the EU Benchmark Regulations, benchmarks produced by non EU administrators (that is, those based in third countries) can only be used in an EU prudential or regulatory context where the relevant administrator has either been ‘authorised’ or ‘registered’ under an approved equivalent third country regime, or where the benchmark is endorsed by an EU administrator. Equivalence determinations made by the EC must relate to binding requirements in the relevant third country that correspond to the applicable requirements of the EU Benchmark Regulation (taking account whether the applicable legal framework and supervisory practice of the relevant third country ensure compliance with relevant International Organisation of Securities Commissions (IOSCO) principles). As with credit rating agencies equivalency determinations, effective on-going regulation and supervision must also be in place. Implementation decisions (overseen by the ESC), may relate to all of a third country’s administrators or may be confined to specific administrators, or specific benchmarks or families of benchmarks, with ESMA available to provide technical assistance and guidance in the process of this determination. In addition to this consultative role, ESMA also holds responsibility for establishing any required cooperation arrangements with the relevant third country supervisor.
On the other hand, endorsement allows EU authorised or registered administrators to apply to a Member State authority to endorse a third country benchmark or family of benchmarks for EU regulatory use. One of the core conditions to endorsement is that the benchmark fulfils requirements that are “at least as stringent” as the EU requirements on benchmarking. Interestingly, in a departure from the equivalent position in relation to the endorsement system used in respect of rating agencies, for the purposes of the “as stringent” test self-regulatory, as well as mandatory, requirements count.
5. Clearing Houses and other forms of market infrastructure providers
So called ‘market infrastructure providers’ – that is, entities which operate services on which financial instruments are created and traded (including central clearing houses and trading platforms) will also be subject to equivalence rulings following a hard Brexit.
Under the hard Brexit scenario considered by this paper the most likely outcome of the Article 50 Letter, all UK market infrastructure providers will lose status as a ‘regulated market’ for the purposes associated with the admission of securities to listing in the EUI, and with it, the associated entitlements enjoyed under EU law (including most-favoured trading conditions and freedom from price discrimination).
Additionally, and most relevantly in the case of central clearing houses, important EU legal protections with respect to the operation of payment systems and settlement finality will no longer apply (although this loss is likely to be mitigated by the equivalence-based provisions in MiFIR which provide for third country infrastructure providers to be eligible as trading and/or clearing venues for mandatory EU trading/settlement obligations). MiFIR and EMIR will also provide for third country market infrastructure providers the ability to access on a non-discriminatory basis EU trading venues and clearing houses.
As in the other equivalence regimes explored in this section of this paper, ESMA plays a central role in consulting and overseeing the equivalence process in respect of market infrastructure providers. ESMA is directly responsible for recognising central counterparties established in third countries to allow them to provide clearing services within the Union. This recognition allows clearing counterparties that are subject to EMIR clearing obligations to use relevant third country clearing counterparties for that purpose – provided they are cleared through an equivalence determination. Determination rulings in this context are made in the form of implementing acts overseen by the ESC, who are required to assess that:
- the applicable legal and supervisory arrangements of the relevant third country ensure that central clearing counterparties are in compliance with legally binding requirements which are equivalent to the requirements of EMIR;
- those CCPs are subject to effective supervision and enforcement in that third country on an ongoing basis; and
- the legal framework of that third country provides for an effective equivalent system for the recognition of CCPs authorised under third-country legal regimes.
ESMA must further be satisfied that the central clearing counterparty is established or authorised in a third country that is considered to have equivalent systems in place with respect to anti-money-laundering and counter-terrorism regulation.
III THE CASE FOR A UNIFIED POST-BREXIT EQUIVALENCE FRAMEWORK
As drawn out in Section II of this paper, the EU’s current approach to legislating equivalence provisions is at best complicated and at worst byzantine – but it does work, and it is in use across each of the five major financial institutions which form the core of the UK’s role as a centre of global finance. However, as it stands, to attempt to manoeuvre the entirety of the British financial market through the competing equivalency requirements would present a difficult task to meet the projected timeline of Brexit. This paper would suggest that Brexit presents a unique opportunity to hasten the progression towards a more unified system for the treatment of third countries across the different EU equivalency frameworks.
An appetite for change in how the EU treats the equivalency framework is apparent within the EC, with the publication of the wide-ranging November 2016 reform agenda (recently adopted by the EC), which has sought to respond to stated concerns on the crisis era reforms. As noted by Moloney, a ‘driving concern’ of these reforms is to remove the ‘incoherence and inconsistencies across the single rulebook’ explored in Section II of this paper. As shown in Section II of this paper, and noted by several academics, the equivalence regime being subject to a range of different procedures and conditions depending on the measure and institution being dealt with creates not only a significant administrative burden on both third countries and regulators, but also a significant risk of a disruption to the EU capital market arising from defects in how the current third country rules apply. Adopting a stable and consistent equivalence process across all financial markets and institutions would put third country access to the EU capital market on secure footing, with increased market stability and efficiency – particularly given the ability to ensure a ‘smooth’ post-Brexit transition for the EU’s interaction with the UK as a core financial market.
It is relevant to consider the socio-political agendas which would also support the adoption of a revised equivalency framework. As widely noted in the financial press post-crisis, with the exception of Germany the EU economy has continued to struggle, and the much-discussed flagship capital markets union project designed to assist with Member State growth requires the facilitation of access to both the broader global corporate sector and to a broader base of investors and investment opportunities in order to support growth of jobs and economic output. This aim is unlikely to be furthered where the UK (not to mention other third country) finance and investments are excluded. The EU’s desire to maintain an internationally open financial market does have a strong basis in self-interest, and can expected to remain a key component of any post-Brexit reformation. Taking a protectionist approach to market reformation would also cut across the EU’s stated financial services agenda at the international level – for example, the EU commitment to the G20 agenda around freedom of trade, and to its stated goal of playing a central role in worldwide financial markets and working cooperatively with other countries to find mutually supportive regulatory solutions which facilitate international business.
The UK is equally invested in reforming the complicated arrangements that currently govern third country access to the EU. Its holds a clear interest in maintaining (or strengthening) the position of London as an international financial centre which is ‘open for business’. The overwhelming complexity of the EU’s current ‘case-by-case’ approach to the equivalency framework stands as a significant impediment to this goal as the UK begins its own transition into third country status – and one which could come at a significant financial cost to both the UK and the EU. Since not all critical financial services and activities are currently covered by an existing equivalency framework in favour of third, to continue some activities (not to mention implementing new or significantly evolved financial products) UK institutions with substantial EU interests will be forced to absorb the costs of navigating individual (and highly variable) exemptions under the national laws of the Member States in which they wish to operate, or face being forced to restructure their group structures to establish an EU-based entity that comes under the umbrella of existing EU frameworks.
The question of what this reformed framework would look like is an open one – but one to which this paper would suggest there is a clear response. Given the EC’s stated ambitions, it is reasonable to assume that any new regime be located in a horizontally applicable (i.e., applying across all Member States equally) single market measure with a procedural orientation which would address how equivalence is assessed generally, rather than in respect of individual financial institutions and markets, and irrespective of whether the determination is being made for market access or rule export. While other new models managed by EU/third country tribunals or committees focused on the oversight of specific markets and with the capacity to make considered yet commercial decisions could be envisaged, it is difficult to imagine a situation in which the EU would willingly concede the removal of an EU-based supranational body as an ultimate arbiter of one of the EU’s regulatory frameworks – particularly one as vital as a post-Brexit equivalency system.  Brexit may represent the requisite ‘push’ to move the EC towards reforming a system which, in the fragmented and globalised contemporary economy, no longer makes sense from a practical or an administrative perspective.
Although the question of whether or not ‘Brexit means Brexit’ in the context of financial markets may not be answered in the short term, the EU, together with the UK, clearly stand on the precipice of an important moment in their shared history. Given their importance as the most practical solution to a post-Brexit ‘third country’ hard Brexit scenario envisioned by this paper, the equivalency framework is likely to be a location of contestation given the distinct preferences and interests which the confluence of Brexit and the EU’s own socio-political agenda are likely to generate. However, as this paper has argued, a two-way equivalence based arrangement for cross-border access to financial markets represents the most stable transitional arrangement for European finance in a post-Brexit market.
A Articles / Books / Reports
Directive 2011/61/EU of the European Parliament and of the Council of 8 June 2011 on Alternative Investment Fund Managers and amending Directives 2003/41/EC and 2009/65/EC and Regulations (EC) No 1060/2009 and (EU) No 1095/2010  OJ L174/1
Directive 2013/36/EU of the European Parliament and of the Council of 26 June 2013 on access to the activity of credit institutions and the prudential supervision of credit institutions and investment firms, amending Directive 2002/87/EC and repealing Directives 2006/48/EC and 2006/49/EC  OJ L176/338
Regulation (EU) No 575/2013 of the European Parliament and of the Council of 26 June 2013 on prudential requirements for credit institutions and investment firms and amending Regulation (EU) No 648/2012  OJ L176/1
Regulation (EU) No 648/2012 of the European Parliament and of the Council of 4 July 2012 on OTC derivatives, central counterparties and trade repositories  OJ L201/1
Directive 2014/65/EU of the European Parliament and of the Council
of 15 May 2014 on markets in financial instruments and amending Directive 2002/92/EC and Directive 2011/61/EU (recast)  L173/349
Regulation (EU) No 600/2014 of the European Parliament and of the Council of 15 May 2014 on markets in financial instruments and amending Regulation (EU) No 648/2012  OJ L173/84
 ‘The Government’s Negotiating Objectives for Exiting the EU’, 17 January 2017, available via https://www.gov.uk/government/speeches/the-governments-negotiating-objectives-for-exiting-the-eupm-speech.
 Department for Exiting the EU, The United Kingdom’s Exit From and New Partnership with the European Union (Cm 9417), February 2017, paragraph 8.25.
 European Commission, Notice to marketing authorisation holders of centrally authorised medicinal products for human and veterinary use, 17 June 2017.
 J Amour, ‘Brexit and Financial Services’ (2017) 33(1) Oxford Review of Economic Policy 54
 N Moloney, ‘Brexit and EU Financial Governance: Business as Usual or Institutional Change?’ (2017) 42 European Law Review 112.
 Financial Stability Board, “2016 list of global systemically important banks (G-SIBs)” (November 2016), p.3
 IMF, “United Kingdom—Financial Sector Assessment Program” (June 2016), p.9.
 Treaty of Rome, 25 March 1957, Title I, Free Movement of Goods and Title III, Free Movement of Persons, Services and Capital.
 Wyman, “The Impact of the UK’s Exit from the EU on the UK-Based Financial Services Sector” (2016), p.6,
 N Moloney, ‘Brexit, the EU and its Investment Banker: Rethinking Equivalence for the EU Capital Market’ (2017) LSE Law, Society and Economy Working Papers 5/2017.
 L Quaglia, ‘The Politics of ‘Third Country Equivalence’ in Post-Crisis Financial Services Regulation in the European Union’ (2015) 38(1) Western European Politics 167
 A Dür, ‘Fortress Europe or Open Door Europe? The External Impact of the EU’s Single Market in Financial Services’ 18(5) Journal of European Public Policy (2011) 619.
 Moloney, above n 8, 13.
 Set out in Regulation (EU) No 182/2011  OJ L55/13.
 Above n 8, 114.
 ECON Report on the on the proposal for a regulation on indices used as benchmark (A8-0131/2015) (Rapporteur: Cora van Nieuwenhuizen) 75.
 Above n 5, 46.
 CRD OJ L 176, 27.6.2013, article 21.
 Fiechter et al, Subsidiaries or Branches: Does One Size Fit All? (IMF Discussion Note No. SDN/11/04).
 Above n 5, 47.
 Above n 28, article 25.
 Above n 28, 127.
 Above n 29, 127.
 European Banking Authority, EBA/REC/2015/01.
 Above n 5, 47.
 Above n 29, article 55.
 Above n 29, article 116(6).
 Regulation (EU) No 1093/2010.
 OJ L 176, 27.6.2013, arts 107(3) and (4), 114(7), 115(4), 116(5), 132(3) and 142(2).
 Above n 5, 48.
 MiFID II, articles 39-43.
 Financial Services and Markets Act 2000 (Regulated Activities) Order 2001, art 72.
 Above n 5, 49.
 MiFIDII, arts 39-43.
 L Quaglia, The Politics of ‘Third Country Equivalence’ in Post-Crisis Financial Services Regulation in the European Union’ (2015) 38 West European Politics 16
 MiFIR, arts 46-49, 54.
 Ibid, article 43.
 Ibid, art 54.
 MiFIR, art 46(4).
 Above n 5, 50.
 MiFIR, art 46(2).
 Regulation (EC) No 1060/2009  L302/1.
 ESMA, Guidelines on the application of the endorsement regime under Article 4(3) of the Credit Rating Agencies Regulation No 1060/2009, 12-19.
 Above n 5, 51.
 ESMA, Non-EU Credit Rating Agencies, https://www.esma.europa.eu/supervision/non-eucredit-rating-agencies.
  OJ L 171/1.
 Regulation (EU) 2016/1011, arts 30-31 and 33.
 Above n 5, 12.
 Regulation (EU) 2016/1011.
 Ibid, article 55.
 Above n 5, 13.
 Above n 6.
 See, e.g., MIFIR article 23(1).
 EMIR, article 4(5).
 Ibid, article 25(6).
 Ibid, article 25(2).
 European Commission, Communication, Call for Evidence – EU Regulatory Framework for Financial Services (COM (2016) 855) (2016), and European Commission, Staff Working Document on the Call for Evidence (SWD (2016) 359) (2016).
 Above n 16.
 See, e.g., J Armour, ‘Brexit and Financial Services’ 33 (Supp 1) Oxford Review of Economic Policy (2017) S54, above n 5, above n 16.
 European Commission, Action Plan on Building a Capital Markets Union COM(2015) 468.
 See, e.g., MiFIR recital 41.
 Above n 16, 46.