The UK has voted to leave the European Union (EU). Uncertainty in financial markets and among the business community is understandably very high. Today, there are many more unknowns than knowns – especially about how financial services firms operating in the UK will access and trade with the EU’s Single Market in future.
This is the first in a series of notes, which we will publish as the process of the UK’s exit from the EU unfolds.
But, at least for the time being, some things are certain. From a purely regulatory perspective, today is much the same as yesterday:
- The UK remains a member of the EU, and is unlikely to be in a position to leave for at least another two years following an exit process set out in the Treaty on European Union (TEU).
- EU law continues to apply up to the point when the UK leaves the EU.
- UK firms will continue to benefit from the same market access they currently have until a formal exit occurs.
This is the calm amid what is otherwise a very turbulent short-term outlook. The immediate political, market and economic events over the next few weeks and months will be difficult to predict or control. In this highly uncertain environment, we expect the short-term focus for firms to be on managing the financial impacts and communicating with a broad range of stakeholders, both internal and external.
Planning considerations for financial services firms
Below are six steps that we believe are critical for firms to consider now that the UK has voted to leave the EU, especially but not exclusively for banks operating in the UK or having other business relationship with the UK or UK clients. You can read our extended analysis of these and other relevant issues here.
- Be ready to respond at very short notice to information requests from supervisors, both in the UK and elsewhere, about the impact of market volatility on balance sheets and customers/counterparties.
- Broaden and deepen scenario analysis and contingency planning.
- Develop well founded and consistent communications to internal and external stakeholders.
- Consider how future strategies might be affected, positively or negatively, by the terms of the UK’s exit from the EU.
- Begin to work through detailed plans and timelines for any relocation strategies that may need to be invoked.
- Consider the appetite for buying “insurance” against possible outcomes that could seriously undermine a firm’s business model.
Considerations of potential changes after the referendum are relevant especially but not exclusively for banks operating in the UK or having other business relationship with the UK or UK clients. Even with no business relationships to the UK, market volatility and rising uncertainty are likely to challenge the sector and its business customers in the short to medium term. In Switzerland, Brexit’s biggest impact is likely to be felt in the foreign exchange markets, since upward pressure on the franc has increased. Therefore, while the situation itself is completely new – no member state has ever left the EU – one of the primary channels through which this event makes itself felt in Switzerland – the exchange rate – is not new. Swiss banks have been forced to deal with the stronger Swiss Franc and (at times) higher volatility for years, so this is a challenge they know very well. The Swiss National Bank (SNB) is prepared to respond to limit the Franc’s appreciation. Likewise, increased financial market volatility and uncertainty, another channel through which Brexit impacts Swiss banks and banking clients, is unwelcome, but not unprecedented. The financial crisis, the euro crises, geopolitical tensions, banks have been operating in a volatile environment for years.
Another dimension to consider for Switzerland is the impact on the Swiss financial market centre and its international competitiveness. The attractiveness of London, one of Switzerland’s great European competitors, has already suffered at least temporarily and might further decline relative to Switzerland. Even though nothing has yet changed by law, the future political and regulatory framework has been called into question. Political and regulatory uncertainty will be elevated in the UK until a new final settlement with the EU can be found and financial market regulation has been decided upon. Should the UK lose Single Market access and EU passporting rights, the UK would then access the single market on a third country basis, much the same as Switzerland. Services for professional investors might not require passporting if future UK regulation is deemed to be equivalent to EU legislation. This is dependent on political acceptance of EU members, however, with France already being opposed, and it would not include all services. For retail investors having a regulated presence within the EU will be mandatory. Non-EU banks currently passporting through the UK would look to establish passporting through another country. Banks operating from Switzerland, which has preferential market access agreements with Germany and Austria and comparatively liberal labour laws, could then be considered to have a slight advantage.
Switzerland, however, is not likely to benefit to a large degree from any relocations out of London. Since it cannot offer EU passporting, banks looking for a new EU market hub will consider other EU financial centres first. France has been actively promoting Paris, an existing cluster. Frankfurt is likely to be a strong contender, too, and offers slightly more liberal labour laws than Paris. Dublin is another existing financial centre (especially for funds) and while being in a less central location, it shares a common culture and language with London and offers liberal labour laws and low taxes.
This will be relevant for larger banks as well as for Fintech companies. London has developed as a strong Fintech cluster, but should it be losing Single market access, scalability – crucial for startups – will be much harder to achieve. Berlin will be a strong contender here.
Dealing with an uncertain outlook
For some financial services firms, particularly those that use the UK as a hub to passport or provide services on a cross-border basis into other EU Member States, the terms of access which the UK negotiates to the Single Market will be fundamental to their future strategy and business models. For many of these firms, "waiting and seeing" until the outlook becomes clear will be untenable, given the lengthy lead times associated with moving substantial blocks of business and potentially people.
These firms face a period of decision-making under significant uncertainty. To operate successfully in this environment will require meticulous planning, including scenario analysis and contingency planning, the identification of triggers to activate elements of those plans, and, in some cases, taking early decisions to secure maximum flexibility and optionality for the future.