Financial Services Post-Brexit: The Age of Equivalence

With Brexit carried out on 31st January, 2020, the clock for the negotiations on the future of the economic relationship between the UK and the EU started ticking aloud. Before bilateral, structured meetings formally kicked off on 2nd March 2020, both sides had already started indirect communication by formulating a Blueprint (PM Johnson) and a negotiation mandate (of the European council for Commissioner Barnier) aiming at setting the scene for later direct talks. Both sides have stated that Financial Services will be on the table, which is not a surprise. If we think of the negotiations as a dinner table, Financial Services would be the Lobster: After use of some tools and techniques (both themselves taking some time to get learned), you get a non-everyday culinary experience (at least for most of us). You will possibly remember a meal for the Lobster served. But If you are hungry and in a hurry, you will probably not choose the lobster, deprioritizing it to the most important target at hand: Not leaving the table hungry.

As of now, Financial Services could well become the Lobster in the Brexit negotiation: The masterpiece of negotiations, but unavailable for time constraints. Instead, it is more likely than not that EU-UK-cross-border financial services from 2021 on will be governed by a concept which is already established in both EU and UK law and will thus not require negotiations: Equivalence.

In this article, we will explain the concept of equivalence, why we consider it the most probable outcome and what this means for the provision of cross-EU-UK-border (cross-border) financial services after the end of the transition period, in the short and medium term.

1. What is equivalence ?

Equivalence, formally called “Third Country Equivalence” (TCE) is an intricate and complex concept. It was established after the financial crisis (beginning in 2009) in order to deal with regulatory differences and similarities between EU customers and Third Country providers of financial services. The goal is to ensure a level playing field between equivalently regulated services (provided by Third Country entities) and restrict regulatory arbitrage by entities moving to less regulated jurisdictions. The core assumption is that EU legislative institutions are unable to influence Third Country legislation (and thus unable to prevent them from lowering regulatory standards). In this case they are enabled to unilaterally prevent suppliers of financial services from those third countries to offer services within the EU at lower prices or otherwise more favourable conditions. If, however, the Third Country implements regulatory standards which are equivalent to applicable EU regulatory standards, the EU Commission may deem this particular service (e.g. derivatives clearing) to be regulated equivalent to EU legislation. As a result, providers of financial services from the Third Country jurisdiction profit from market access under less strict requirements or from market access at all for this specific service. So, since it is a service-centered concept, the same supplier could profit from TCE regarding one service (which is regulated equivalently to EU regulation in his home jurisdiction) and not benefit from it regarding others.

One example for TCE is derivatives trading: Derivatives traded on foreign markets found to be equivalent to EU regulated markets avoid their instruments being designated as ‘OTC derivatives’ (considered higher-risk and more expensive). Another is access to Central Counterparties (CCP): A CCP established in an equivalent Third Country may provide clearing services to clearing members or trading venues established in the Union and can be used to fulfil the EMIR clearing obligation. Was the CCP to offer other regulated services, it would have to check whether those services are covered by a TCE provision and whether the EU has defined the Third Countries regulation concerning these specific services equivalent. If yes, the CCP could also provide those services as it was established in the EU; else it would be treated as a Third-Country-CCP for those specific services. Treatment as a Third Country services provider may result in either hurdles to the provision of services to EU clients (e.g. concerning the trading of securities in on EU trading venues) or such services may not be provided to EU clients at all (e.g. if an EU license is required).

TCE provisions can be found in around 15 EU regulations concerning about 30 specific issues within these regulations. The Commission has taken positive TCE decisions concerning 37 countries since the concept was established and has revoked some of them (the most famous case being that of Swiss). TCE decisions concerning UK regulation are in preparation by the EU.

Since the Brexit referendum, UK as well as EU official and industry representatives have proposed to fundamentally change the EU regulation concerning TCA. The tenor of those ideas is to implement TCE for UK regulation as a general principle in every EU financial sector regulation and TCE for EU regulation in every UK financial sector regulation. By taking a mutual TCE decision both parties would effectively allow each other unlimited provision and demand of cross border financial services. Under this proposal, both parties would closely align on any future changes to financial services regulation in order to avoid revocation of TCE decisions while maintaining full sovereignty on their regulatory decisions (the latter being considered a key reason for Leaver´s Brexit vote). The EU has rejected this proposal from the beginning and the MP Johnson has not established it as the official UK Government position concerning financial services.

It is thus highly probable that the concept of TCE will survive the Brexit negotiations in the present form. Notwithstanding this, new regulations will contain new TCE provisions, specific TCE provisions in existing regulation may be changed, existing EU KOM TCE decisions will be changed and new ones taken. This will influence the type and amount of cross-border financial services provided into and out of the EU but the present concept will prevail. We will explain why in the next paragraph.

2. Why is equivalence the most likely outcome of the FS negotiations ?

As we have explained, TCE is an unilateral concept – each side takes its own independent decision on allowing the provision of financial services by Third Country providers. It decides on the exact services, the country from which this is possible and, in some instances, (e.g. CCP access) also per individual provider. It may revoke any of these decisions at any time by executive (KOM revoking specifically TCE decision) or legislative (EU institutions changing regulation containing TCE provisions) action. As such it is a flexible instrument, adaptable to any decision of a Third Country (e.g. changing its laws and thus making existing TCE decisions obsolete) or any EU internal change of economic or political parameters (e.g. EU changing its legislation with the effect that other legislation is not equivalent any more).

The exact same rationale applies for the UK, which – at least on January 1st 2021 – will have exactly the same TCE provisions in its laws as the EU. For the UK re-gaining autonomy of political decisions (“take back control”) is considered to having been a key driver for the leave vote. Consequently, when setting the red lines of the UK for the Brexit negotiations PM Johnson made very clear that the UK’s autonomy to change its laws is a cornerstone of the economic policy of his government. Accordingly, the EU has always made clear that – in implementation of the EU treaties – after Brexit it will take legislative and executive decisions based solely on the needs of its member states, a group to which the UK will then no longer belong.

Put the other way around: Any other outcome than both sides agreeing on TCE decisions to govern the future cross-border financial services provision is highly unlikely. It would require them to agree on a mechanism which would make one side´s decisions contingent of both sides agreeing to them – which would resemble the UK not having left the EU (at least for financial services regulation purposes). Any unilateral decision of one side would endanger this mechanism, making both sides decide what they value higher: Independence or access – this is no stable solution.

For these reasons and because there is already time shortage to discuss topics with more political visibility such as fishery rights we consider it the most likely outcome that TCE will be the regime governing post-Brexit financial services. We will give our view of the consequences in the next paragraph.

3. What are the consequences of a pure equivalence regime for financial services post-Brexit ?

First, this outcome is the one for which all market participants can prepare best because the assessment of its implications may begin immediately. This does not mean such an analysis is easy. It will require the following key elements inter alia:

  1. Analyze which TCE provisions are relevant to the specific business model
  2. Anticipate both sides’ TCE decisions
  3. Derive and implement necessary measures in the time before and after the end of the Transition Period

Item a) will be required in any other regime than TCE as well. Assuming TCE will be the only outcome of the negotiations concerning financial services, this will give all players the maximum preparation time compared to all others because it is already known. The decision concerning item b) will profit from the fact that, at inception (i.e. January 1st 2021), both legal frameworks will be basically identical which may lead to both sides to take favourable TCE decisions, although – possibly driven by negotiation strategy – this may happen late in 2020. Item c) will be basically possible only in the TCE scenario, because no other outcome may give financial market participants more time (or any time at all) to implement measures before end-2020. Examples for such measures may be to transfer existing business / portfolios / clients or to plan their discontinuation after 2020 under conditions of full market access.

Second, having access to the mutual capital markets under the TCE regime will be clearly inferior to the UK staying in the EU – which is not an option anymore (called the first-best). At the same time, at least at inception, it will arguably be the best of all feasible outcomes (the second-best). Considering that capital markets usually deal better with bad news than with uncertainty, TCE might as well help the markets cope with the insecurity immanent in the Brexit process.

Third, the political process which leads to TCE decisions on the EU side is largely intransparent to the public because there is no openly accessible legislation on the COM’s procedures leading to TCE decisions. Internal standing procedures may exist for the COM, but those are undisclosed to the public. As long as this remains, the process and its output are a black box to all affected market participants as long as the COM does not voluntarily chose to disclose information – something it has done in the past, especially when dealing with prominent cases such as the (negative) TCE decision on Switzerland’s capital markets rules.

Market participants have been urging the COM to disclose its decision-making processes in order to give them the possibility to contribute to and influence the COM´s decision. When deciding to raise transparency of the TCE, the COM will have to weigh up two effects: A positive one from stabilizing industry expectations and avoid underinvestment due to insecurity and a negative one from giving up discretion which could be effective in negotiations with third countries. At the moment we do not how the COM will decide or whether it is discussing the topic at all. With the importance of TCE decisions rising if TCE is the future regime, market participants will probably lobby for more transparency of the rules governing TCE which affect their ability to engage in cross-border financial services.

4. How will financial services relations develop over the medium term ?

As for the way forward, we see two possible options: Either will this be it or both sides will implement an informal mechanism of keeping the equivalence of the two systems. The first option is one of stability and predictability but it will have serious consequences on both sides of the English Channel. Both sides will take their own decisions, with the consequences of TCE and market access in case of legal changes. In this scenario, the EU will have to develop its own capital markets to substitutive the loss of access to the City of London. This can only be done on a medium term and will require a herculean effort by the member states – an effort they were not required to produce when the City was the EU’s capital market.

The UK on the other side will have to find a way to make up for the loss of transactions which do not reach the City anymore. Our guess would be that the UK will adapt more quickly than the EU – reducing the volume of an existing capital market is less complicated than creating capital market structures from scratch. The question will be how the UK economy internalizes the brain drain from the City. One possibility will be its relocation to the EU which may speed up the process of building up a market there. The second option is more dynamical and insecure and we see only a shadowy outline of it: Would both sides decide to informally align the legal framework governing financial services in the respective jurisdictions, a political convergence may result, based on trust in the other sides approach to financial sector legislation. In the medium term, both sides may then initiate negotiations on a tighter cooperation and may agree on a financial services free trade agreement with extended mutual market access, above the TCE level but below the level of a full EU membership of the UK.

The question is this case will be how the dynamic explained before will have shaped both side’s capital markets. All that is certain is that it will not be the capital markets of 2020, when the City was the EU’s capital market. As always in negotiations, both sides’ decisions on convergence and market access will be shaped by the state of their capital markets and the demand for each side to cooperate, since – as we have shown before – it comes at the cost of compromising each sides freedom to take decisions based solely on their own (member states or electorates) needs. Even if the UK decided to re-join the EU in a distant future it would be a totally different financial services relationship than it is today.


It is our argument concerning economic stability / predictability and political / legislative autonomy on both sides which makes us expect that Third Country Equivalence will be the stable regime for financial services Post-Brexit not only in the short but also in the medium term. The negotiation teams will most likely omit the lobster.

You should analyze the consequences of equivalence on your ability to provide cross-border financial services from 2021 on and its effects on your business model as a whole. If you have any questions please contact our experts:


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