In focus: Financial Services and Equivalence

Nov 04, 2020

Equivalence is one of the core aspects of the EU’s “level playing field” demand in the negotiations. Regulatory equivalence has been suggested as the framework that will govern access to EU markets for UK financial services firms after Brexit, as well as regulating the ability of EU businesses and people to do business with UK-based financial services firms.  But what is equivalence, exactly, and how likely is it to be granted?

What is equivalence?

Equivalence is a decision by one country to recognise another country’s legal requirements for regulating a good or service, even though they are not exactly the same.  It is most commonly used in respect of financial services regulation. In this instance, a provider of financial services needs only to comply with one set of rules in both countries because the regulatory or supervisory regime of one jurisdiction is of an equivalent standard to that which applies in another jurisdiction. For example, administrators of certain interest rates and foreign exchange benchmarks in Australia and Singapore are subject to legally binding requirements which are equivalent to the EU requirements set out in its legal framework.

The EU and equivalence

The EU recognises standards and regulatory regimes of non-EU or EEA countries, including in the area of financial services. However, there is no standard approach for equivalence decisions made by the European Commission.

Third country regimes do not need to be identical to the EU’s equivalence framework. The EU’s equivalence framework sets out that equivalence needs to be assessed based on the risk posed to the EU.  Risks in the context of financial services include market integrity and financial stability, investor and consumer protection and fair competition.

It’s important to remember that there is no right to equivalence for third countries even if those third countries can show that their framework fulfils all the necessary criteria.  The EU does not need to provide an assessment of equivalence and the European Commission can decide to adopt, suspend, or withdraw an equivalence decision if it sees fit. 

Read the European Commission’s communication on equivalence in the area of financial services.

Why is it such an important concept?

As the UK is leaving the EU’s Single Market, UK financial service providers will lose their EU passport on 31 December 2020. This passport allows them to offer their services to consumers in the EU market. Without it, they cannot continue to do this.

The EU’s Chief negotiator Michel Barnier said early on in the negotiations that:

“the EU will have the possibility to judge some UK rules as equivalent, based on a proportional and risk-based approach. And in those areas where EU legislation foresees equivalence…. The UK will, of course, have access to the Single Market. But this is different from being part of the Single Market.”

Does equivalence offer the same benefits as financial services passporting?

No.  Equivalence regimes do not provide identical market access rights to passporting arrangements. Equivalence regimes are not available for certain activities such as lending, mortgage lending, deposit-taking, insurance mediation and activities relating to UCITS.

This means that some UK firms may not be able to offer a full range of financial services and products that they can offer today in the EU.

Why don’t Free Trade Agreements contain detailed rules for financial services?

Former President of the European Council, Donald Tusk, following a meeting with the then Taoiseach Leo Varadkar, explained this very concisely:

“In the FTA we can offer trade in goods, with the aim of covering all sectors, subject to zero tariffs and no quantitative restrictions. But services are not about tariffs. Services are about common rules, common supervision, and common enforcement. To ensure a level playing field. To ensure the integrity of the Single Market. And ultimately also to ensure financial stability. This is why we cannot offer the same in services as we can offer in goods. And it's also why FTAs don't have detailed rules for financial services. We should all be clear that also when it comes to financial services, life will be different after Brexit.”

Preparations for the end of the transition period

At present, temporary equivalence decisions have already been granted by the European Commission in a number of areas to ensure financial stability in the immediate aftermath of Brexit.  The European Commission continues to assess whether it can grant further temporary equivalence decisions.

The UK has introduced a Temporary Permission Regime (TPR) which allows EEA firms to operate for three years in the UK after the passporting regime ends at the end of the transition period and they can seek authorisation from UK regulators. Firms (including Irish firms) and fund managers need to apply to the scheme before 30 December 2020. Full details of the UK’s Temporary Permissions Regime can be found on the FCA webpage.

In Ireland, the Central Bank has issued guidance for financial services firms that are based in Ireland and have a presence in the UK. The Central Bank says that if Irish firms intend to maintain continuity of business in the UK post Brexit, they must engage with UK authorities, the Bank of England and the Financial Conduct Authority (FCA). 

What does the future look like?

Under the Withdrawal Agreement, the EU and UK agreed to start assessing the equivalence of each other’s regulatory and supervisory regimes as soon as possible after the UK left the EU. It was hoped that such equivalence assessments would be completed by the end of June 2020.  While some progress is reported, the process has not completed at the time of writing.

The EU’s Chief negotiator, Michel Barnier, in a speech in June 2020 said that:

“The UK is trying to keep as many Single Market benefits as it can…….is seeking to create a legally enforceable regulatory cooperation framework on financial services in our agreement. It is attempting to frame the EU’s process for withdrawing equivalence decisions; trying to turn our unilateral decisions into co-managed ones.” 

If the UK and EU fail to reach an agreement, the EU may make determinations under the existing equivalence framework.  If a limited Free Trade Agreement is reached between the sides, that agreement may include a modified equivalence framework which might allow the UK consult before an equivalence determination is withdrawn.

Either way, there is a requirement for some equivalence determinations to be in place by 31 December 2020 or for temporary arrangements to be put in place, which can be finalised in the future.  Otherwise UK and EU based firms may find themselves unable to trade properly.