UK Financial Regulation Faces Post-Brexit Equivalence Dilemma

Financial regulations, particularly for
benchmarks, are likely to be materially aligned in the UK and rest of Europe by
the time Brexit is completed, however obtaining “equivalence” status for the UK
might not be quite as straightforward, a number of sources close to the matter
told Profit & Loss in recent
weeks, with political reasons potentially playing a role in slowing down the

The likely prospect for regulation
affecting financial markets, including benchmarks in the UK “is that either we
maintain all EU regulations as they are, in order to obtain swift equivalence,
or we put in place a different regime and negotiate equivalence” says Barney
Reynolds, head of financial institutions advisory & financial regulatory
group at UK-based legal firm Shearman & Sterling, who adds the second
option is likely to take longer to achieve.

For now it is business as usual for
benchmark regulation, says another UK-based source close to the matter.

With both the European Benchmark Regulation
and Mifid II – another key European regulation affecting financial markets –
set to be in place by 2018, regulations “are likely to be in place before the
UK has completely finished its two year process” assuming Article 50 is
triggered by the UK at the end of the year or the beginning of the next”, the UK-based
source says.

That means they will be “fully implemented
while the UK is still a member” of the EU, the source adds, noting that even if
the UK does not remain in the European Economic Area, it is likely the
principle of “equivalence” will apply, as with countries outside of the EU such
as the US.

Michael Sholem, European counsel at legal
firm David Polk, points out, however, that in a post-Brexit scenario, “If a
UK-based benchmark provider wants to continue to provide its services to EU
firms, should an EEA membership agreement not be reached by the UK – which has
become more likely in the past two weeks as the UK is focusing on immigration –
then it will have to register with ESMA under the third country provisions of
the Benchmarks Regulation.”

This is however where issues might impact,
as “before that, the EU Commission has to determine ‘equivalence’ of benchmarks
regulation in the UK, [which] is not likely to start until Brexit has been
agreed, and there might be a political unwillingness to reach an agreement on
equivalence quickly,” Sholem observes.

“Timing is a key issue as the whole process
might take years,” Sholem continues. “In that respect there’s a risk of similar
situation to the US over for example AIFMD as we’re not 100% clear when and
whether the EU will grant equivalence for all types of US fund managers, even
though the assessment process started back at the start of 2015.”

On the other hand, “EU and UK authorities
are likely to be willing to collaborate more than those in the US, where there
were statutory difficulties with flexing their approach to fit better with that
in the EU,” objects Reynolds. “The fact the US has developed its own set of
regulations in advance, without regard to those being developed by the EU, and
the fact there were significant technical differences, for example on margin
requirements, created equivalence issues.”

Moreover, for benchmarks, “EU financial
institutions would view non-equivalence as a real risk, having to carry out the
exercise of shifting to EU benchmark providers from UK ones, so there might be
a pressure on maintaining the status quo, unlike for example for Mifid 2, where
the position on equivalence is far more complex and political,” says Sholem.

EU Rules Likely Aligned under IOSCO Principles

The fact the benchmark regulation is
somewhat ahead in the UK compared to the EU, which is developing its own set of
rules under the same guiding principles of the International Organization of
Securities Commissions (IOSCO) suggests that at least on a material level rules
are likely to be equivalent.

“Regulation of UK benchmarks – eight are
currently regulated, including Libor, oil (the ICE Brent index), gold, silver –
in the UK is ahead of the game and UK administrators try to adhere to global
IOSCO principles,” Sholem says. “These are guiding principles for the EU
legislative initiative as well, and the two sets of rules share significant

At EU level, work is still underway, after
the EU Benchmark Regulation was officially published at the end of June. The
Regulation is set to be fully in force from January 2018, and it would
supersede existing domestic regulation in the UK, even though the UK was the
first country to specifically regulate benchmark in the wake of scandals
affecting major benchmarks such as Libor.

“Existing benchmark regulation has
been created out of the introduction of Market Abuse legislation and the
identification of Critical Benchmarks through a government consultation process,”
explains David Clark, chairman of the Wholesale Markets Brokers’ Association
(WMBA). “This legal framework is further reinforced by adherence to the IOSCO
principles which have global credibility.

“Whilst we do not yet know which benchmarks
will be subject to EU BMR, how that will be effected and what equivalence will
apply post Brexit, the EU should take careful note of what the UK authorities
have done and how they have brought benchmarks under regulation,” Clark

UK methodology, taking into account compliance with IOSCO principles, provides
the best template for future EU BMR and it is to be hoped that BMR anywhere
would follow the example laid out in the UK,” he adds.

Beatrice Bedeschi


Colin Lambert

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