Regulatory Relations

The UK’s pending departure from the EU is characterised as gouging yet another hole in global regulatory frameworks, but could it actually turn out to be a move for the good? By Justin Pugsley

The Brexit regulatory fragmentation argument states that it will force firms operating in the EU and UK to comply with two gradually diverging regulatory regimes and two sets of reporting requirements. 

Indeed, UK regulators are discussing the future shape of the country’s regulatory regime post-Brexit and are talking about an approach that differs from the EU’s. 

For global financial firms this is seen as an unwelcome addition to the other nationalist regulatory initiatives going on across the world that are driving wedges into global rules, which complicates compliance. 

Andrew Bailey, the CEO of the UK’s Financial Conduct Authority (FCA), has talked of being unhappy with some aspects of EU rules and is keen to look at a more outcomes-based approach. 

In October, other senior FCA officials, such as Christopher Woolard and Nausicaa Delfas, aired their thoughts on the future shape of the UK’s regulatory regime – depending on whether Brexit happens and on what terms. 

These speeches focused on the desire to move towards more outcomes-based approaches and relying less on reporting and disclosure, which has been the regulator’s mantra since the 2007-9 global financial crisis. 

Admittedly, these speeches looked extensively at retail finance, but there was definitely mentions of regulating wholesale finance and in maintaining the City of London’s global dominance.  

Others in favour

The UK is not alone in its preference on outcomes rather than prescriptive rules favoured by the EU. For instance, regulators from the US, Singapore and Australia also favour this method and there are some views that this could be a good way for granting market access to third-country firms. 

In essence, it is about acknowledging the quality of outcomes of another regulatory regime while accepting differences in underlying rules. 

This should see less hurdles placed on cross-border financial business, which would require strong trust between regulators. Since the 2007-9 global financial crisis regulators have learned to work more closely together, but the same cannot always be said for their political masters.

So could this be a way to heal regulatory fragmentation? 

“Yes, this approach could work,” says Barney Reynolds, global head of the financial services industry group at Shearman & Sterling, “as these countries take a pragmatic, common law approach to financial services.” Also, he believes the UK could cut a good deal with the US on financial services as the US has made clear that it has a high regard for UK regulators – more so in fact than EU ones. 

"TTIP [Transatlantic Trade and Investment Partnership] failed on financial services because the US was prepared to do a deal with London, but not the EU," says Mr Reynolds. 

Peter Bevan, a financial regulation partner at international law firm Linklaters, claims UK regulators have been saying for years that they favour equivalence outcomes. Brexit could give them the opportunity to lean further in that direction. 

Lisa Quest, partner, public policy and organizational effectiveness at consultancy Oliver Wyman, says leading supervisors are increasingly looking at outcomes-based approaches because they can be applied to more grey areas of supervision and regulation. 

Theoretically this could see the UK collaborating with other like minded regulators to promote outcomes-based regulation, particularly on areas such as equivalence, in bodies such as the Financial Stability Board and the International Organization of Securities Commissions (IOSCO). 

“UK regulators are a very active voice in these bodies and will continue to seek to influence them and offer expertise and experience. I don’t think their voice will be lost [post-Brexit],” says Mr Bevan, adding that a lot of other countries tend to follow the UK’s lead on regulation. 

Lingering doubts 

But there are doubts as to whether this can really address fundamental differences between regulatory regimes. 

Jonathan Herbst, a partner at Norton Rose Fulbright, thinks basing equivalence decisions between jurisdictions on outcomes could be challenging given the current political mood. 

“If you had a baseline equivalence assessment with a top up of local requirements that could be a very rational approach to prevent fragmentation,” he says. He adds that there are also political questions over whether the US and UK would ever collaborate closely on promoting outcomes-based approaches through the global standard setters and it has been discussed for many years. 

“Outcomes-based regulation is never going to overcome the nationalistic division in the approach to financial markets, no matter how much it is driven by bodies like IOSCO and the Basel Committee,” says Chris Brennan, partner with global law firm White & Case. “The concept is far too nebulous to be deployed uniformly across national borders. International regulation can only work when you are talking about clearly defined, and largely prescriptive, standards.”

A key influence over whether jurisdictions move towards reversing regulatory fragmentation is over what kind of deal emerges between the UK and EU on financial services. An agreement that minimises friction between the two could set a good example to the rest. 

But the EU has made it clear that UK regulatory divergences will result in less access to its markets. At the same time, the EU does not particularly trust outcomes-based approaches and prefers to be more prescriptive as that makes it easier to spot regulatory breaches and to tackle them. 

So, whereas many other jurisdictions might be fine with an outcomes-based approach, noises from the EU give little cause for optimism at this stage. 

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