Brexit update for financial services firms - week ending 7 December 2018

PD text is also very disappointing on the question of coverage and UK DRC based access to the EU. It makes no reference, even as a UK objective, to the EU broadening DRC based access under new equivalence frameworks. It merely says ‘The parties will keep their respective equivalence frameworks under review’ and emphasises‘[…] the parties’ regulatory and decision making autonomy and their ability to take equivalence decisions in their own interests […]’ and their over-riding ‘ability to adopt or maintain any measure where necessary for prudential reasons.’ This wording is alarming from the UK’s perspective, particularly when one considers the results so far from the EU’s review of the equivalence frameworks for Brexit. The main change takes the form of the EMIR 2.2 proposals (as reported in our previous updates) which is the subject of the latest House of Commons European Scrutiny report published last week (see extracts at Document 4 below). As the Committee confirms, the legislation threatens UK CCPs and restricts the current DRC based access; it is opposed by HMG but is expected to be adopted by the EU.

The WA (if ratified) and the PD provide a staged approach to Brexit (see Table 1 below or click here for overall summary) – stage 1 is the transitional period (TP) to 31/12/20, stage 2 is the TP extension (to no later than 31/12/22), stage 3 is the Northern Ireland Protocol/backstop (PR) and stage 4 is the long term relationship (LTR). The WA is legally binding and sets out the terms of stages 1 and 2. The first protocol to the WA sets out the basic provisions of stage 3. It is legally operative but many of the practicalities are left to be agreed later. An outline of stage 4 is set out in the PD but this is non-binding and, in most areas, it is only aspirational and often sets out the conflicting objectives of the two sides. (Under Article 184 of the WA, the parties agree to use best endeavours, in good faith, to negotiate expeditiously the LTR as referred to in the PD and to conduct the procedures for ratification with a view to it applying as far as possible from the end of the TP. Oliver Robbins told the HoC Exiting the EU Committee that this level of commitment to future negotiations was highly unusual). Stage 2 or 3 may be skipped – in theory, both stage 2 and 3 might be skipped but only HMG seem to believe that this is a realistic prospect. There can be no certainty that stage 4 will ever be reached/can be reached by any particular date.

The UK would remain part of the single market during the TP (including any stage 2 extension). At the start of stage 3, the UK would switch from FS single market DRC to a third country relationship with the EU-27/EEA-3. At stage 4, the third country relationship may have some additional processes for discussion of planned changes to equivalence.

The PD envisages an overarching institutional framework, possibly in the form of an association agreement. The negotiating program is due to be worked out prior to exit (and prior to the approval of the PD) and parallel working streams are envisaged. The WA provides for the possibility of an early and separate agreement on foreign and security policy cooperation taking effect during the TP and for the stage 3 regime to be changed or replaced, in whole or in part, by subsequent agreement, before stage 3 is reached or during stage 3 (see article 127(2)). There is nothing to suggest that there would be a separate or early agreement on FS, so any bilateral agreement on consultation mechanisms in FS (as mentioned in the third paragraph above) would presumably form part of the LTR at stage 4 (but see below in relation to equivalence decisions).

2 more potential cliff-edges for services. FS firms currently face a cliff-edge if the UK exits on 29/3/19 without a deal. If the WA were to be ratified and took effect, this risk would be removed, but it would be replaced by the possibility of a cliff-edge/no-deal in services at 1/1/21, if the TP were not to be extended (the second cliff-edge). At that point, FS single market DRC would be turned off. The joint decision on the TP extension has to be taken by the end of June 2020, so there would be at least 6 months’ notice of the cliff-edge date. If the TP were to be extended, the risk of the FS cliff-edge at 31/12/20 would be removed but would be replaced by a cliff-edge at the expiry of the extended TP, which can be no later than 31/12/22 (the third cliff-edge). There would be a potential cliff-edge for UK firms even if stage 3 never takes effect and the LTR takes effect at the end of the TP, because under the LTR, the UK will be treated as a third country without bilateral/preferential access.

Cliff-edge 1 is a serious problem for UK firms but the adjustment for EU-27/EEA-3 firms is much easier. This is a deliberate negotiating tactic by the EU. The UK is providing EU-27/EEA-3 firms with broad transitional measures (TM) whilst the EU: (i) is not providing TM for UK firms and (ii) is only planning to make limited and temporary equivalence assessments under third country frameworks (see previous updates and our database). UK firms may need to complete no-deal restructuring well before exit, even though such restructuring may eventually prove to be unnecessary (because it is not required until the second/third cliff-edge or is not required at all because of subsequent EU equivalence decisions). EU-27/EEA-3 firms can rely upon UK transitional measures and can generally delay restructuring until after exit and only then proceed if exit occurs without a deal. Strangely, given the problems caused for UK firms by the lack of TM for the first cliff-edge, the WA contains no TM for the second or third cliff-edges. In the Chequers White Paper, HMG made reference to TM but it has not sought, or been able, to include them in the WA or even in the PD. The question of the impact of stage 3 in areas other than goods (such as FS) is considered briefly in the House of Commons library briefing paper (see page 103 of Document 1 below). The Committee quotes HMG’s explainer on the WA, which recognises the need for TM to be agreed for a smooth and orderly transition (assuming stage 3 is avoided). This does not however, address the question of TM for stage 3.

The PD does, however, state - ‘Noting that both Parties will have equivalence frameworks in place that allow them to declare a third country's regulatory and supervisory regimes equivalent for relevant purposes, the Parties should start assessing equivalence with respect to each other under these frameworks as soon as possible after the United Kingdom’s withdrawal from the Union, endeavouring to conclude these assessments before the end of June 2020.’ According to the WA/PD/HMG timetable (which omits stages 2 and 3), this would mean that assessments would have been completed and firms would know (6 months in advance) what equivalence based measures they could rely upon under the LTR. 6 months is longer than the current diminishing lead-time for 29/3/19 but many current activities based on single market DRC will not be able to continue under third country equivalence frameworks. One would therefore hope that the LTR would also include TM for both UK and EU/EEA firms.

It is not clear what would happen if the negotiation of the LTR was not running smoothly and perhaps there was a stand-off? Would the EU feel obliged under the PD text to deliver or maintain its equivalence decisions for stage 3 – or would they act ‘in their own interests’, as they are doing currently? Whatever the scope of EU equivalence decisions, the EU has given no commitment to TM and so might again seek to put negotiating pressure on the UK by refusing to provide TM for activities that fall outside the equivalence frameworks.

Table 1

The overall position is summarised in the table below:

Commentary on the Withdrawal Agreement and the Political Declaration:

HoC Library Briefing Paper: The UK’s EU Withdrawal Agreement (see Document 1)

This document gives a detailed overview of the different provisions of the WA.

HoC Library Briefing Paper: The Political Declaration on the Framework for Future EU-UK Relations

This document gives a detailed overview of the different provisions of the Political Declaration. The full document can be accessed here.

HoC Exiting the EU Committee Report: The progress of the UK’s negotiations on EU withdrawal – The Withdrawal Agreement and Political Declaration

This reports sets out what the WA means for the UK and what the next steps are. The full report can be accessed here.

HoL EU Select Committee: Brexit: Withdrawal Agreement and Political Declaration

This is the HoL report on the EU Withdrawal Agreement and the Political Declaration on future UK-EU relations. The full report can be accessed here.

European Commission: Fact Sheet on the Withdrawal Agreement

This document by the European Commission highlights the key sections and implications of the WA. The full document can be accessed here.

European Commission: Fact Sheet on the Withdrawal Agreement

This document by the European Commission highlights the key aspects of the NI Protocol. The full document can be accessed here.

Open Europe: Response to the draft Withdrawal Agreement

This publication mainly focuses on NI and the goods side in the political declaration. The full publication can be accessed here.

Open Europe: The Proposed UK-EU Brexit Deal: An explainer

This document provides a more detailed analysis of the WA than the above mentioned response. The full document can be accessed here.

Bingham Centre for the Rule of Law: Report on the Withdrawal Agreement

This document provides a detailed analysis of the legal implications of the Withdrawal Agreement on UK domestic law. The full publication can be accessed here.

Dr Tobias Lock: An analysis of the role of the ECJ in the Withdrawal Agreement

This article provides a review of the role of the ECJ in the Withdrawal Agreement. The full article can be accessed here

1. HoC Library briefing paper: The UK's EU Withdrawal Agreement

This briefing paper looks in detail at the Withdrawal Agreement negotiated between the EU and UK and finalised on 14 November. The full briefing paper can be accessed here.

Separation provisions: Goods placed on the market:

“Articles 40 – 46 with Annex II cover the specific situation of goods that are in the UK / EU market at the end of the transition period. They will generally be allowed to continue to move freely between the UK and the EU after the end of transition, with only limited additional requirements being placed on them – reducing possible costs and delays for these goods.

More precisely, it has been agreed that:

· Most goods that have been placed in the EU or UK markets before the end of transition may be made available in, and circulate between, both those markets until they reach their end users, and may be used (“put into service”) in either the EU or UK, even after transition ends.

[…]

Extension of the transition period

The Commission factsheet on the WA makes clear that a one-off extension can only be made by mutual agreement of the UK and EU, and would cover all the terms of transition outlined for the initial period. All other transition terms previously agreed would remain applicable, meaning full application of EU law to the UK including CJEU oversight.

While the UK would continue to be treated as a Member State regarding the applicability of EU law, Article 132(2) provides that in an extended transition period the UK would be considered as a third country for EU programmes and funding under the next budget plan (Multiannual Financial Framework 2021 – 2027). The UK could potentially participate in such programmes but would do so according to the EU’s rules for third countries.

[…]

The Northern Ireland Protocol

The arrangements in Article 6 have been described as a “swimming pool Brexit”, with Northern Ireland being more closely tied to the EU (and therefore in the deep end) with the rest of the UK less closely integrated (in the shallow end). As noted above, Article 6(2) provides that Northern Ireland will have to adhere to the EU’s Union Customs Code and certain EU regulations.

While the Explainer argues that Annex 5 includes only those rules “strictly necessary to avoid a hard border and protect North-South cooperation”, this is still a significant volume of legislation; the Annex runs to nearly 70 pages. A leader in the Economist said that the deal “would keep open the Irish border, but create a deeper regulatory divide between Northern Ireland and mainland Britain”. However, that regulatory divide will depend on the degree to which Great Britain decides to diverge from the regulations covering Northern Ireland.

[…]

As the UK must align its tariffs with the EU’s Common Customs Tariff and must also harmonise with the EU’s Common Commercial Policy, it seems clear that if the EU were to enter into new FTAs with third countries during the backstop, then these third countries would gain access to UK markets under the new terms, but the UK would not get automatic reciprocal access to that third country’s market. This is the situation Turkey finds itself in. The third country is ‘encouraged’ to sign its own agreement with Turkey, but often has little incentive when it already has access to Turkish markets through its FTA with the EU.

[…]

Article 7(2) requires the UK and EU to use their “best endeavours” to facilitate trade between Great Britain and Northern Ireland. This will be kept under review by the Joint Committee, the aim being to avoid controls at ports and airports in Northern Ireland. There will be no tariffs, quotas or rules of origin checks on trade between Great Britain and Northern Ireland. There will be some regulatory checks on British goods exported to Northern Ireland, as these are not subject to the same single market rules as Northern Ireland goods. These checks are necessary to allow frictionless trade across the Irish border.”

[…]

“The Government Explainer states that separation provisions set out in Articles 40-125 of the WA allow for “the application of the EU legal order in the UK [to be brought] to an orderly conclusion”. They also acknowledge:

This may require new substantive arrangements to be agreed and put in place between the UK and the EU to ensure a smooth and orderly transition from the implementation period to the future relationship.

Without these ‘bridging’ agreements in place, the UK would see a significant curtailment of access to the EU’s Internal Market for trade other than goods until it could conclude an agreement on the future relationship. Businesses and individuals would have to go through another type of transition period to implement the Protocol, and then adjust again when the future relationship came into force. This uncertainty could be a reason why extending the transition period may present an easier option for the UK compared to entering the Protocol. But extending the transition period would require EU agreement.

The EU could agree to ‘provisional application’ of the trade elements of the future relationship, where it has exclusive competence. But such an outcome is unlikely as it would require these elements to be finalised in sufficient detail. It would also be a significant concession by the EU, as it would remove a large part of its bargaining power while it was still concluding negotiations with the UK.”

2. Department for Exiting the European Union: Publication of Legal Advice

Following the Motion passed on 4 December in HoC, the Government has published the Attorney General’s legal advice to Cabinet on the Protocol on Ireland/Northern Ireland and made this available to Parliament. The full advice can be accessed here.

“Pursuant to Article 6.1, the UK as a whole (i.e. Great Britain (GB) and Northern Ireland (NI)) will form a single customs territory with the EU. This is a fiscal arrangement only. The arrangements as a whole apply differently in GB and Customs Union, and will apply the whole of the EU’s customs acquis, and the Commission and CJEU will continue to have jurisdiction over its compliance with those rules, which means goods can pass from NI to Ireland without any fiscal checks. GB is in a spate customs union with the EU creating a single customs territory between the EU and the UK, meaning NI and GB are not in separate customs territories. GB is required to align with the EU’s Common External Tariff for any goods coming into the country. GB goods will also be able to pass between the UK and EU tariff-free. Goods passing from GB to NI will be subject to a declaration process. Compliance with these requirements in GB will not be subject to the jurisdiction of the Commission or the CJEU.

Pursuant to Article 6.2, Northern Ireland will remain in the EU’s Single Market for Goods and the EU’s customs regime, and will be required to apply and to comply with the relevant rules and standards. These include over 300 different legal instruments, listed in Annex 2 of the Protocol. The Commission and CJEU will continue to have jurisdiction over NI’s fulfilment of its obligations under these rules. This will allow NI goods to enter into free circulation in the EU, allowing them to pass between NI and Ireland without any checks and, therefore any hard border. The implications of NI remaining in the EU Single Market for Goods, while GB is not, is that for regulatory purposes GB is essentially treated as a third country by NI for goods passing from GB to NI. This means regulatory checks would have to take place between NI and GB, normally at airports or ports, although the EU now accepts that many of these could be conducted away from the border”.

[…]

“…despite statements in the Protocol that it is not intended to be permanent, and the clear intention of the parties that it should be replaced by alternative, permanent arrangements, in international law the Protocol would endure indefinitely until a superseding agreement took its place, in whole or in part, as set out therein”.

3. CJEU: AG Opinion in Wightman and others v Secretary of State for Exiting the European Union

This is the Advocate-General’s (AG) opinion on the Article 50 case. He argued that the Court of Justice of the European Union should hold that the case is admissible and the court has jurisdiction and that Article 50 is unilaterally revocable. However, the opinion of the AG is not binding on the court. The press release can be accessed here.

4. House of Commons European Scrutiny Committee: 46th Report of Session 2017-19

Sections 12 and 13 of the report consider supervision of UK-based central counterparties in the light of Brexit and the regulation of covered bonds respectively and detail the latest ministerial responses to the Committee’s specific concerns. These matters are still under scrutiny by the Committee. The full briefing paper can be accessed here.

“Within the EU, the clearing obligation must normally be fulfilled by a CCP based in the European Union, which holds an automatic ‘passport’ to operate in any EEA country. Alternatively, the trade can be cleared by a non-EU CCP, if it is located in a ‘third country’ whose regulatory regime has been approved by the European Commission as equivalent to EMIR, and the individual CCP has been granted formal recognition by the EU regulator (the European Securities & Markets Authority or ESMA).

[…]

In June 2017, three months after the UK notified its intention to withdraw from the EU, the European Commission proposed amendments to EMIR that would — among other things — introduce a ‘location policy’ for CCPs. In a nutshell, the proposal means that ESMA could refuse or withdraw recognition from a third country CCP (which otherwise meets all the conditions for offering clearing services within the EU), if by virtue of the size of their operations they have, or could become, “systematically important” to the Union’s financial stability. In those cases, the Commission takes the view that such entities should be supervised within the framework of EU law. The logic of the ‘location policy’ is that loss of recognition would lead to a loss of market access for the CCP in question, thereby incentivising — or forcing — it to relocate its European business to an EEA country. In parallel, the European Central Bank (ECB) also asked for an amendment to its Statute that would give it a separate power to also require CCPs which clear substantial volumes of derivatives denominated in euro to relocate to a Eurozone country.

[…]

Negotiations on both CCP proposals have progressed steadily in the Council of Member States and the European Parliament since 2017. Separately, the UK and the EU in November 2018 agreed in the outline of the political declaration accompanying the UK’s Withdrawal Agreement that cross-border market access for financial services after Brexit will be based on ‘equivalence’ decisions. This effectively confirms that the access of UK-based CCPs to the EU’s clearing market after the post-Brexit transitional period will be governed by the equivalence and recognition regime under EMIR, including the proposed amendments relating to systemically important CCPs as and when they take effect. (In the event of a ‘no deal’ Brexit, the European Commission has said it will seek to declare the UK’s regulatory system for clearing services as ‘equivalent’ for a limited period of time, to avoid immediate disruption to market infrastructure on 29 March 2019.)

In light of the impact the EMIR equivalence and proposed location policy regime will have on British CCPs after Brexit, the UK Government has consistently opposed the Commission and ECB proposals. All three British-based CCPs will automatically become ‘third country’ entities under EMIR when the UK leaves the Single Market, and therefore potentially subject to pressure to relocate at least partially to the EU (given their outsized role in the clearing of euro-derivatives, it is not unlikely they will be seen by ESMA as ‘systemically important’). The Treasury has argued that the UK has a robust supervisory system in place for its CCPs, and that the proposal “risk[s] fragmenting global derivatives markets” and “increase the cost of trading and clearing”. Despite the UK’s opposition, both the European Parliament and a majority of EU Member States support the fundamentals of the proposed location policy for ‘third country’ CCPs. As such, it is likely it will become European law.”

5. HMT: Speech by John Glen

Text of John Glen's speech of 4 December follows. Topics include: Brexit and financial services. The full speech can be accessed here.

“In all my engagement on Brexit with the financial services sector, I have urged business leaders to have faith that we will negotiate a deal that works in their interests.

I am pleased to stand in front of you today to confirm that this is within reach.

We have successfully negotiated an agreement on the future relationship for financial services when we leave the EU.

The relationship will be of greater depth than any other the EU currently has with a third country in financial services.
This joint position respects both sides’ autonomy and reflects the full ambition of our proposal set out in the White Paper. It improves on the existing equivalence regime to allow for a continued close relationship, in recognition of the fact that the UK financial services hub is a European asset, as much as a British one. Crucially, the UK and EU intend to take decisions on granting equivalence at least 6 months before the end of the Implementation Period – giving the critical time and certainty to businesses. This acknowledges our unique starting point, and is unprecedented. The deal establishes a basis on which to review and improve equivalence as part of the future relationship negotiations, including in areas such as timeframes, information exchange and scope. The joint position also includes a commitment to establishing processes to ensure close cooperation on regulatory and supervisory matters and structured cooperation around the adoption, suspension and withdrawal of equivalence.”

6. AFME/FIA/ICMA/ISDA: CCPs and Brexit contingency planning

In this letter to the EC, the associations respond to recent statements regarding temporary equivalence for the purpose of recognition of UK CCPs by the EC and ESMA., This letter sets out certain areas of uncertainty. The full letter can be accessed here.

“In the absence of the further comfort, clarity and legal certainty that is sought in this letter, we remain concerned that UK CCPs may deem it necessary to issue termination notices to their EEA members later this month, to ensure that those UK CCPs will not be in breach of EMIR Article 25 (which prohibits CCPs that are neither authorised nor recognised from having EEA clearing members) on 30 March 2019 in the event of the UK leaving the EU without agreement on a transition period. Where UK based brokers have established EU domiciled affiliates, these affiliates are in the process of applying for clearing memberships of UK CCPs. If already approved, these memberships will be subject to any termination notices, and future applications would be rejected, preventing EEA based clients which currently clear via such a broker from continuing to do so.

EEA members of the signatory associations also need clarity and certainty regarding the same issues, in order to prudently execute their contingency plans. Abrupt cessation of access to UK CCPs has the potential to introduce widespread disruption for EEA markets.

We therefore respectfully but urgently request that the Commission provide the desired legal certainty by publishing its proposed temporary equivalence determination for the UK (together with any conditions) and, in turn, procure that ESMA confirms that the three UK CCPs are each recognised under EMIR, on the condition that the UK leaves the European Union at the end of 29 March 2019 (CET) without a transition period coming into effect at the point of leaving and that the proposed temporary regime is implemented.”

7. The Bank of England (Amendment) (EU Exit) Regulations 2018/1297

Amendments made through this SI ensure that the constitution, responsibilities and functions of BoE continue to be clearly defined after exit day in a no-deal scenario. The SI can be accessed here.

8. HMT: Collective Investment Schemes (Amendment etc.) (EU Exit) Regulations 2018

HMT has published an updated draft SI and explanatory information for the these Regulations. The draft SI can be accessed here and the explanatory notes here.

9. The Short Selling (Amendment) (EU Exit) Regulations 2018/1321

These Regulations are made in exercise of the powers in section 8 of the European Union (Withdrawal) Act 2018. The SI can be accessed here.

10. The Central Securities Depositories (Amendment) (EU Exit) Regulations 2018/1320

These Regulations are made in exercise of the powers in section 8 of the European Union (Withdrawal) Act 2018. The SI can be accessed here.

11. The Trade Repositories (Amendment and Transitional Provision) (EU Exit) Regulations 2018/1318

These Regulations amend EMIR in order to confer, on and after exit day, functions on the FCA in respect of the registration of trade repositories and amend certain requirements for the provision of information. The SI can be accessed here.


Other publications from the RegZone Brexit news feed

EC: Speech by Michel Barnier

Text of Michel Barnier's speech of 6 December follows (in French). The full speech can be accessed here.

House of Commons Library: Future trade with the EU: Mutual recognition

This paper examines the different ways in which the term 'mutual recognition' is used in the context of the UK's future relationship with the EU. The full paper can be accessed here.

HoC: Brexit questions in national and EU courts

This HoC library briefing paper looks at issues that have been the subject of legal action in UK and EU courts. The full paper can be accessed here.

BoE: Record of FPC meetings held on 20 and 27 November 2018

BoE has now published the record of the meetings. Topics under discussion included Brexit issues. Alongside the record, BoE has also published the Governor's response to the Chancellor's remit and recommendations letter. The record and the recommendations letter can be accessed here and here, respectively.

HoC: Brexit - implications for private pensions

This HoC briefing considers the potential implications of Brexit for EU pensions. The full document can be accessed here.

Department for Exiting the EU: Statement by Steve Barclay

Steve Barclay has given a statement to Parliament, closing the first day of debate on the Withdrawal Agreement. The full statement can be accessed here.

HoC Library: Brexit deal Economic analyses

This briefing paper assesses the short and long-term economic impact of Brexit on the UK economy. The full paper can be accessed here.

BoE: Agents’ survey on preparations for EU withdrawal and results from the Decision Maker Panel survey
The Bank’s Agents have conducted a survey of business contacts about their preparation for Brexit, to support the Bank’s analysis of the impact of EU withdrawal on the UK economy. The full publication can be accessed here.

HoC Library briefing paper: Brexit a reading list of post-EU Referendum publications by Parliament and the Devolved Assemblies

This reading list brings together briefings on Brexit by the Parliamentary libraries and the Devolved Assembly research services with reports by Parliamentary and Devolved Assembly committees following the result of the EU Referendum on 23 June 2016. The full briefing paper can be accessed here.

HMT: The government's guarantee for EU-funded programmes if there's no Brexit deal
The document sets out how UK organisations such as charities, businesses and universities who receive EU funding would be affected if the UK leaves the EU with ‘no deal’. The document can be accessed here.

DExEU: Exiting the European Union Publications

Collection of documents published to support understanding and assessment of the agreement we have reached with the EU. The full set of documents can be accessed here.

CMS RegZone publishes weekly updates (available via email, on-line and via Twitter) on Brexit developments for financial services firms. These provide analysis and commentary on significant developments during the week in question. A daily digest of Brexit news (without analysis or commentary) is also available by email here and online via the RZ news wizard here (both of these can be filtered using the Brexit topic). Links to publications are contained in each update; publications released before the updates commenced in April 2018 can be found in a bibliography here. CMS RegZone publication ‘Where we stand’ provides an overview of the current position in a single report; this is updated regularly to take account of the key developments from the weekly updates.