Bank­ing af­ter Brexit: Who will be the new Lon­don?

No sin­gle EU fi­nan­cial cen­tre will "re­place" Lon­don, be­cause sev­eral cities are suit­able for var­i­ous com­pa­nies mov­ing jobs and op­er­a­tions out of the United King­dom.

Financial Nigeria Magazine - - Contents - “Bank­ing Af­ter Brexit: Who Will Be the New Lon­don?” is re­pub­lished un­der con­tent con­fed­er­a­tion be­tween Fi­nan­cial Nige­ria and Strat­for.

The United King­dom's ap­proach­ing de­par­ture from the Euro­pean Union in March 2019 has raised con­cerns about how the split will af­fect Lon­don's bustling, heav­ily in­flu­en­tial fi­nan­cial sec­tor. The Bri­tish gov­ern­ment is cur­rently fo­cused on two ne­go­ti­a­tion top­ics: mak­ing sure that trade in goods re­mains un­af­fected by Brexit and en­sur­ing that the bor­der be­tween North­ern Ire­land and the Repub­lic of Ire­land re­mains open. The Euro­pean Union has of­fered the United King­dom a com­pre­hen­sive free trade agree­ment sim­i­lar to the one it re­cently signed with Canada. How­ever, both pro­pos­als fo­cus pri­mar­ily on goods, leav­ing com­pa­nies in all ser­vice sec­tors – and es­pe­cially the fi­nan­cial sec­tor – with open ques­tions about Brexit's im­pact.

The Big Pic­ture

The United King­dom's de­par­ture from the Euro­pean Union will have a di­rect im­pact on the Con­ti­nent's fi­nan­cial sec­tor, as com­pa­nies in both spa­ces adapt to the new real­ity. The re­sult will prob­a­bly be greater frag­men­ta­tion, be­cause Lon­don will con­tinue to be an im­por­tant fi­nan­cial hub while other cen­tres in Europe will grow stronger.

Lon­don is cur­rently Europe's fi­nan­cial cap­i­tal. But af­ter Brexit, many of the thou­sands of fi­nan­cial ser­vices com­pa­nies op­er­at­ing in the city will need to find new ways to con­tinue serv­ing their cus­tomers within the Euro­pean Union. Many of these com­pa­nies are al­ready in­tend­ing to partly re­lo­cate their op­er­a­tions to the Euro­pean main­land, spark­ing ques­tions about what will be­come of

Lon­don and what city might take its place of promi­nence in the fi­nan­cial in­dus­try. Lon­don has too much in­fra­struc­ture and knowhow to com­pletely lose its role as a fi­nan­cial cen­tre, but the busi­ness dis­per­sion that will come af­ter Brexit will pro­vide op­por­tu­ni­ties for other cities, cre­at­ing a Euro­pean fi­nan­cial sys­tem more scat­tered and frag­mented than it has been in decades.

Bye-Bye Pass­port­ing Rights

The ser­vices sec­tor ac­counts for roughly 80 per­cent of the Bri­tish econ­omy. More than 40 per­cent of Bri­tish ex­ports to the Euro­pean Union are ser­vices, and the coun­try has a trade sur­plus with the bloc in this area (It has a trade deficit in goods). The United King­dom's fi­nan­cial sec­tor is par­tic­u­larly im­por­tant, rep­re­sent­ing al­most 7 per­cent of the coun­try's gross do­mes­tic prod­uct and more than 3 per­cent of all jobs. About 40 per­cent of UK bank­ing and in­vest­ment ser­vices ex­ports go to the Euro­pean Union.

Com­pa­nies in the United King­dom's fi­nan­cial ser­vices sec­tor cur­rently have "pass­port­ing rights," which al­low them to sell their ser­vices – such as in­vest­ment bank­ing, as­set man­age­ment and in­sur­ance – in the EU sin­gle mar­ket with­out need­ing to ask for au­tho­riza­tion in each mem­ber state. The Bri­tish gov­ern­ment's de­ci­sion to leave the sin­gle mar­ket means that com­pa­nies in the coun­try will lose these rights and that the United King­dom will have to ne­go­ti­ate new agree­ments to pre­serve their ac­cess to the bloc. The Euro­pean Union al­ready has these kinds of agree­ments with coun­tries such as the United States, Ja­pan and Sin­ga­pore through a mech­a­nism known as "equiv­a­lence," ac­cord­ing to which Brus­sels grants mar­ket ac­cess to banks and in­sur­ers from coun­tries where the na­tional rules are in line with those of the Euro­pean Union. But equiv­a­lence ex­cludes some im­por­tant ac­tiv­i­ties, such as com­mer­cial loans. More im­por­tantly, equiv­a­lence agree­ments are pe­ri­od­i­cally re­viewed, which means that Brus­sels has the right to uni­lat­er­ally end them.

The United King­dom would pre­fer a per­ma­nent deal cov­er­ing the fi­nan­cial ser­vices sec­tor, so it doesn't have to worry about its equiv­a­lence rights po­ten­tially be­ing re­voked. But the Euro­pean Union is not in a rush to make con­ces­sions to Lon­don, and some coun­tries such as France and Ger­many are even mak­ing plans to at­tract the com­pa­nies and ac­tiv­i­ties that will leave the United King­dom. A no-deal Brexit would make a per­ma­nent agree­ment on fi­nan­cial ser­vices even less likely.

In the prob­a­ble case that the United King­dom loses its pass­port­ing rights, not all fi­nan­cial com­pa­nies would be af­fected the same way. Com­pa­nies with a do­mes­tic fo­cus would prob­a­bly not face any dra­matic changes in their sta­tus, but firms that use the United King­dom as a hub to ac­cess EU mar­kets would have to move some of their op­er­a­tions and staff to the main­land to con­tinue sell­ing their prod­ucts in the sin­gle mar­ket.

The Race to Re­place Lon­don

On Oct. 10, UK fi­nan­cial ser­vices min­is­ter John Glen said that about 5,000 fi­nan­cial ser­vices jobs will have moved to the main­land by March. For its part, the City of Lon­don Cor­po­ra­tion pre­dicted that about 12,000 UK fi­nan­cial sec­tor jobs could be lost to the main­land by early 2019.

In­deed, since the Brexit ref­er­en­dum, sev­eral com­pa­nies have al­ready an­nounced plans to move some of their staff from Lon­don. For ex­am­ple, HSBC said it would move about 1,000 jobs to Paris; USB said it would trans­fer a sim­i­lar num­ber of work­ers to Frank­furt; and Bar­clays said it would re­lo­cate about 150 jobs to Dublin. Other firms an­nounced a multi-city strat­egy; JPMor­gan said it would move staff to Dublin, Frank­furt and Lux­em­bourg, while Gold­man Sachs an­nounced that its EU-re­lated op­er­a­tions will be han­dled be­tween Frank­furt and Paris. In some cases, the de­ci­sions in­volved a trans­fer of ac­tiv­i­ties with­out a re­lo­ca­tion of staff. For ex­am­ple, Deutsche Bank said in July that it would move al­most half of its euro clear­ing busi­ness (an in­ter­me­di­a­tion ser­vice be­tween firms that trade fi­nan­cial in­stru­ments) to Frank­furt but said noth­ing about jobs.

These an­nounce­ments in­di­cate that com­pa­nies in the Bri­tish fi­nan­cial sec­tor are not leav­ing the United King­dom al­to­gether. More­over, the jobs and ac­tiv­i­ties leav­ing Lon­don are not all mov­ing to one sin­gle EU city, but to sev­eral lo­ca­tions, typ­i­cally based on where var­i­ous com­pa­nies al­ready have a sig­nif­i­cant pres­ence.

The Candidates

Frank­furt is one of the main con­tenders to at­tract fi­nan­cial sec­tor com­pa­nies re­lo­cat­ing from Lon­don, be­cause it is home to the Euro­pean Cen­tral Bank and the Bun­des­bank, as well as Deutsche Bank and Com­merzbank, two of the big­gest banks in Europe. Frank­furt is also at­trac­tive for com­pa­nies that want to keep close con­tact with EU reg­u­la­tors, be­cause it is home to the union's Sin­gle Su­per­vi­sory Mech­a­nism, the Euro­pean Sys­temic Risk Board and the Euro­pean In­sur­ance and Oc­cu­pa­tional Pen­sions Author­ity. More­over, Frank­furt's lo­ca­tion at the heart of Ger­many al­lows for­mi­da­ble land con­nec­tions with the rest of the Con­ti­nent, and it op­er­ates one of the busiest air­ports in Europe. How­ever, Ger­many also has strict labour laws and high taxes, and Frank­furt is a rel­a­tively small city that does not of­fer the same leisure and cul­tural op­tions that bankers and their fam­i­lies in Lon­don would be used to.

This marks a dras­tic dif­fer­ence with Paris, which pro­motes it­self as a city with in­com­pa­ra­ble cul­tural and en­ter­tain­ment op­tions for bankers and their fam­i­lies, on top of be­ing the cap­i­tal of the sec­ond­largest econ­omy in Europe and hav­ing a ro­bust fi­nan­cial sec­tor. In re­cent weeks, the French gov­ern­ment has an­nounced cor­po­rate and per­sonal tax in­cen­tives for banks re­lo­cat­ing from Lon­don and is plan­ning to open new in­ter­na­tional schools for bankers' chil­dren. But com­pa­nies are wor­ried about France's high tax rates, re­stric­tive labour laws, lim­ited use of English, fre­quent strikes, and a tra­di­tion of gov­ern­ments that are not par­tic­u­larly en­thu­si­as­tic about the bank­ing in­dus­try.

Dublin has also at­tracted some ac­tiv­i­ties leav­ing Lon­don in re­cent months. Its al­lure is based on its close cul­tural, le­gal and eco­nomic ties with the United King­dom and the United States, which would make the tran­si­tion easy for staff re­lo­cat­ing from Lon­don. Dublin of­fers low cor­po­rate taxes for for­eign com­pa­nies and a flex­i­ble labour mar­ket. How­ever, Ire­land's fi­nan­cial sec­tor is small and the city lacks the ex­per­tise and net­work­ing pos­si­bil­i­ties of­fered by larger cen­tres. Con­nected to this is the fact that Ire­land is far from the core coun­tries of the EU sin­gle mar­ket. A short­age of hous­ing and ris­ing rents are also press­ing is­sues in the city.

Am­s­ter­dam is tak­ing a dif­fer­ent ap­proach, as it is in­ter­ested in at­tract­ing spe­cific fi­nan­cial sec­tors such as clear­ing, fi­nan­cial

tech­nol­ogy and high-fre­quency trad­ing. The Nether­lands is a pow­er­house in the world of elec­tronic trad­ing, which is only go­ing to in­crease in im­por­tance over the com­ing decades. But the coun­try shares some of France's at­ti­tudes to­ward the world of high fi­nance. In 2015, the Nether­lands in­tro­duced a 20 per­cent cap on bank bonuses – a fifth of the cap set by the Euro­pean Union. The Dutch gov­ern­ment re­cently said this reg­u­la­tion could be­come more flex­i­ble, pos­si­bly in or­der to en­cour­age more UK banks to con­sider re­lo­ca­tion.

There are other con­tenders as well. Some com­pa­nies are mov­ing to the city of Lux­em­bourg, which of­fers favourable tax treat­ments for for­eign cor­po­ra­tions and is the main in­vest­ment fund cen­tre in Europe and the sec­ond largest in the world af­ter the United States. Italy's fi­nan­cial cap­i­tal, Mi­lan, is cur­rently try­ing to get a share of Lon­don's as­set man­age­ment in­dus­try, while Berlin has shown in­ter­est in at­tract­ing start-up com­pa­nies. Madrid, mean­while, has an­nounced re­newed in­ter­est in a project to build a new fi­nan­cial district with sev­eral sky­scrapers and hun­dreds of new of­fices.

A More Frag­mented Land­scape

A Brexit with­out a com­pre­hen­sive agree­ment on fi­nan­cial ser­vices would hit the United King­dom's econ­omy fairly hard. Com­pa­nies that move some of their ac­tiv­i­ties to the Euro­pean Union and scale down their UK op­er­a­tions will al­most cer­tainly re­duce the coun­try's eco­nomic ac­tiv­ity. In a re­cent re­port, pro­fes­sional ser­vices com­pany Price­wa­ter­house­Coop­ers es­ti­mated a gross value-added im­pact of -1.3 per­cent (some $30 bil­lion) per year in the United King­dom un­til 2030. At the same time, it will be harder for the United King­dom's fi­nan­cial sec­tor to at­tract skilled labour from the Euro­pean Union be­cause work­ers from the bloc will prob­a­bly need a visa.

Al­though it will take a hit, Lon­don will still re­main an im­por­tant fi­nan­cial cen­tre, be­cause of its con­nec­tions to the rest of the non-Euro­pean world and the con­cen­tra­tion of ex­per­tise. For ac­tiv­i­ties like in­sur­ance and pen­sions, for ex­am­ple, most UK ex­ports go to non-EU coun­tries such as the United States. Leav­ing the Euro­pean Union will also give Bri­tain the chance to re­duce reg­u­la­tions and lower taxes to at­tract busi­nesses.

For com­pa­nies in the UK fi­nan­cial sec­tor, Brexit will lead to higher costs, at least in the short term, be­cause they will have to spend money to re­lo­cate their work­ers and op­er­a­tions. The branches of non-UK banks op­er­at­ing in the United King­dom will prob­a­bly have to un­dergo the costly process of be­com­ing sub­sidiaries (sep­a­rate le­gal en­ti­ties from a par­ent com­pany). Firms could also face a du­pli­ca­tion in their cor­po­rate costs be­cause of the sep­a­ra­tion of their EU- and non-EU op­er­a­tions.

Over on the main­land, cities such as Paris, Frank­furt, Dublin and Am­s­ter­dam could see an in­crease in eco­nomic ac­tiv­ity caused by com­pany re­lo­ca­tions. But Europe's fi­nan­cial sec­tor would also be­come more frag­mented, since Lon­don would not be "re­placed" by a sin­gle EU city but by mul­ti­ple com­pet­ing hubs. This dis­per­sion will come with a loss of ef­fi­ciency; af­ter all, there are ben­e­fits to the ag­glom­er­a­tion of fi­nan­cial ser­vices ac­tiv­i­ties in a sin­gle hub such as Lon­don, a city that of­fers a dis­tinct com­bi­na­tion of ser­vices, sup­ply chains, in­fra­struc­ture and skilled labour, which the Euro­pean Union will strug­gle to repli­cate.

The prospect of a Balka­niza­tion of the Euro­pean fi­nan­cial sec­tor will lead to re­newed calls by EU in­sti­tu­tions to move ahead with the Cap­i­tal Mar­kets Union (CMU), a plan to deepen the in­te­gra­tion of fi­nan­cial mar­kets in the bloc. The goals of the CMU are to give EU com­pa­nies and house­holds more choices of fund­ing at lower costs and to im­prove cross-bor­der in­vest­ment. But im­ple­ment­ing a CMU re­quires a de­gree of le­gal and fis­cal har­mo­niza­tion that the Euro­pean Union has so far proved un­able to achieve. (This is partly be­cause CMU ini­tia­tives touch on is­sues that are del­i­cate for mem­ber states, such as pen­sion funds and busi­ness in­sol­vency leg­is­la­tion.) In Au­gust, the EU Com­mis­sion ad­mit­ted that it may not achieve its goal of com­plet­ing the CMU by late 2019.

In the com­ing months, EU gov­ern­ments will have to de­cide whether to co­op­er­ate to re­duce the in­ef­fi­cien­cies cre­ated by Brexit or, more likely, to con­tinue com­pet­ing for the spoils of Lon­don's in­evitable de­mo­tion as a fi­nan­cial hub. For com­pa­nies and house­holds across the Euro­pean Union, this means adapt­ing to a new real­ity where fi­nan­cial ser­vices are more frag­mented, ef­fi­ciency is re­duced and costs are higher.

A view of Lon­don fi­nan­cial cen­tre

UK Prime Min­is­ter Theresa May

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