The City of London is facing another blow to its post-Brexit dominance after the EU moved to require businesses to settle more transactions reducing financial risk within the bloc.
The plan focuses on transactions in securities called derivatives and on financial market clearing houses, the intermediaries that enable the transfer of funds to sellers and financial products to buyers. Handling trillions of transactions each year, they are considered an essential part of the financial market plumbing that reduces risk.
Since Britain voted to leave the EU in 2016, the subject has become a battleground, as Brussels seeks to end what it sees as an overreliance of European businesses on London for derivatives transactions denominated in euros.
At the end of 2020, the London Stock Exchange’s LCH clearing house managed more than 90% of interest rate derivatives, denominated in euros. These interest rate swaps are widely used by companies to hedge against unexpected changes in borrowing costs.
Under draft proposals published by the European Commission on Wednesday, financial firms will be required to clear a yet to be determined proportion of “systemic” derivatives through active accounts in EU clearinghouses. The minimum requirement will be set by the EU regulator, the European Securities and Markets Authority, one year after the law is passed.
An EU official said the legislation meant it was “less likely” the commission would extend a temporary deal allowing London clearinghouses to continue serving clients across the bloc. An ‘equivalence’ decision allowing UK clearing houses to continue pre-Brexit trading expires on June 30, 2025, one of several temporary solutions agreed after Britain left the EU.
The official stressed that the decision would be taken by the political leadership of the next commission, which will take office in 2024.
The plans emerged when the boss of Europe’s biggest exchange group said London’s position had slipped due to Brexit. “London was once the largest financial center in the European Union and everyone liked it,” said Stéphane Boujnah, the chief executive of Euronext, a pan-European organization in competition with London groups.
“Today London is the UK’s largest financial centre,” he told Bloomberg Television,
Companies choosing to list outside the UK were becoming the ‘new normal’, he said, citing Ryanair’s decision to leave the London Stock Exchange for a single listing in Dublin and the choice of ‘Amsterdam by Universal Music Group.
Nevertheless, despite repeated calls from Brussels to reduce its dependence on the UK, European banks and financial firms continue to use London clearinghouses. In a report published last December, European regulator ESMA concluded that three UK clearing houses were of “substantial systemic importance” to the EU and could pose risks to financial stability.
An EU official said the commission had “no specific problem” with UK regulations, but the bloc was too dependent on external suppliers. “What we have learned from recent experience, with the pandemic and the effects of war [in Ukraine]it’s that supply chains, as robust as they may appear from the outside, are vulnerable.
The manager added: “That doesn’t mean we don’t trust people. [or that] we don’t trust [British] regulation. It’s just to say that if something goes wrong, we’ll be vulnerable.
The plans are part of EU efforts to forge a “capital markets union”, an attempt to make Europe’s fragmented financial centers more attractive to international investors. The committee also wants to harmonize business insolvency rules and make it easier for small businesses to go public.
European banks have warned that the compensation plans could backfire, saying they could shift operations to the United States.
The proposals must now be approved by EU finance ministers and the European Parliament before becoming law.
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