The June 2016 public referendum by the UK electorate to leave the European Union has dramatically affected London’s status as a banking and financial services hub. Previously, international banks operating out of London and doing business in the EU benefitted from the UK’s member status in the union. Now, with the UK’s pending exit, all that has changed, bringing new licensing requirements for banks whose EU operations are based in the UK.
This is all highly relevant because according to estimates of the Bank of England, half of all EU debt and equity is issued by financial institutions from, or based in, Britain. Brexit, set to occur officially in March 2019, could potentially lead to the loss of the EU market for many of these banking institutions, causing a new financial crisis in which central banks would be compelled to inject the necessary capital into financial institutions in order to stabilize financial markets.
It’s now decision time for these banks.
Approximately 40 international banks—mostly from the U.S., UK, Asia, and the Middle East— conduct their EU business through offices in London. To continue these operations in the EU post-Brexit, they will be required to apply for a new license with both the European Central Bank (ECB) as well as the local country regulator where they will be situating their new subsidiary.
While this application can take up to one year to be processed and approved, less than one quarter of these banks have submitted their applications. This delaying tactic is seen by observers as a strategic move by banks to avoid the departure of their top-level management. But the consequences of this delay could overwhelm the capacity of the ECB if applications are submitted at the same time, causing delays in transitioning the banks’ operations in a timely fashion.
Setting up a new operations office or subsidiary could take up to two years for certain financial institutions and permissions from national regulators and ECB supervisors requires a thorough business plan and management team. The Bank of England anticipates that negotiations between the EU and the UK known as the “banking transition deal” will be agreed to by December 25th in order to ensure a smooth transition of operations.
In addition to complying with EU rules, UK based banks will need to either move their operations entirely to an EU member state, or set up subsidiaries at new locations within the EU, the most attractive of which have proven to be Frankfurt, Amsterdam, and Dublin. Wall Street banks such as Goldman Sachs, Morgan Stanley, Citi Bank, and JP Morgan have already chosen Frankfurt as their future EU banking hub. According to a recent study, it is predicted that Frankfurt will add over 10,000 new bankers, creating tens of thousands of additional jobs over the next four years.
Still, even post-Brexit, London’s strength as a financial services hub has not entirely dissipated. Over 130 international banks recently expressed interest in applying for new UK licenses according to the Bank of England. However, converting their operations into UK subsidiaries could be expensive for some EU banks as it requires building up local capital and resources, rather than relying on a parent company.
While there remains significant uncertainty surrounding the specific "type" of Brexit scenario that will eventually occur, players in the international financial services sector must soon decide how best to structure and locate their operations if they want continued access to the EU and UK markets.
Stay tuned for more on the different types of Brexit scenarios.