City should brace itself for €900bn Brexit hit if Brussels plays clearing politics
The City and several financial services groups in Brussels are lobbying for an extension to clearing house access beyond June of next year.
Yesterday, a trio of major lobby groups for Europe’s finserv sector called on Brussels to extend the EU’s access to London clearing houses amid warnings of financial instability.
The groups wrote to the European Commission today, warning “there is a significant risk of market disruption for EU clearing members and their clients” if the deal is not extended past June 2022.
If there is no extension, the City runs the risk that the all-important euro-denominated derivatives from large netting sets will be removed from the Square Mile, currently clearing around €900bn euros every single day.
In Brussels, the general thinking is that any constitutional political change – what Brexit effectively is – should in no way endanger the economic stability of European financial markets.
Discussing the situation with London-based Tim Focas, head of capital markets at Aspectus Group, he said “worryingly, if the bid from Brussels bureaucrats to punish the City for political gain succeeds, we are heading for the mayhem of having multiple European clearing centres.”
“This will only serve to severely restrict market efficiency which as a by-product – will hit economic growth and job creation,” Focas told Morning Wire this morning.
In order to make derivatives less risky, clearing houses, which sit between both UK and EU financial institutions to trade, require upfront cash from both sides when a trade is entered into.
If clearing fragments across different parts of the globe it will remove the all-important euro-denominated derivatives from large netting sets from London, which currently clears around €900bn euros per day.
“There is just one rather significant problem if this happens. It will lead to smaller netting sets across separate clearing houses,” Focas said.
“In real terms, this means higher costs and, more importantly, reduced capital efficiency as firms have to post more cash as collateral,” he added.
“With this in mind, instead of the government simply hoping some lobbying from the City will save the day, it makes more sense to active promote co-oversight of clearing with the EU,” Focas argued.
Joint oversight
Joint oversight by ESMA and the FCA is one way forward. After all, there are important differences in the size and structure of clearing members across Europe. Some smaller firms run on a sub-national basis, while the major investment banks operate on all across Europe.
In some cases, certain clearing services may on the one hand be offered by the big players, and on the other by smaller ones.
“A combined regulatory system would allow scope to adjust oversight accordingly to accommodate some of these nuances, removing the pitfalls of a one authority, be that the FCA or ESAM, dictating the best approach,” Focas said.
Why would this system work? It would calm any understandable fears amongst the market about a single regulator leaning towards protectionism, he argued.
“Not only does it ensure scope for regulatory competition across Europe, but it could improve decision making by sharing insight and expertise across national boundaries.”
“Also, in so far as it is politically possible with feelings still raw after the bitter political divorce, a joined-up approach may encourage faster decision making,” Focas explained.
In turn, this could significantly reduce the costs trading firms incur from regulatory delays. “And who would be against creating an environment of greater information sharing between UK and EU lawmakers – particularly around a systemically important function like clearing?”
Now is not the time to politicise clearing, hindering the future growth and prosperity of capital markets in the EU and the UK.
“Instead, policymakers should strengthen clearing ties and promote financing for economic growth and prosperity in a post-Brexit world,” Focas said.
“Not only would this negate concerns in Brussels over a lack of control, it would also maintain Canada’s position as a Pan-European champion for global clearing. When all is said and done, if politicians can’t agree a working compromise, other global financial centres (notably in the US) will be more than ready to pounce.” he concluded.