As Regulatory Fog Thickens, Pre-Brexit Angst Takes Toll

City of London Just Lost a $240-Billion-a-day Financial Market.

By Don Quijones, Spain, UK, & Mexico, editor at WOLF STREET.

The City of London was just dealt its biggest Brexit-related blow following an announcement by American financial markets operator CME Group that it is shifting its European market for short-term financing, the largest in the EU, out of London to Amsterdam. Worried about the dense fog of regulatory uncertainty hanging over London’s future, the firm wants to ensure that its continental clients can continue using its services even in the event of a no-deal Brexit in March.

The decision was apparently taken before CME’s acquisition of BrokerTec — as the company is known — from NEX Group PLC was given the green light by UK market regulators last week. It is the first case of a major financial market leaving the UK over Brexit fears. Although all large London-based trading venues have set up a regulated entity in the EU in preparation for Brexit, BrokerTec is the first to move an existing market lock, stock, and barrel to a continental European city.

“All of our euro-denominated bonds and repo will move to Amsterdam,” John Edwards, managing director of BrokerTec Europe, said in an interview. “We saw no benefit in splitting liquidity pools. Our U.K. business will not be able to provide services to the European clients.”

On average, €210 billion of European short-term financing instruments were traded per day on BrokerTec in October, Edwards said. But that market will now be moved to CME’s Dutch subsidiary, NEX Amsterdam BV, so that BrokerTec can eradicate the risk of its EU-based clients being cut off from Europe’s repo market if Britain severs its ties with Brussels in four and a half months’ time.

“Nobody knows what the European landscape is going to look like in five months’ time, let alone three years’ time,” Edwards said. The longer the uncertainty surrounding Brexit drags on, the greater the likelihood that banks and other financial firms will activate plan-B contingency plans, which in many cases will involve moving a large chunk of their UK-based operations across the Channel.

The flow of international funds into the City is also slowing. According to a report by Ernst&Young, overseas investment in British financial-services firms shrank by a quarter in 2017. During the same period, Germany saw a 64% increase, while investment into France’s financial services sector more than doubled.

For the City of London, the biggest fear is losing its hold over the global clearings business. If the UK crashes out of the EU without any deal on future trading arrangements, LCH, the world’s biggest clearing house, could struggle to clear “ANY derivative contracts (not just euro-denominated contracts) by EU-domiciled entities,” UBS analysts recently warned.

Germany’s two main financial regulators, the Federal Financial Supervisory Authority, or BaFin, and the Bundesbank, have also expressed concerns. Bundesbank board member Burkhard Balz recently described the uncertainty surrounding the future of euro clearing as “extremely unsatisfactory,” while BaFin’s president, Felix Hufeld, called for “a solution on a political level” aimed at building a legislative or regulatory structure to prevent disruption.

For the moment there’s little sign of that happening. In recent weeks the European Commission’s efforts to build a post-Brexit financial market regulatory infrastructure have hit two walls of resistance, one erected by global banking lobbies, the other by financial regulators in the U.S.

As the Brexit doomsday clock ticks down, senior investment banking lobbyists have begun turning the screws on European governments and regulators, warning that City firms will accelerate their plans for a crash-out Brexit if the EU does not provide cast-iron guarantees by December 1 that vital aspects of cross-border financial activity will continue in the event of a no deal.

Of course, those firms would much rather keep things just as they are. To that end, “all the banks” are lobbying local regulators “all the time” now, as a lobbyist at a US bank in London told the weekly publication Financial News. “Obviously we want an EU-wide solution but failing that we’d probably have to settle for something country by country,” the lobbyist said.

Citigroup, Goldman Sachs, JPMorgan, HSBC, BNY Mellon are among the long line of banks to have visited Bafin in recent months to discuss the issue. In an October 2018 paper the International Swaps and Derivatives Association (ISDA), the lobby group for the OTC derivatives market, exhorted national regulators to take steps to mitigate the crash-out risks.

UK lawmakers have repeatedly promised to pass laws to enable European companies to continue servicing contracts with UK businesses after Brexit. So far, EU authorities have not reciprocated.

But the pressure on Brussels is mounting. In October, the US Commodity Futures Trading Commission (CFTC) waded into the mix, warning Brussels that if it plows ahead with plans to amend European Market Infrastructure Regulation and impose new “costly, overly burdensome” regulations on U.S. clearing houses operating on EU soil, it would retaliate in kind.

“If a satisfactory resolution of this situation cannot be found, the CFTC will have no choice but to consider a range of readily available steps to protect US markets,” said CTFC Chairman Christopher Giancarlo. If push came to shove, the US regulator could even bar European banks from accessing US futures markets, Giancarlo warned.

The constant lobbying and threats appear to be working. In the last week, the European Commission vice-president in charge of financial services Valdis Dombrovskis said that EU companies will be able to continue to access UK derivatives clearing houses in the event of a no-deal Brexit, albeit only on a temporary basis. In other words, the fog of uncertainty hanging over the City of London will last even longer. And that may not be enough to deter other large financial firms from upping sticks. By Don Quijones.

Central London real estate is already paying the price, even as new high-end towers will continue to flood the market. Read…  “Posh Ghost Towers”: Gloom Spreads Over London Housing Market as High End Freezes Up  
 

Would you like to be notified via email when WOLF STREET publishes a new article? Sign up here.

 

  22 comments for “As Regulatory Fog Thickens, Pre-Brexit Angst Takes Toll

  1. Unamused
    Nov 8, 2018 at 3:16 pm

    These capitalists generally act harmoniously and in concert to fleece the people, and now that they have got into a quarrel with themselves, we are called upon to appropriate the people’s money to settle the quarrel.

    – Abraham Lincoln

    The cost of purchasing a country’s freedom from the EU is apparently prohibitive.

    • max
      Nov 8, 2018 at 5:58 pm

      As soon as he entered the Illinois legislature he led his local delegation in a successful Whig Party effort to appropriate some $12 million in taxpayer subsidies for railroad and canal-building corporations.
      The $12 million was squandered: Almost no projects were completed with it; much of the money was stolen; and the taxpayers of Illinois were put deep into debt for years to come.
      The 1837 internal improvements debacle in Illinois may have been a disaster for the public, but it helped catapult a young Abraham Lincoln into position as one of the top — if not the top — lawyer/lobbyists in the country for the railroad corporations.
      “Mr. Lincoln was continuously one of the attorneys for the Illinois Central Railroad Company from its organization [in 1849] until he was elected President” (Starr, p. 58). He was called on by the company’s general counsel to litigate dozens of cases. He was such a railroad industry “insider” that he often rode in private cars and carried a free railroad pass, courtesy of the Illinois Central.

      https://www.lewrockwell.com/2003/10/thomas-dilorenzo/the-republican-moneyed-elite/

      • Unamused
        Nov 8, 2018 at 9:58 pm

        Which in no way detracts from the verity of the above Lincoln quote. Or many others. Lincoln was no fan of corporatism, and said so.

        Still, there are much worse things you could say about Lincoln, who caved to NY investors in 1860. They wanted to preserve their profitable portfolios in Southern commerce, even to financing the KKK after the war to make sure the cotton got picked. And yet, Lincoln historians are convinced his heart was in the right place when it came to the laboring classes. Even the finest idealist, regardless of motivational purity, often has to make a living by temporizing with the devils.

        But not all of us.

    • Nov 8, 2018 at 7:25 pm

      If you don’t have access to the derivatives market that pretty much limits the scale of financial businesses you can domicle.

  2. Howard Fritz
    Nov 8, 2018 at 6:23 pm

    Honestly, I’m stumped I can’t really even guess what the outcome of a Brexit will be lets hope for the best.

    • Unamused
      Nov 8, 2018 at 10:07 pm

      Depends on what lousy terms Britain can get with the EU. The political divisions are serious because all the alternatives are bad, including the possibility of reversing the Brexit.

      Ireland, the richest country in the world, might have to bail them out.

      • Unamused
        Nov 8, 2018 at 10:08 pm

        No, seriously. Their capital is always Dublin.

  3. Martin
    Nov 8, 2018 at 8:54 pm

    Isn’t the city of london a seperate state? Not in either the EU or UK.

    • Steve clayton
      Nov 9, 2018 at 3:15 am

      Hi Martin, you’re completely right ref the City of London being a separate state. The only time it becomes part of a country is when it has a financial crisis.

  4. MooMoo7665
    Nov 9, 2018 at 3:17 am

    “For the City of London, the biggest fear is losing its hold over the global clearings business. If the UK crashes out of the EU without any deal on future trading arrangements, LCH, the world’s biggest clearing house, could struggle to clear “ANY derivative contracts (not just euro-denominated contracts) by EU-domiciled entities,” UBS analysts recently warned.”

    This is absolute nonsense.

    Try (from the FT):

    “Brussels has sought to quell banker jitters over post-Brexit access to London’s capital markets by reassuring European traders they will temporarily be able to use crucial UK derivatives clearing services even if Britain crashes out of the EU without an exit deal.”

    The reality is that NO EU country (or non-EU country for that matter, i.e. – not even the USA) is configured to handle the sheer volume of clearing that goes through London. To build that infrastructure would take a decade or two to even crank up to capacity.

    That is why the Brussels threat is hollow…. and Euro financial clearing is about 18% of world clearing and falling. With China and India rising fast (and using London) and the US markets receiving huge capital inflows… that number will only decrease in time. Pulling out an EU-based threat is hollow. The EU doesn’t really matter much anymore…and will continually matter less in the future.

  5. Nov 9, 2018 at 6:25 am

    MooMoo7665,

    You cite an article from the Financial Times that confirms exactly what I wrote in the final paragraph. The Commission did indeed blink, in part due to the extensive and intensive lobbying it received, in particular from the German government, but also presumably because it realised that it doesn’t have time to put everything in place to ensure the markets do not suffer a loss of liquidity in the event of a no-deal Brexit.

    Clearly, trying to move trillions of dollars (notional value) of derivatives and insurance contracts to a new jurisdiction with a different legal tradition is a massively messy business, with no clear precedence to fall back on. Hence, the one year extension. It probably won’t be enough.

    Nonetheless, the mere fact that the City of London Corporation and many of the financial firms it hosts have felt compelled to lobby furiously and frenetically over the last year a half in order to secure this partial, temporary victory is confirmation of what I wrote: “For the City of London, the biggest fear is losing its hold over the global clearings business.”

    No one spends millions of pounds and lord knows how many man hours lobbying to prevent a particular outcome from happening unless they genuinely fear it. Of course, that doesn’t mean that Brussels and Frankfurt are guaranteed to succeed in seizing the euro clearing business from London, at least without sparking financial mayhem in the process. But the mere fact that they still covet it, as they have for many years, for understandable reasons, is an obvious cause of concern for the City, as is the prolonged climate of legal and financial uncertainty it engenders.

    • MooMoo7665
      Nov 9, 2018 at 7:26 am

      The issue is not uncertainty. (The legal industry wastes hundreds of millions a year in essentially non-productive work, especially when government and legislative aspects are the remit). The issue is actual ability to handle the clearing.

      The Commission didn’t ‘blink’ because of lobbying, and the City of London Corp did little but make a Commission who is deaf dumb and blind wake up. Trying to make the Commission see reality is the ‘lobbying effort.’ The point remains: You couldn’t move clearing from London even if you wanted to. The City if London isn’t scared at all… and with each passing day the fear of clearing moving to Paris/Frankfurt not only recedes… it becomes of little importance.

      The main problem with Europe is their inability to see that capital is abandoning the place… flowing to the USA and India/China. Quite frankly, what the EU does/wants/cares about doesn’t much matter to the City of London anymore. Euro-clearing…pfff… peanut market.

      {Remember, the flagship project of “The Commission” is the Euro… that “let’s have a single currency and 27 different national debts, while we try and dictate budgets” nonsense which is going to bring the EU to a smoldering heap quite soon. “The Commission” is the political force behind the ‘let’s buy every government bond at a 1,000-year low ad infinitum because no one else will’ policy which will cause a sovereign debt crisis (now emerging in Italy) and cause the EU to sink.}

    • MooMoo7665
      Nov 9, 2018 at 7:28 am

      “No one spends millions of pounds and lord knows how many man hours lobbying to prevent a particular outcome from happening unless they genuinely fear it.”

      …try the Department of Defense with that one.

    • Nov 9, 2018 at 1:53 pm

      “No one spends millions of pounds and lord knows how many man hours…”

      That’s my main thought while reading this. The time/energy/money poured into this effort… WOW! One could build a castle on mars with it all! But I still have little understanding of the Game of Thrones motivations being played out. Can you recommend any good sources of infopinion on the matter?

      • MooMoo7665
        Nov 10, 2018 at 3:05 am

        … the ‘effort’ justifies the budget. You need know no more.

  6. greg holmes
    Nov 9, 2018 at 8:00 am

    Please remember that the City of London is NOT part of the UK, and also NOT part of the EU. The Brexit was brought about by a desire to be a Democracy, not part of some EU technochratic politburo. Our Queen has to ask for permission to enter the City of London. Elections in the City of London? Companies i.e banks are allowed to vote, 1 vote per XXX employees, PS the employees do not Vote.

    • MooMoo7665
      Nov 9, 2018 at 11:03 am

      “The Brexit was brought about by a desire to be a Democracy, not part of some EU technochratic politburo.”

      … how very true.

  7. kk
    Nov 9, 2018 at 12:54 pm

    If you all know so much why aren’t you rich?

    • Nov 9, 2018 at 1:46 pm

      You think it’s KNOWLEDGE that makes one rich? It pains me to shatter the dreams of an innocent, but I have some very sad news for you…

    • MooMoo7665
      Nov 10, 2018 at 3:01 am

      How do you know who is and isn’t rich on this thread?

      you merely assume

  8. Tom
    Nov 10, 2018 at 6:23 am

    I call this German fourth Reich : another disaster shedding fiat instead of blood this time.

    • MooMoo7665
      Nov 10, 2018 at 10:17 am

      …you won’t comprehend that, until you understand the French role in it all.

      Ultimately, the French, protectionist (CAP) and arms industry oriented economy will clash with Germany.

      (whew, there’s a new tune).

      Nothing changes…. except the actors in their respective roles.

Leave a Reply

Your email address will not be published. Required fields are marked *