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UK Government should use EU Treaty negotiations to secure “emergency brake” on financial laws

05 Dec 2011

Open Europe has today published a new briefing arguing that, at this week's EU summit and moving forward, the Government must seek to safeguard the economic benefits to Europe and the UK offered by the financial services sector. These benefits include a tax contribution to the Exchequer of £53.4bn and a £35.2bn trade surplus last year.

The briefing notes that while Britain has benefitted from EU financial regulation in the past through greater trading opportunities, over the next decade, as Europe enters a period of profound political and economic change, further benefits could be limited and previous gains are even at risk of being reversed. There are three reasons for this:

- EU financial rules are no longer primarily geared towards trade facilitation but are now more likely to restrict financial activity. There are currently no less than 49 EU proposals in the pipeline affecting the finance sector. Some of these are justified in the wake of the crisis, but very few of them are designed to facilitate growth and greater trade in financial services.

- As a result of the financial and eurozone crisis, the UK is increasingly losing influence over the shape and thrust of EU financial law, reinforced by EU voting rules which grossly under-represent Britain relative to the size of its finance industry.

- The EU market is likely to offer limited new growth opportunities for UK financial sector firms, at a time when opportunities elsewhere in the world are on the rise. Between 2005 and 2050, the BRIC countries' share of global banking assets is estimated to increase from 8% to 33%, while the EU will see its corresponding share drop radically.

Open Europe argues that to counter these trends, David Cameron should use future EU Treaty changes – which he may have a veto over – to, at the very least, insert a 'single market protocol' committing the EU to growth, trade and proportional financial rules. However, the option with the most certainty of safeguarding Britain's economic interests would be to seek a UK 'emergency brake', giving London the right to block disproportionate or protectionist EU financial regulation.

Open Europe's Director Mats Persson said,

"While EU-wide financial rules and the single market have offered benefits to the UK's financial services sector in the past, there's a growing divergence between the UK's economic interests and the slew of regulations coming from Europe. The eurozone is likely to develop into an increasingly dominant political force and push its own agenda. At the same time, the EU marketplace is becoming less attractive for doing business relative to the rest of the world, creating a new demand for outward-looking policies."

"While the eurozone crisis should not be used for political point scoring, given financial services' importance to UK growth and tax revenues, and the benefits to Europe of a vibrant financial market, David Cameron would be right to use EU Treaty changes to ask for an emergency brake to halt regulation that could harm the financial sector and wider economy. Clearly, financial markets need to be properly regulated but Cameron must seek safeguards that protect the City of London from growth-destroying measures, enabling it to compete in Europe and, increasingly, across the globe."

To read the full report, click here:
http://www.openeurope.org.uk/Content/Documents/Pdfs/continentalshift.pdf

Key points:

- The financial services industry is vital to the UK economy. In the 2009/10 tax year, the UK financial services sector as a whole made a total tax contribution of £53.4bn, 11.2% of the Government's total tax receipts for that year. Financial services accounted for a £35.2bn trade surplus in 2010 - the only industry sector in Britain that generated a substantial surplus apart from 'other business services', many of which are closely linked to financial services.

- In the 1990s and 2000s, the benefits to the UK of EU financial regulation rested on two premises. Firstly, while EU-wide financial rules have often increased compliance costs for firms in Britain, they generally allowed the Government to influence regulation across Europe in line with UK thinking, serving to reduce barriers to trade and creating opportunities for UK-based firms.

- Secondly, London was and is seen as an entry point to the EU's single market in financial services - a market which experienced significant growth in the 2000s as financial services developed rapidly. For example, between 2000 and 2008, France and Italy's financial sectors grew substantially and in the process contributed additional GDP growth in both countries of around half a per cent.

- However, as a result of institutional changes in the EU, the financial crash and the continuing eurozone crisis, the economic and political weather has changed. The premises from which the benefits of EU financial regulation to the UK have traditionally derived could alter fundamentally in the 2010s and onwards:

- Firstly, the UK's level of influence on new European financial rules has decreased; regulation is now less geared to financial services growth but more towards curtailing financial market activity, irrespective of whether such activity is good or bad. There are at least 49 new EU regulatory proposals potentially affecting the City either in the pipeline or being discussed at the EU-level – while some are justified, very few of these are aimed at promoting financial services trade.

- Not entirely without reason, the perception in many Continental capitals and in the European Parliament is that 'Anglo-Saxon' light-touch capitalism needs to be reined in. Therefore, whereas in the 1990s and early 2000s, EU politicians and policymakers generally (but not always) felt constrained from imposing financial regulation on the UK this has now ceased to be the case.

- In the wake of the regulatory failures that led up to the crisis, more effective supervision of financial markets is needed. But while UK regulation has also shifted away from the "light-touch" concept to some extent, its new focus on regulatory 'judgement' looks set to clash with the prevailing 'rules-based' culture at the EU level. Similarly, the apparent conflict between the Vickers Commission's recommendations to impose higher capital requirements on banks and the European Commission's proposed approach of imposing maximum EU-wide standards is another example of differing approaches.

- In addition, the eurozone crisis is increasingly likely to create exceptional needs and political incentives for the euro countries to act in the interests of the eurozone 17 rather than the EU-27, with UK concerns seen as peripheral at best. This new dynamic has already been expressed in a series of new proposals, including an EU-wide financial transaction tax, possible short-selling bans and the European Central Bank's insistence that transactions in euro-denominated financial products are cleared by central counterparties within the eurozone rather than in London. These proposals not only represent a challenge to UK concepts of financial regulation but also the UK's access to the single market.

- These political pressures are reinforced by the structural bias in the EU's voting system against the UK's financial industry, which was more or less acceptable so long as UK influence over financial services regulation was sufficiently high and rules were broadly pro-competition. The UK accounts for 36% of the EU's wholesale finance industry and a 61% share of the EU's net exports of international transactions in financial services. However, under new voting rules coming into force in 2014, it will only possess 12% of the votes in the Council of Ministers and 10% of the votes in the European Parliament. In contrast, France accounts for 20% of the EU's market in agriculture, but enjoys a veto over the EU's long-term budget and therefore retains substantial control over the sizeable EU subsidises received by its farmers.

- Equally important, over the next decade, growth opportunities for financial services within the EU are likely to be more limited than elsewhere in the world. Many European countries are likely to undergo economic stagnation and deleveraging. In 2005, the five largest EU economies accounted for 27% of global banking assets. In 2050, that will have decreased to 12.5%. Meanwhile, the BRIC countries' share of these assets will have increased from 7.9% in 2005 to 32.9% in 2050. Therefore, the benefits to London of acting as the gateway to Europe are becoming less convincing and the need to keep the door open to emerging markets elsewhere across the globe far more important.

- The UK has two broad strategies it can pursue in response to its decreasing influence over the direction of EU regulation and the need to keep the City open for business in the global marketplace:

1) Work with likeminded countries to seek assurances that Britain's influence over EU financial services law will be safeguarded. This could be codified in a new 'single market protocol', inserted via the first available EU Treaty change. Such a protocol could commit the EU to a pro-growth, outward looking and proportionate regulatory regime while safeguarding the UK from decisions taken solely by the eurozone for all 27 member states.

2) Seek UK-specific, legally watertight safeguards that will ensure that the UK is not overruled on a vital financial measure and cement London's ability to do business and compete in global markets. Though it will be resisted by EU partner, met with resistance from EU partners, this could include a 'double lock', acknowledging Britain's prominence in this sector and giving the Government the right to refer any disproportionate or discriminatory laws to the European Council, where it has an effective veto over regulatory proposals.

In the list of priorities in the on-going EU negotiations that are inevitable in the wake of the eurozone crisis, safeguarding financial services should be at the very top. While the EU policies governing fishing and agriculture, for example, are in need of fundamental reform, these two industries together only account for 0.7% of UK GDP. In contrast, financial services account for at least 10% of UK GDP. It is therefore clear where the UK should concentrate its political capital.

NOTES FOR EDITORS

1) For more information, please contact the office on 0044 (0)207 197 2333, Mats Persson on 0044 (0)779 946 0691 or Stephen Booth on 0044 (0)788 162 5889 or Chris Howarth 0044 (0)796 041 7148.

2) Open Europe is an independent think-tank calling for reform of the European Union. Its supporters include: Lord Leach of Fairford, Director, Jardine Matheson Holdings Ltd; Sir Martin Jacomb, former Chairman, Prudential plc; Sir Stuart Rose, former Chairman, Marks and Spencer plc; Sir Crispin Davis, former Chief Executive, Reed Elsevier Group plc; Sir David Lees, Chairman, Tate and Lyle plc; Sir Henry Keswick, Chairman, Jardine Matheson Holdings Ltd; Lord Sainsbury of Preston Candover KG, Life President, J Sainsbury plc; Sir John Egan, Chairman, Severn Trent plc; Lord Kalms of Edgware, President, DSG International plc; Hugh Sloane, Founder, Sloane Robinson.

For a full list, please click here: http://www.openeurope.org.uk/Page/Supporters/en/LIVE

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