The Capital Markets Union ('CMU') is the European Commission's plan to mobilise capital in Europe to encourage sustainable growth. In the first of two articles PwC Legal explains the CMU and examines the potential impact of Brexit on the CMU project.
Capital Markets Union, is an initiative launched by the European Commission back in 2014. CMU is intended to reduce the existing barriers to cross-border investment in the EU, increase the funding options available to companies (in part by reducing the existing over-reliance on bank lending), and to reset the post-financial crisis regulatory framework which governs the European capital markets. Deeper and more integrated capital markets should lower the cost of funding and make the financial system more resilient in the event of another financial crisis.
There is no single measure that will deliver CMU. Instead, there will be a series of steps that, cumulatively, will achieve CMU. The Commission intends to implement measures to systematically identify and then remove the existing barriers that stand between investor’s capital and investment opportunities, and the obstacles that prevent businesses from reaching investors. CMU intends to make the market for movement of those funds as efficient as possible, at both the Member State and EU level. The Commission intends to use a mixture of legislation, regulation, supervision, enforcement, and market led response to remove the existing barriers.
Following the UK’s historic decision to leave the EU, question marks are now raised as to whether the CMU is likely to remain a political priority for both the UK and EU, the likely impact on the CMU project of the UK’s vote to leave the EU, and, assuming the CMU project does proceed, will the UK still be able to participate?
As the bloc’s largest financial centre the UK (specifically the City of London) was expected to play a central role in the EU’s CMU project, as well as being one of its biggest beneficiaries. The UK’s vote in favour of Brexit has a range of potential impacts on CMU including:
In the immediate aftermath of Brexit, stock indices in the UK and across the EU tumbled. Although markets have to some extent recovered from the initial losses, and, with some stability having been restored in the UK by the Conservative party acting quickly to form a new Government, uncertainty remains and will persist until the terms of the UK’s exit from the EU have been finally settled. The time line for the terms of the UK’s exit being agreed is itself uncertain however, it will be at least two years from the date on which notice to leave the EU is formally served by the UK under Article 50 of the Lisbon Treaty. The effects of this uncertainty are unclear however, one of the inevitable consequences is that any associated costs will be passed onto consumers.
Efforts to achieve a bigger and more integrated European capital market under the banner of the CMU project will inevitably be disrupted by the UK’s Brexit vote. The resignation of Lord Hill, the UK’s EU Commissioner who had been leading the CMU project, in the immediate aftermath of the Brexit vote was a dramatic illustration of the potential disruption that lies ahead for CMU. At this stage it is impossible to predict how CMU will progress from this point. Whether CMU gathers pace, changes direction or stalls completely, in each scenario inevitably there will be disruption for investors, issuers and the UK and European economies. In addition, whereas previously the UK had been the driving force at the heart of CMU, going forward the UK’s ability to influence the agenda, shape and direction of CMU is likely to be significantly diminished and, therefore, the UK is likely to find itself in the undesirable position of having no say in regulation that it will still have to adopt in order to maintain access to the single market.
A number of financial institutions (including banks, asset managers, private equity houses and hedge funds) quickly identified the potential loss of passporting rights as one of the most challenging aspects of the Brexit vote. Passporting allows firms authorised and incorporated in one EU jurisdiction to set up and conduct business in other EU jurisdictions without being subject to additional regulatory burdens. As a result, many firms are already looking at how to mitigate the effects of the loss of such rights by exploring options such as setting up subsidiaries in other European member states.
Whilst the current regulations governing EU capital markets and financial institutions may well be far from perfect, the alternatives in a post-Brexit world look even less attractive. There appears to be a general consensus that, despite its imperfections, EU financial regulation broadly provides a predictable and consistent regime which on the whole gives clarity and certainty for market participants. Certainly, the current EU regulatory landscape is more palatable than 28 different rule books or even separate EU and UK regimes both of which would increase the costs and complexity of doing business on a pan-European basis. Although wholesale repeal of EU financial regulation by the UK is unlikely, what may happen in practice is a gradual divergence of UK and EU regulation which would increase costs for market participants. There is also then an associated danger of divergent approaches to enforcement of regulation not only between the UK and EU but even as between member states of the EU.
Free movement of labour within the EU allows access to a wider pool of talent for businesses without the need for visas or work permits which reduces costs for customers. Brexit now casts doubt over whether EU nationals would retain current rights to work in the UK should they change or lose their jobs.
Britain's vote for Brexit has therefore led to complex considerations as regards potential participation in the CMU project. In the second part of this article we will look at the likelihood of the UK's continued involvement in the CMU.