Head-to-head: the merits of equivalence

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This month's issue explores if equivalence is a backdoor route for UK firms to maintain access to EU markets

Q: Is equivalence a backdoor route for UK firms to maintain access to EU markets?


Jonathan Herbst, partner and global head of financial services at Norton Rose Fulbright

It is very easy to answer this question by saying yes, no or maybe.

Let's start with no.

The problems with regulatory equivalence in its current form have been widely reported. First, that equivalence is a patchwork system, not all pieces of EU financial services legislation contain equivalence provisions that contain passport-lite access to the EU. Notably, from a banking perspective, this includes the Capital Requirements Directive IV and is therefore a significant problem for UK banks. For non-EU investment firms, the equivalence provisions that appear in the Markets in Financial Instruments Regulation are limited in the sense that they apply only when providing business to per se professional clients and eligible counterparties. There is also the opacity of the European Commission's decision-making process for determining equivalence which can be both lengthy and politically contentious. There is also the problem that the Commission can withdraw an equivalence determination should domestic legislation diverge too far from EU law. This often means that firms may be reluctant to conduct long term planning based on an equivalence determination.

But on a closer review of the issues, the answer could also be yes?


As a starting point, the UK is in a unique position. Having been a member of the EU, it starts from a position of alignment with current EU requirements. If the Great Repeal Bill successfully ensures that the UK continues to apply EU legislation post-Brexit, it will, on a technical level, have a regulatory regime that is initially identical to that of the EU. Therefore, one would expect that the equivalence determinations that the Commission needs to make should be fairly straightforward. Not least because the equivalence assessment is not a line-by-line review but rather designed to be an outcomes-based assessment that asks whether similar and adequate regulatory effects are achieved. Also, the UK often tends to be 'super-equivalent' to the EU's requirements. In relation to domestic legislation subsequently diverging too far from EU requirements, the UK and EU could deal with this by having structures for regulatory engagement so that they both know how future regulation is likely to evolve and mitigate the risk that withdrawal of regulatory equivalence occurs.

There are notable variables, however.

In relation to plugging the gaps in the equivalence framework, that would be a matter for negotiation between the UK and the EU. The UK has indicated that it considers a bespoke model of equivalence may be required for Brexit. At present we don't know what this bespoke model would look like and what it would cover. There have been a number of papers published by trade bodies that discuss how the current EU equivalence framework could be improved. Whether or not the Commission is prepared to budge on this issue remains to be seen, but recent noises from Brussels have not been particularly encouraging from the UK perspective. In a recent ECON hearing on third country equivalence in EU financial services regulation, Olivier Guersent, director general of DG FISMA, defended the current approach explaining that the equivalence procedures have been designed to align with the specificities and objectives of each piece of EU legislation. The debate has also become slightly more complicated with the European Supervisory Authorities pushing for changes to the equivalence framework on the basis of their own experiences and interests.

The dynamics of the negotiations could, however, change should the US move in a deregulatory direction. There is a need to limit the migration of business from both the EU and UK to the US as a result of tax and regulatory changes.


Maintaining the status quo? How will the UK fare after Brexit?


Rachel Kent, partner and head of Hogan Lovells financial institutions group

Equivalence is normally taken to mean the method of ensuring regulatory alignment in the context of the EU's third country regimes (TCRs). I would not describe these regimes as 'a back door route' to access. They are the regimes that the EU (including the UK) devised to give access to countries outside the EU (third countries) access to EU markets without the need for separate authorisation in each of the EU27. Such an arrangement requires regulatory alignment. These regimes were not designed for countries like the UK where laws are already aligned with EU laws.

As was concluded in the report of the International Regulatory Strategy Group on this subject, these regimes do not provide an optimal solution to replace the passporting system which is currently in place but which will fall away on Brexit.

There are a number of reasons for this including the following:

  • The scope of the third country regime is low compared to passporting. It currently covers only certain types of infrastructure providers. There is no TCR giving cross-border access for a number of key financial services including deposit taking, lending, payment services, mortgages or activities relating to Ucits. There are limited TCRs in place for insurance and there are only limited rights in relation to retail business generally.

  • Equivalence is not something any third country has an absolute right to – it is dependent on a formal determination of equivalence being taken by EU authorities. It is unclear whether the various equivalence determinations that would have to be made under the different directives could be achieved in time to avoid firms having to seek local authorisation.

  • The precise meaning of equivalence is also unclear. Theoretically this is supposed to be judged by reference to similarity of 'outcomes' but some of those who have been through the experience refer to a 'line-by-line analysis'.

Given the current relationship between the UK and the EU, this is unlikely to be too much of an issue at the outset but it does make it difficult to determine with certainty what degree of divergence is possible going forward. This may therefore be inconsistent with the idea of a 'bonfire of regulations' favoured by some.


What is clear is that this would put the UK in the position of being a rule taker going forward. In other words, the UK would have little, if any, input into the introduction of new EU laws but would be required to introduce them into our domestic legislation if it was necessary in order to maintain equivalence.

Finally, an equivalence determination can be withdrawn on little or no notice and there is no right of appeal for a third country against a non-equivalence determination.

For these reasons and many more, equivalence as a model of access is not preferable

given its many disadvantages compared to passporting.

Of much more help – if the aim is something as close as possible to passporting – is a bespoke arrangement between the UK and the EU which recognises both the degree to which laws are already aligned and the degree to which the financial systems of both are interdependent. Key to this would be a joint forum for determining the future design of applicable law. This could take into account global standard setters such as Basel and the International Organization of Securities Commissions, and would put the responsibility for determining law on a more equal footing. This will require political will as well as new thinking as 'quasi-passporting' has not been a feature of free trade agreements to date.

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