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Brexiquences: The Impact of Brexit on the banking Industry

Two years since Brexit, the economic impact is starting to show. Touted as one of the most paramount events of the past 40 years in modern English history, Brexit had brought to question London’s longstanding position as the global financial center. Over the years, the banking sector has secured its place as a vital part of the UK economy, facilitating payments, investments, and ensuring that the rest of the UK can trade. A lack of market access for the UK financial services system to the EU market is expected to negatively affect the performance of the UK’s economy now and in the times to come.

A large piece of the UK’s banking business depends on its inclusion in the EU. The level of interconnectedness and regulatory framework entwining the businesses in the region is expected to impact both the UK as well as European banks. The UK banking sector was one of the first industries witnessing the preparedness for the Brexit making regulatory changes, securing correct authorizations and licenses and securing the economy. Although the effects of business departure are still emerging, some profound implications for the UK banks have been witnessed so far.

UK banks risk losing significant volumes of business to EU banks

UK banks generate nearly 43% of their business from the EU region alone. The loss of passporting rights for the UK Banks in the region is expected to adversely disrupt the business as most of the UK banks won’t be able to operate in the region. UK citizens staying in the EU have to either close their UK bank accounts or link their accounts to a UK address. They can also look for other options like shifting to a different UK bank or provider (still providing services in the EU region); or opting for electronic accounts or prepaid cards.

As of now, the UK banking system in the region is expected to take the hit for the time being. This is mainly due to major European banks shifting/ re-locating their businesses back to the EU region and UK banks seizing their operations in the EU region. In 2020, the UK financial services sector contributed £164.8 billion (3.6% decrease over 2019) to the economy, 8.6% of total economic output. Post the Brexit, the loss of passporting rights in the EU region has led to rise in risk of deregulation in the UK financial sector. Going forward, more local banks are expected to start businesses in the UK leading to a rise in competition in the region.

The uncertain future of London as the financial hub of EU

UK leads in wholesale markets, complex insurance, investment banking, the provision of market infrastructure, asset management as well as the newly emerging fintech industry, making it a lucrative business hub for European banks. However, post the Brexit, European financial institutions have moved nearly £1.3trn of their UK assets back to the EU leading to a shirking tax base for the UK. Additionally, as a consequence of the Brexit, nearly 7,400 jobs have moved from the sector to new hubs in the EU mainly in Dublin, Paris Luxembourg, Frankfurt, and Amsterdam.

A costly affair for UK banks with branches in the EU

To continue providing financial services in the EU region, UK banks may have to convert their existing EU entities to subsidiaries. After the Brexit, the legal and regulatory framework has left banks with the need to update their product and corporate entity strategies. Some key areas that UK banks may also have to focus on include - restructuring local EU entities; designing new ways of operating and transacting; gaining appropriate local regulatory approvals; connecting with new market infrastructure providers, moving staff into new premises, and drawing up new contracts with suppliers. Furthermore, Brexit is expected to lead to a rise in cross-border transactions mainly having transfer pricing and VAT implications.

Regulatory barriers between the two regions are expected to lead to restructuring in tax systems including employment tax issues. UK banks are also expected to face data privacy issues in the EU region while transferring personal data to the UK.

The slow rise of Open Banking

Post the Brexit, the UK is in the midst of an Open Banking revolution, driven by the requirements of the second Payments Services Directive (PSD2). A step-change in infrastructure is expected through the implementation of ISO 20022 and other changes due to the continued development of the New Payments Architecture (NPA), and the renewal of the Bank of England’s Real Time Gross Settlement (RTGS) service. The Bank of England is working on potential options for a national Central Bank Digital Currency (CBDC) and is launching services such as SWIFT (Society for Worldwide Interbank Financial Telecommunication) and GPI (Global Payments Innovation Initiative) for smoother operations post the Brexit.

Brexit has brought seismic shifts in the banking sector across the UK and EU region, effects of which are starting to show and shall reflect in the years to come. While it is expected that UK banks will make necessary regulatory changes and have the Brexit taskforces identify risks and develop mitigation plans, the need to adopt rapid changes has now increased more than ever.

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