There are fears that the potential loss of passporting rights following a hard Brexit would lead to an unprecedented exodus of banks (amongst other firms). This will, as it is claimed, undermine London’s position as a leading financial centre. I believe these fears, like many other fears about Brexit, to be exaggerated or misguided.
What are passporting rights
Passporting rights allow UK-based banks the right to offer their services throughout the EEA without the need for licences for individual countries. This is the application of the principle of free movement of services championed within the Single Market.
Economic contribution of banks
The economic contribution of banks, in my opinion, has been grossly overstated. Traditionally, banks lend to businesses and individuals, and hence support the production and consumption of goods and services across the economy. Today, that is just three percent of a typical UK bank’s claims on others.
The vast majority of borrowing and lending activities take place between financial institutions. The wider economic benefit of such intra-sector activity is dubious, and may in fact be detrimental as it consumes labour and capital that may be better deployed elsewhere. There is also an argument of that, at the expense of the wider economy, the banks have benefited from favouritism in public policy.
If banks do leave, they will be those that do not engage significantly in the productive role of supporting UK economic production and consumption. Their leaving will thus have a negligible impact on the wider economy.
Why banks will not leave en masse
In the previous section, I have argued that even if banks do leave the City, we will hardly feel an impact. But will banks actually leave to any significant degree?London has a long-standing status as the world’s leading financial centre – whether with or without the EU. And history matters. The reason why international gold prices are set in London twice a day is not because London is necessarily the best place to conduct these activities. It is certainly not the cheapest place to do so either. The chief reason is that gold prices have traditionally been set in London since 1919. That history contributes to stickiness – gold traders are based here because other gold traders are. In economics, we call this “network effects”. Network effects also explain why you will continue to use Facebook even if something else, which may have better features, comes along.
The UK has an independently large economy that is also well-connected with other economies, not just the EU. We have particularly close ties with financial centres in the Anglosphere and the Commonwealth such as New York, Singapore, and Hong Kong. A financial centre can thus thrive in the City, with or without the EU, and with or without passporting rights.
It is true that a loss of passporting rights may encourage a new financial centre in the EU (perhaps Frankfurt, or Paris) to take on some of those services previously provided by UK banks. But it is fallacious to suggest this is a zero sum game, that every pound of financial services provided by the rest of the EU must come at a cost of a pound lost by the City. The multinational nature of banks means that they could access the EU market by simply setting up a subsidiary there. After all, the Far East comfortably supports four major financial centres of Tokyo, Shanghai, Hong Kong, and Singapore – and banks found in one, could also be found in the others.
Banks are a large part of the UK economy – but not all their services are equal. We need to assess and identify those activities that are beneficial, and consider them when making Brexit arrangements or financial reform.
The responsible thing to do is for politicians, with the advice of economists, to make enlightened assessments of economic options and impact. This will help us all to recognise genuine threats and opportunities, and to call out baseless scaremongering when it inevitably occurs.