We should start by explaining what these terms – classic pieces of Euro-jargon – mean. First, we are talking about a comparison of relevant regulatory frameworks between the European Union (EU), on the one hand, and a third country, such as the US, on the other.
Second, the purpose of these structures is to facilitate the access and operation of third country firms on the territory of the EU (the passport) and, vice versa, for EU firms to access and operate on the third country market.
So, what is the difference between “equivalence” and “mutual recognition”, and why do we advocate the latter, rather than the former?
Equivalence
In its simplest form, equivalence means just that. The European Commission, as the arbiter in these cases, first takes technical advice from one of the European Supervisory Agencies, such as Esma. That advice reviews the third country rules then in force, say in relation to the stock exchange or listing regime.
The Commission then assesses that regime against a series of “equivalence tests”.
These, hitherto, have been fairly standard. They include whether the third country has an appropriate authorisation and supervision regime; that its firms are subject to, and meet, the requirements of that regime; that supervisory co-operation between the EU and the third country is facilitated; that reciprocity (for EU firms) exists; and increasingly now that an appropriate anti-money laundering framework is in place.
The intention of the analysis is not that the third country rules are a line-by-line copy out of the EU rules, but that the framework is “equivalent”, has similar goals and objectives, and delivers a comparable outcome. The Commission then issues its equivalence “decision”; usually it is time-unlimited (although more recently there has been an example of a time cap). An equivalence decision can subsequently be revoked by the Commission, although this has not occurred to date.
So far, so good, but…
The problem with this approach is that it takes time, it is sectoral, and more often than not, it is tailor-made for the sector concerned. In this sense, there is no harmonisation of equivalence conditions for all financial services sectors; they are all different, reflecting the different characteristics of the banking, insurance and investment sectors.
The earliest example of market access for third country firms – both through establishment, and the (remote) cross-border provision – came with the Banking Co-ordination Directives in the 1970’s.
There was already experience of supervisory co-operation at the level of the Basel Committee, and soon replicated in the EU Banking Advisory Committee, and a common Deposit Insurance Protection Scheme helped as well. That supervisory co-operation has been slower for the insurance and investment sectors, also reflecting a lack of history, and greater sensitivity by host supervisors to potential losses by investors and policyholders.
So, for instance in Mifid II, a host supervisor has the right to insist on a physical presence by the third country firm for the provision of services to its retail investors; and there were no initial access provisions for third country firms in the Alternative Investment Funds Management Directive (AIFMD).
And finally, because the equivalence decision is in the hands of the Commission, it is “political”: it can be withheld or delayed, as both the US and Switzerland have found to their cost.
Mutual recognition
Mutual recognition starts with the premise that the Third Country regime is, in pretty well all aspects, already comparable with that of the EU, and there is no need to go through a formal equivalence process.
It would be cross-sectoral, and not piecemeal, sector-by-sector.
And it would give unequivocal and automatic access for third country firms into the EU and EU firms into that third country, for instance for financial advisers and asset/wealth managers.
We would advocate the UK regime now, and at the time of Brexit in March 2019, is in that comparable state (and will continue to be so at least until the end of the Transition Period in December 2020). In many respects, it is even ahead of the game.
The UK regime is heavily influenced by EU rules, there is strict authorisation and supervision criteria, co-operation with other EU supervisors and the ESAs functions, and investors and depositors are protected.
In fact, the UK has been more diligent than most Member States in implementing EU legislation (at the time of writing 17 Member States had still not implemented Mifid II in its entirety).
As the rules are the same, there should be no issue with interpretation or supervisory convergence/co-operation, and really limited recourse to legal interpretations would be necessary.
And there is also a twist: equivalence conditions are becoming even stricter. In its December 2017 proposal for the supervision of investment firms, the Commission has advocated stiffening the equivalence tests under Mifid II, by adding hurdles in relation to financial stability; supervisory convergence; and whether the jurisdiction was compliant with international tax norms.
