One of the few obvious upsides to Brexit for the UK was its new ability to control its own regulations. 'Taking back control,' they called it.
In finance particularly, some felt the overbearance of the EU and its ever-evolving rules restricted the City of London’s ability to grow.
The UK has regained its regulatory independence and while it is far too soon to tell if it has made any difference, there is a growing sense that perhaps sharing rules isn’t such a bad idea after all.
Financial institutions tend to complain about regulatory divergence a lot. It leads to increased compliance costs and can create all sorts of headaches. Equivalence, while helpful, can often be arbitrary and is no substitute for simply sharing the same rules.
A prime example of this is in Basel III endgame proposals, a genuine attempt at a global capital standard for managing risk in the banking system. As the beast evolves, more and more key jurisdictions are pushing to make changes and tweak aspects of the rules, looking for special treatment based on individual circumstances.
The result is interminable delay, and a nagging doubt that the proposals will ever amount to anything useful. Individualism doesn’t lead to simplicity when it comes to making rules.
So, following the news that the Financial Conduct Authority (FCA) is set to introduce regulations for ESG ratings agencies — something that is long overdue — hot on the heels of a similar suggestion from the European Commission in June, one might be forgiven for questioning how much the UK really needs its autonomy.
Despite the divorce, the UK and the EU seem increasingly reluctant to diverge too much, assumedly under industry pressure not to add more confusion to a convoluted process. Indeed, in June the two signed a Memorandum of Understanding that established a framework of cooperation — which although reaching far wider than mere rule setting, paved the way for a financial regulatory forum and greater cooperation, including the capital markets.
So much for divorce. This couple still lives together in all but name.
Green bond, not greenwash
Circling back to ESG rating agencies, it is important to clarify that clear regulatory oversight to monitor such a new but fashionable industry is welcome and not simply a whip with which the EU can punish the UK.
ESG is under scrutiny so that it does not simply become a badge to stick on a security in order to drive up its price.
That means questioning the underlying concept of ESG, and ensuring standards are high when applying labels to bonds.
ESG bonds are popping up all over the place. Critics are convinced that in some cases the promises made by issuers can be manipulated or are difficult to verify.
So the question is who should police the borrowers? Ratings agencies are an obvious answer. The system seems work well enough with credit, the small matter of the subprime crisis aside.
But then who watches the watchmen? There are all manner of companies offering second party opinion and validation of ESG claims. And in a nascent market they offer a broad range of methods for doing so. They can't all be good and the temptation to go shopping for the most favourable rating is baked into the system.
Add to that a range of regulatory regimes to govern them and there will simply be too much complexity in the system for it to carry any meaning.
Happily the FCA, according to its head of ESG, is planning with international consistency in mind. This likely means it will fall in line with its EU counterparts, addressing aspects like data services and conflicts of interest. The International Organisation of Securities Commissions, a global regulator, has called for collaboration on the issue to speed up the process.
In this context, at least, working together is more likely to bring success.
But then what of the areas where the UK and Europe are diverging. Both have different views on how to govern securitization, for example.
It is not inconceivable that as one market takes off quicker under the better set of rules, the other will tweak its own regs to match.
It will almost be as if there was never any point splitting up in the first place.