The list of issues associated with the UK’s planned departure from the European Union (EU) in March 2019 is long, complicated and half-finished. But now, regulators in the financial markets have added another problem: data.

The crux of the matter is this: if Brexit occurs without a deal between the UK and EU in place, what happens to the flow of information between regulators like the Financial Conduct Authority (FCA) and the European Securities and Markets Authority (Esma)? Data sharing between these entities is crucial not only to the functioning of markets, but also underpins many aspects of sweeping changes to Europe’s trading rulebook that have been implemented post-crisis. Regulators are worried that, without a solution, the regulatory gears that govern the operation of markets could grind to a halt.

“This technical, regulator-to-regulator coordination is essential to minimize disruption in a no-deal situation,” said Andrew Bailey, the CEO of the FCA, in an October 25 speech delivered in London. Steven Maijoor, the Esma chair, made a similar point during his keynote address at the World Federation of Exchanges annual general meeting in Athens, Greece on October 3, saying that a no-deal Brexit “may trigger some significant effects,” in European financial markets.

In effect, what two of the most senior regulators on the continent are saying is that they have a matter of months to put a plan into effect to halt a potential catastrophe. While a tentative draft deal has been agreed between the EU and the UK this week, there is no guarantee of its passage, given the instability within the UK government that it has triggered.

The numbers illustrate just how acute this problem is. The FCA estimates that it sends around 70 percent of its transaction reports to regulators in the EU—not just Esma, but also the national competent authorities (NCAs) that govern each country’s internal markets, including the Autorité des Marchés Financiers in France, and Germany’s BaFin.

This information is critical to the proper running of key functions in EU regulation, not least of all the revised Markets in Financial Instruments Directive (Mifid II), which came into force on January 3, 2018. Under Mifid II, Esma undertakes a series of calculations to determine which instruments are subject to a range of measures, including the double-volume cap, which restricts trading in equities through dark pools once certain limits are breached, and transparency thresholds for fixed-income instruments, which govern enhanced reporting requirements.

Given its status as the financial capital of Europe, and one of the world’s largest financial centers, London’s data is crucial to the proper calculation and calibration of these regulatory instruments. Esma estimates that around 40 percent of trading in EU27-issued equities—the name given to the remainder of the bloc minus the UK—currently takes place on UK venues, meaning that, without this data, a bifurcation of the market is almost inevitable.

“The Mifid transparency thresholds are calibrated based on EU28 data, and the UK is clearly a very substantial part of that EU market,” says a senior British regulator. “So, unless action is taken to avoid it, or avoid this outcome of withdrawal, that withdrawal will lead to EU27 data used in the EU27, and another based on UK data used in the UK. That would mean, in practice, different thresholds for the same instruments. That’s a poor outcome in my view, for Brussels, for the UK and for the EU27, and a poor outcome for the market.”

The Last, Best Hope

In many ways, this data issue relates to a consistent problem that has plagued discussions between the UK and the EU, ever since the Article 50 decision to leave was triggered in 2016—the UK wants equivalence determinations to be granted, and the EU will not grant them.

For those unaware, equivalence, under EU law, is a status conferred on a third-country (non-EU, in European legalese) regulatory system, in which the European Commission recognizes that said regulations and oversight are as strong and rigorous as the EU’s own. For the UK, this shouldn’t be a problem. The FCA was one of the primary authors of post-crisis financial regulation in the UK, and indeed, has gone further than the bare minimum for compliance in many different areas by gold-plating elements of Mifid II. Yet no equivalence determination has been forthcoming.

This is partly politics. Issues associated with Brexit are, of course, far wider, and often far more pressing than ensuring bond trades are properly reported within a certain number of minutes, as any of the millions of EU citizens living in the UK, and vice versa, can attest. The EU doesn’t want to simply give the UK a free pass to remain an associate member of the Single Market, after all.

But there is also a legal issue, in that it is not currently possible, under EU law, for a member state to negotiate an independent treaty or status determination, such as granting equivalence. The EU cannot realistically even enter into talks with any legal certainty, meaning that hopes of an immediate failover from the UK’s status as a member state to an equivalent third country the very moment it leaves the EU are unrealistic.

As a result, both Esma and the FCA have pinned their hopes on another tool, the memorandum of understanding (MoU). These are typically conducted on a nation-state level, rather than being the sole preserve of EU institutions, and can allow individual agencies to agree to facilitate agreements over areas such as information sharing and law-enforcement cooperation.

It’s a tall order, though. To make this work, the FCA must not only draw up, negotiate, and conclude an MoU with Esma, but with every other regulatory agency it deals with in the EU27. Some countries also have multiple regulators covering markets, or prudential standards, or central banks that assume one aspect of the role while quasi-governmental bodies assume others. The UK itself, for instance, splits regulatory responsibility between the FCA, the Prudential Regulatory Authority, the Bank of England, the Competition and Markets Authority, the City of London and Metropolitan Police and many others.

“There’s literally needs to be thousands, this is the issue in terms of trying to establish them,” says Virginie O’Shea, research director at analyst firm Aite Group. “You’d have to have an MoU with every individual country potentially, which is one of the biggest problems if you look at it from the EU perspective. And it’s not exactly like those things, legal documents, get done quickly.”

The MoU as a tool, also, lacks a certain degree of weight, in that it is not a legally binding agreement—hence the name.

“It’s effectively a stronger gentleman’s agreement, a handshake agreement, so it’s to be used to show intent that is not legally binding,” says Chris Probert, partner and head of the data practice at consultancy Capco. “So, effectively, what Esma is doing is trying to say ‘look guys, we know what we’re trying to achieve here. We know that we’re all trying to have financial stability for the benefit of the customer, regulate entities across multiple borders, and not give rise to any fracturing of the political landscape to leave any loopholes for poor behavior to manifest itself.’ That’s really what the MoU, is trying to do, trying to compensate for that lack of a Brexit deal.”

Regardless, the FCA and Esma are forging ahead. Sources within both agencies say that talks are already underway. In his October 25 speech, Bailey said that the FCA was “ready to go,” while Esma said it would coordinate between NCAs and get such agreements “in place for March 2019.”

Positive notes aside, however, it’s hard to see this as anything more than a Band-Aid for a deeper wound. Some experts also believe that, while the work towards the MoUs is encouraging, it could be derailed with a moment’s notice.

“Bear in mind that this is all being talked about with a no-deal scenario in mind, which I’ll grant is a touch more likely now than it was last year, but is not a certainty,” says a Brussels-based lobbyist with knowledge of the discussions around this topic at both a UK and EU level. “The issue of data sharing has been going on since the referendum, and it’s far broader than just Mifid. Just look at GDPR and how that will be affected. This is something that I imagine should be handled at the highest levels, and the regulators build derivations from that core document, and I shouldn’t imagine either Whitehall or Brussels wants every alphabet agency to be conducting thousands of bilateral agreements between one another.”

Deep Impact

To be clear, this is largely an issue that affects regulators, rather than companies servicing the capital markets. Their plans for Brexit—which have also largely been predicated on the no-deal outcome—are already advanced, with firms such as Bloomberg, Tradeweb and MarketAxess setting up in Amsterdam to service EU27 clients, while banks have variously named Dublin, Frankfurt, and Paris, among others, as their future continental homes.

But although the technical aspects of these conversations are confined to the regulators, they will have an impact on market participants. The old adage that the market hates uncertainty, in this instance, is apropos.

“There are a lot of rules that are reliant on thresholds and numbers, and we don’t know what those numbers will be because we don’t know how they will be calculated, because we don’t know what data our regulators will have access to on either side of the Channel, so we are building systems that have flexibility within them,” says Miranda Morad, general counsel for MarketAxess Europe and Trax. “Obviously, that takes time and cost. We are building very complicated systems that wouldn’t have to be so complicated if we knew which way this was going to go.”

Indeed, much of what is being discussed in terms of data sharing goes to the very heart of what platform providers do, in light of Mifid II and other such rule packages whose core objectives tend to focus on transparency. Requiring multiple jurisdictional values for rules engines isn’t simply a matter of plugging in a regulation, and voila, it works. It’s a complex task, involving multiple scenarios—although, Morad says, most are planning for the worst-case, no-deal scenario—that can affect everything from workflow to general functionality.

More to the point, some say, these discussions are serving as a herald of things to come. While the UK will be fully equivalent in everything but name to EU legislation at the point it leaves the bloc, divergence over time is natural. These types of fights, therefore, may become all too familiar in the years ahead.

“When you think of the effects of Brexit and what it could have on Mifid, I truly think post-Brexit, it will be the EU27 that is most likely to move away in piecemeal fashion from Mifid II to a greater extent than the UK would ever think of,” said Kay Swinburne, a UK Member of the European Parliament and the vice chair of the Economic and Monetary Affairs Committee, while delivering a keynote address at an industry event held in Amsterdam on November 8.

Stephane Malrait, head of market structure and innovation for financial markets at ING made a similar point while speaking on a panel at the same event, saying that calibrations for regulatory data would have to change dramatically post-Brexit.

“That is why they may have to change the regulation, to be able to cope with that,” he said. “Because even if you have equivalence, you are still outside the EU.”

Ultimately, the MoUs aren’t even a Hail Mary—they’re more an attempt to patch a hole in the boat while deep at sea. Yet, if the UK does continue to look like it will leave the EU on March 29, regardless of transition periods, they are increasingly looking like the only option for embattled regulators who are tasked with keeping markets ticking over amid turbulent political forces.

Either way, the clock is effectively at six minutes to midnight in the countdown to March 30, which could still very much be remembered as the day the data stood still.

Additional reporting by Josephine Gallagher.