Andrew Bailey,  CEO of the Financial Conduct Authority (FCA), has written a letter to bank chief executives, about bank booking models post Brexit. Banks choose different locations in which to book financial transactions, such as derivative contracts or bond investments, depending on customer requirements, their legal entity structure and legal or tax considerations. External constraints aside, internationally active banks would generally prefer to book financial contracts in as small a number of entities as possible, to benefit from pooling and hedging efficiencies and optimise market risk capital usage through the use of counterparty netting and centralised risk management. In turn, this enables them to offer better pricing to their customers, such as pharmaceutical or automotive manufacturers or food producers, seeking to minimise the impact of price volatility. Maximising efficiency and offering customers competitive pricing and choice drives back-to-back trades and remote booking of contracts by global banks.

The letter helpfully confirms that the FCA is open to a broad range of legal entity structures and is not looking to restrict booking models, recognising that fragmentation of financial markets does not enhance financial stability. But the risks inherent in the underlying financial contracts must be effectively controlled and managed, so the FCA restates a number of principles proposed by the PRA that should be complied with regardless of the actual booking model chosen. These, sensibly, focus on risk management and governance arrangements, rather than physical location; for example, suggesting that it may be appropriate for an individual senior manager of the booking entity to be responsible for the oversight of booking arrangements.

This practical approach reflects the multiplicity of business models that flourish in the City of London, which has been an international financial centre since Roman times.

It is of course right that supervisors are alive to the risks that poorly governed remote-booking can bring, but a one size fits all approach that strongly discourages or prohibits a particular booking model risks losing many of the benefits that a well-managed booking model provides. It also increases fragmentation of markets, with consequentially greater risks of financial stability and reduction of service for customers.

The approach outlined in the FCA's letter contrasts with recent statements by the European Central Bank (ECB) on the same subject. It has stated that its supervisors expect booking entities in Europe to have their own independent and localised management of counterparty and market risk, with an ability to originate new business locally. In particular, it has stated that it does not expect back-to-back booking to be used, other than for non-material contracts. This more conservative approach is likely to constrain the solutions that banks will be able to deploy on behalf of  customers seeking to reduce their exposure to changes, for instance, in commodity prices or interest rates.

This difference in regulatory approach will create challenges for banks operating in both the UK and mainland Europe post Brexit. It is to be hoped that the FCA and ECB approaches will become more aligned as the regulatory mechanisms for the oversight of wholesale market activities evolve.