As the EU wakes up to a Conservative-led British government, already tense relations with the UK on financial regulation are likely to "blow up", argue London-based analysts, following the European Parliament's sweeping new reforms of banking supervision in the EU.
"In this whole area of financial services, UK-EU relations could blow up," according to Philip Whyte, a UK-based analyst from the Centre for European reform.
Pro-EU Lib Dem leader Nick Clegg last night entered into a coalition with the UK's largely Eurosceptic Conservative Party, making 43 year-old Tory leader David Cameron the UK's youngest prime minister since 1812 (EurActiv 12/05/10).
Conservative George Osborne will be the UK's finance minister – chancellor – while early and unconfirmed reports say the Lib Dem's Vince Cable will take on policy for banking and London's City.
Though Cable has previously advocated radical financial reform policies such as breaking up big banks and putting a cap on bonuses, commentators fear he may become another Paul Myners, the former financial services secretary, whose tirades against the City's risky dealings did not seem to get much of an audience with Labour.
Observers also argue that in spite of Cable's yet to be confirmed job title, Euroscepticism coming from a bigger Conservative camp will overrule any pro-EU Lib Dem policies, especially when it comes to the City.
"The Lib Dems will likely try to reign in Euroscpeticism coming from their Conservative partners but they will not be shaping the UK's EU policy," Whyte said.
Whyte also points out that the Tory electorate is still smarting from the fact that they did not have a referendum on the EU's Lisbon Treaty last year, serving to fuel their hostility to the bloc even more.
EU watchdogs face British resistance
Though the Conservatives are unlikely to resist policies that tighten up the co-ordination of supervising the EU's big banks, "[they] will be neuralgic about anything that smacks of a transfer of power from the Financial Services Authority (the UK regulator) to Brussels or in this case Frankfurt," he added.
On Tuesday, the European Parliament decided that the four new EU supervisory bodies (see 'Background') would be located in Frankfurt as opposed to being dotted around the bloc.
Whyte argues that the symbolism of having these powers in Frankfurt will make the UK industry and electorate all the more suspicious of the EU.
In addition, the Parliament's attempts to give the new supervisory bodies immediate powers over so-called systemically important financial institutions (SFIS) will curry just as little favour with the Tories as it did with Labour.
It's not that we love hedge funds…
Moreover, analysts believe that recent draft laws to come out of the EU have damaged the UK and the bloc's relations so much that they will tarnish the future reception of draft EU policy on financial regulation.
In particular Whyte refers to a draft law on regulating hedge funds, private equity groups and other alternative investment vehicles, the Alternative Investment Fund Managers Directive (AIFMD).
"It's not that we love hedge funds, but there is a widespread perception in the UK that this is a political directive targeting the wrong entities and that it will do damage to non-systemically relevant entities like investment trusts."
At a recent meet and greet with the London-based hedge funds industry, former Lib Dem leader Charles Kennedy tried to calm fears that they would be working against and not with the industry.
"As all of us are out in the electoral marketplace for votes and support in the coming weeks, we do need to remember that we are tremendously constrained in our aspirations and ambitions by the simple fact that we've got to have a wealth-creating capacity in this country which enables good social objectives to be pursued and to be realised," Kennedy said.
"We are very dependent on you being good at your job, in the way that you need to be dependent, whoever's in power, on us being good at our job."
Two-week crunch time
Hedge fund analysts also predict that the two camps now face a tough time ironing out their position on financial regulation before imminent and critical talks with their EU partners.
The new government has a total of two weeks to get the party line on financial supervision and hedge funds in good shape before hammering out the EU's new rules in talks with other EU leaders at the end of this month, pointed out investment analyst Christopher Miller.
