Testing time ahead for UK links

The relatively calm waters of the Channel Islands have been somewhat turbulent of late, the delicate nature of their relationship with the UK having been brought sharply into focus. It is a relationship – parasitic to some, symbiotic to others – from which Jersey and Guernsey have grown rich, particularly since the UK became a member of the European Union.

Within the British Isles yet outside the UK, these self-governing finance centres have a foot in the EU door which enables them to enjoy the movement of goods free from trade barriers. In all other regards they are deemed to be outside the EU and able to determine their own taxation levels, laws and economic policies.

With around £200bn in bank deposits and investment funds, the islands represent a major conduit to the City, enabling foreign investors to make use of London's financial expertise.

The Treasury's long-held view is that Jersey and Guernsey are assets rather than liabilities and that if investors were scared off it would be to the detriment of the City as much as the islands.

Recent incidents have highlighted the sensitivity of the channel Islands/mainland relationship, ruffling establishment feathers in the islands and raising their profile on the international stage.

First came Jersey's controversial limited liability partnership law, the first of its kind in Europe. The Jersey authorities thought they were responding effectively to industry demands for this pioneering legislation but ended up facing criticism for the manner in which the law was introduced.

The initial drafting was carried out in London by QCs retained by Price Waterhouse and Ernst & Young, and led to questions in Parliament. The island has since considered itself vindicated by the UK's own proposals to allow limited liability partnerships but the price paid for being at the legislative cutting edge is one that many feel is too high.

The next piece of unfavourable publicity centred on the alleged $27m lost by foreign exchange dealer Robert Young. Young based himself in St Helier using Cantrade Private Bank, a Jersey subsidiary of the Union Bank of Switzerland (UBS), to effect currency deals for nearly 90 investors who placed their money with a Swiss firm of investment managers.

The alleged losses have since led to 120 fraud charges against Young, Cantrade, a senior Cantrade manager and a former Touche Ross partner alleged to have audited Young's trading figures. The international publicity surrounding this case has hurt both Jersey and Guernsey, and UBS has offered $15m in compensation to investors.

The most recent incident highlighting the islands' relationship with the UK occurred at a seminar in Guernsey when Sir Alan Walters, former economic adviser to Margaret Thatcher, said that the islands' fiscal independence would no longer be endured if the UK joined the European monetary union (EMU).

“If the single currency comes there will be little tolerance of offshore centres,” said Walters. “I am sure that the European partners now know that there is more to these islands than tourism and fishing and they will not overlook them again.”

The response from the retiring director-general of Guernsey's Financial Services Commission, John Roper, was swift. “Sir Alan's statement that under EMU the loss by the Chancellor of the Exchequer of control of the UK economy would somehow mean that we and Jersey would not be allowed to set our own tax rates is nonsense,” he said.

“It just does not follow. He seems to think that the coming of EMU is an event which will override Protocol 3 but, if and when EMU comes and whether or not the UK joins, Protocol 3 won't be affected and our states will set our tax rate as always.”

The implications for Jersey and Guernsey should the UK join the EMU are a major talking point. The prevalent view is that if the UK joins then so must the islands, such is the strength of their link with sterling.

“The bulk of our trading practices are with the UK,” says Ian James, a partner with Jersey firm Mourant du Feu & Jeune. “It is an absolute nonsense to believe we could disassociate ourselves from the pound – it would be an absolute non-starter.”

Professor Geoffrey Wood, who advises the Guernsey authorities on EU matters, believes the Channel Islands will fare better if the UK remains outside the EMU. He says: “People will be looking for a strong currency, which sterling is becoming; they will be looking for an area where the regulatory burden on industry, including the financial sector, is not heavy; and, finally, they will be looking for an area where taxes are low.”

If the UK does join, Wood says the islands should reconsider their links with sterling, based on his belief that the UK economy will suffer once in the EMU. “The Channel Islands would do better to link themselves to a currency other than sterling, such as the Deutsch-mark or Swiss franc,” he says.

Whatever the future may bring, the Channel Islands may consider that a little more unity and a little less rivalry might see them better prepared for the challenges that lie ahead.