The UK is ready to set out its vision for how it wants financial services to operate after Brexit, favouring an ambitious “mutual recognition” of regulations to preserve the City of London’s access to the EU.

The move is backed by the City but Michel Barnier, EU trade negotiator, has repeatedly warned that the UK will not be able to negotiate special access arrangements to the single market for financial services.

It sets the stage for one of the most fraught elements of the Brexit negotiations.

Mrs May’s team believe that Mr Barnier is bluffing and that ultimately the EU will negotiate a deal that maintains European access to London’s deep capital markets.

Under Britain’s proposal, the UK and the EU would agree on common objectives such as financial stability and consumer protection, but it would allow both sides some leeway to set their own rules to achieve those goals.

Britain and the EU would recognise each other’s regulatory and supervisory regimes, while there would be a monitoring regime to assess any divergence. A dispute resolution mechanism would calibrate market access or impose other conditions — for example higher capital requirements — if it was judged that either side was diverging too far.

Three senior figures briefed on Brexit discussions in the cabinet said that the government will back the plan, also favoured by Mark Carney, the Bank of England governor. One said: “They are going down the route of mutual recognition.”

Another person close to the discussions called the preferred option a “dynamic reciprocal mutual recognition model”. The Treasury declined to comment. Philip Hammond, the chancellor, is expected to endorse the idea in a speech that could come as early as next week. His allies cautioned, however, that a final decision on a preferred model has not yet been taken.

Miles Celic, chief executive of TheCityUK lobbying group, said: “This has been our plan A, plan B and plan C for about 12 months or more.”

Stephen Jones, chief executive of UK Finance, which represents around 300 firms, said: “Through mutual recognition, closely aligned standards and supervisory co-operation, we can preserve some of the benefits of market access without sacrificing regulatory autonomy.”

The proposal was developed by the International Regulatory Strategy Group, an industry body that consulted widely across the EU, as an alternative to the EU’s “equivalence” regime that applies to third countries.

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Europe holds all the cards in the Brexit talks Rachel Kent, a partner at law firm Hogan Lovells and chair of the IRSG’s work on the plan, said equivalence — the EU’s usual method for dealing with financial services providers in third countries — was “sub-optimal for a variety of reasons”. She said it covers only about a third of financial services activities, it requires third countries to shadow new EU laws and “equivalence” designations can be withdrawn by Brussels with 30 days’ notice.

But the EU27 is set to take a tough line on financial services, knowing that protecting the City is one of Britain’s principal negotiating objectives. Any deal is likely to come very late in negotiations. While the EU’s free trade deal with Canada — often cited as a model for post-Brexit Britain — does talk about regulatory co-operation on financial services, EU officials say this is about encouraging closer alignment of standards rather than granting market access.

Mr Barnier said last month that even an ambitious trade deal could not change the fact that the UK would need to rely on equivalence — the standard market access arrangements for non-EU countries.