Friday, November 28, 2014
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A Movable Financial Feast

LONDON – There was a time when league tables were to be found only on the sports pages of newspapers. Now they are a global obsession.

There are school and university league tables, rankings of companies on profitability or corporate social responsibility, tables of happiness indicators by country, and tables that attempt to rank consumer brands by value. There is even a league table of the world’s funniest jokes (I did not laugh much).

The financial world is also full of such rankings. Investment bankers wait with bated breath for the merger and acquisition league tables, even though the link between a high ranking and profitability is somewhere between loose and non-existent. Bank league tables have been with us for a while, and now tend to be based on capital strength, rather than asset volume, which is an improvement of sorts, but still not very meaningful.

There are also now several different league tables – which are generating considerable angst – that rank financial centers based largely on surveys of firms. How badly the financial crisis damaged the reputation and performance of the major Western centers is a question increasingly asked in London, and to a lesser extent in New York. (Some Americans tend to think that the world will beat a path to their door, no matter how badly they are received when they arrive!)

So far, the message from the most recent tables is not too alarming for the incumbents. A ranking prepared for the City Corporation in London shows New York and London still neck and neck at the top of the league. The Banker magazine produces another, with New York on top and London a close second – though the distance between them and their pursuers is narrowing. The scores in both London and New York for the quality and intensity of regulation, and the tax burden, have dropped. Firms seem nervous about the future in both areas. 

The most striking change in the rankings is the rise of major Asian financial centers – and not just Hong Kong and Singapore, but also Shanghai, Beijing, and Shenzhen. The Chinese have been explicitly promoting their financial centers, and the impact is beginning to be seen. The World Economic Forum’s Financial Development Index – yet another league table to consider – shows Hong Kong and Singapore very close indeed to London, with China now ahead of Italy on the overall measure of financial sophistication. Noodles are beating spaghetti.

Some of this is unsurprising. As the world’s center of economic gravity shifts east, the balance of financial activity is bound to move with it. On the principle that if something is inevitable, it is wise to welcome it, the appropriate response in London and New York is to find ways of collaborating with these new centers.

But the more important question for the traditional financial centers is whether international activity that can move really is moving. That is far harder to judge. There are anecdotes about individual hedge-fund managers moving to Geneva. Every time a government, or a regulator, announces some new control, or a tightening of existing controls, there are threats from bankers that they will pack up and leave town, taking their Porsches and mistresses with them. 

These threats, which used to have a lot of political impact, are now much less effective. Some politicians and commentators quickly say, “Good riddance.” Even the Bank of England has asked whether, given the cost of mopping up the mess caused by the latest crisis, it is worth playing host to a global financial market.

This is risky speculation. However badly bankers have behaved – and some clearly deserve a decade or more in the sin bin – financial services are a crucial element of London’s economy. If the financial sector declines, what will replace it in employment terms?

Airy talk about science and manufacturing as ladders out of recession (a favorite image of former British Prime Minister Gordon Brown) is just that – empty words. There are few, if any, examples of high-cost post-industrial societies reviving their manufacturing sector on a large scale once it has declined.

London, in particular, has no inalienable right to be a global financial center. The United Kingdom’s domestic market is, after all, much smaller than that of the United States.

Indeed, the location of financial activity has changed through the centuries. If incumbency were a permanent advantage, Goldman Sachs’ global headquarters would be in Babylon. There must be a tipping point at which some combination of higher taxation, more burdensome regulation, and a hostile political climate causes financial firms to relocate. 

There is a risk that Britain may now be approaching that point. That is why the UK’s Financial Services Authority, and even the Confederation of British Industry, which speaks largely for non-financial firms concerned about access to credit, has begun to call for a truce between the authorities and financial markets.

The next two or three months will determine whether peace breaks out, and, if it does, whether it will endure. As is always the case in peace negotiations, both sides must be willing to compromise.

Firms will need to show visible restraint when it comes to this year’s bonus round. The British government will not tolerate another jamboree. And governments on both sides of the Atlantic will need to decide just how far they want to go in punishing banks. Continued threats of ever-higher tax burdens could prove dangerously counterproductive. If we fail to settle on a new social contract between the state and the markets soon, those markets may indeed move elsewhere.

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