What Works: Success in Stressful Times

(#litres_trial_promo) in the world. New York is slightly bigger overall on most measures-not all-thanks to its huge domestic business. Much the same applies to Tokyo. But if you take cross-border business, London is the clear leader from New York, and Tokyo is hardly in the running at all. So London has a fair claim to be called the financial capital of the world.

The reasons for this are partly historical, going back to the days of empire and the pre-1914 role of London as supplier of investment capital to the world. But that role was to be severely undermined by the loss of wealth from two world wars, while Britain’s proud status as a manufacturing nation gradually declined. The resulting weakness of the pound meant Britain could not return to its previous position.

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In the 1960s, however, the City began its revival when it discovered it did not need to use sterling but could turn to other currencies instead. That insight, coupled with applying the telephone trading system of the foreign exchange market to dealing in deposits, lead to the creation of the various Eurodollar markets. Banks borrowed other currencies, mainly dollars, and issued bonds and made loans in these rather than in sterling.

This allowed the City to regain its status as a world banking centre, with foreign institutions flocking in to trade in these new markets: by the end of the 1960s, there were more foreign banks in London than in any other city in the world.

(#litres_trial_promo) Gradually the merchant role of the capital diminished. Instead of being a place where goods and raw materials were actually traded, the job of my grandfathers, finance ruled.

There was no plan-no single mind that declared the balance of activity should shift in this way. What happened was that the banking techniques built up to finance trade and investment became more profitable than the actual trading itself.

The Euro markets were discovered almost by accident, with a couple of City bankers spotting the opportunity for London to do business that had previously been carried out in New York. In 1963 the USA introduced a tax on foreign bonds issued in New York-a spectacular own-goal.

(#litres_trial_promo) And when it did so, the Bank of England helped choreograph the City’s response. But it did not plan it; what it did was to welcome foreign banks that wanted to set up in London, even providing them with staff to help them do so.

What the City was very good at-still is-is exploiting opportunities as they arise. Indeed its whole ethos is not to plan but to respond with astonishing vigour to market signals. One effect has been to secure London’s position in international banking; another, to allow foreign banks to have the largest share in London’s business.

A second example of this opportunistic approach-and its consequences-was the Big Bang of the 1980s. While London had become the largest single centre for international banking, its securities trading-issuing and dealing in bonds and shares-remained a parochial business. There was a set of interwoven restrictive practices that kept foreign companies from taking part in British business. For one thing they could not in practice become members of the London Stock Exchange, and for another, London operated on a different trading system from the rest of the world, splitting all trading in domestic securities into two separate types of company. There were brokers, who could only act on behalf of customers buying and selling shares and could not deal on their own account. And there were jobbers, who were only allowed to deal with brokers. Commissions were fixed. The Bank of England issued government securities, or gilts, only through a handful of specialist banks called discount houses. And so on.

Meanwhile, other parts of the City were busy trading in international shares and bonds, where these restrictions did not apply. On one day, 27 October 1986, all the barriers were blown away-hence the expression Big Bang.

(#litres_trial_promo) London shifted to the global system of share trading.

What then happened was that foreign financial institutions took over the British-owned ones. Nearly all the larger brokers and jobbers sold out, and after a few years most of the City’s famous merchant banks disappeared too.

In essence, this was a deal: Britain traded national ownership of its investment banking business

(#litres_trial_promo) for dominance of international securities trading. It was not planned this way; most people expected that British-owned businesses would succeed in keeping a decent proportion of trading, and there were in the early days several large British groups. But they all disappeared, selling out to foreign competitors or simply shutting up shop. London retained even less control over investment banking than it had over commercial banking. It created the marketplace and cared little as to who might play on it.

The most recent example of the City’s pragmatism has been the way in which it has jumped into the gap and gained ground on New York post the terrorist attacks of 11 September 2001 and after the collapse of the energy group Enron

(#litres_trial_promo) in a whirlwind of financial scandal. Since 2001 the USA has introduced a number of restrictions, some designed to improve security, some to improve financial regulation. Among these are simple measures such as visa restrictions, making it harder to employ non-Americans in New York. Others are more complex-the interplay of the Sarbanes-Oxley

(#litres_trial_promo) corporate legislation, which puts onerous restrictions on companies listing their shares in the USA, and various other financial regulations.

There was no specific plan for London to use all this as an opportunity to increase its share of financial business, but that was the outcome. In 2006, for the first time, more money was raised for businesses in London than New York. US businesses found it easier to expand in London; it was not hard to hire non-national staff and they found the regulation more pragmatic. Meanwhile, international companies preferred to list their shares in London because that avoided Sarbanes-Oxley. And international investors, particularly those from the Middle East and Russia, preferred to deal through the UK rather than the USA, partly for political reasons, partly for timezone reasons, and partly because of the social and other attractions that London offered.

The result: London becoming once again, as it had been 100 years earlier, the centre of the earth for finance. The difference is that this time it is foreigners as much as Britons, and foreign money rather than British money, that have driven it to this position.

(#litres_trial_promo) This has led some to suggest it has been a Faustian bargain. The benefits may be obvious-not just the wealth and employment the industry generates but the intangible advantages of being the most important single place choreographing the process we call globalization. The costs-the loss of national control of a key industry and the heavy reliance on a single industry-must raise concerns.

The downside of the Faustian bargain became particularly evident after the collapse of confidence in international financial markets in the autumn of 2008. London was as hard hit as anywhere, though it is worth noting that the principal problems arose in the USA rather than the UK and that within the UK it was the two banks headquartered in Edinburgh, not London, that were hardest hit.

The damage to the global financial services industry was severe and it will take the best part of a decade to reconstruct the industry. As far as the UK is concerned the globalization of financial services has enabled the country to gain international influence in exchange for the loss of national power. Until the autumn of 2008 London’s financial services industry had been one of the great beneficiaries of this phenomenon as well as a driver of it. I am pretty confident that in the medium term it will retain that role, as it has done in the past when faced with equally severe challenges. But, as we have seen, the interaction between globalization and finance does mean that while there are lessons in the City’s success story, there can be dark twists to it too.

2. WHAT ARE THE LESSONS?

The lessons come at three levels. The simplest, and the one most closely studied in places as diverse as Dublin and Dubai, is how to create an international financial services industry. The second is how people interact to create a lasting marketplace that is flexible to new demands yet carries on a set of core values that are passed like a baton to the next generation. And finally there is the broader impact of the financial services industry and in particular how, in the case of London, it is associated with other aspects of the economic success story in the south-east of England.

As far as the first is concerned, consider the parallel with the motor industry. If a country wants to start a motor sector from scratch, it either encourages some of its existing industrial companies to set one up or it goes and gets in foreign companies to do it instead. South Korea took the first path; Slovakia the second. You just need expertise, which you can buy, and reasonably cheap labour. But with finance things are more complicated. Why should international financial organizations come to a new place to set up a business? How do you develop the pool of talent? It is much easier to build a motor industry or indeed lose one to foreign competition, than it is to build and retain financial services. A car factory is a car factory; a financial centre is a complex web of different skill-based businesses that takes years to develop. That is one reason why London has fought off challenges from other European centres, such as Frankfurt and Paris.

So the base of skills in London is deeply embedded. But the City has done something more: it has become a magnet for skills too. Indeed had London financial institutions just managed on the available pool of British workers, the City could never have succeeded in the way it has. It has imported talent at the highest level from all over the world. How? Well, of course, the answer is partly about money:

(#litres_trial_promo) an international financial post in London pays, as a rough average, double the rate for the equivalent role in Paris or Frankfurt. At the top skill levels the disparity is even greater. In some specializations, though not all, the London pay package is larger than the New York one.

But it is also culture-the open attitude to foreign talent. This goes back centuries: most of the top merchant banks of the nineteenth and twentieth centuries-the Rothschilds, Schroders, Kleinworts and Warburgs-were founded by people from the Continent. Go to the huge Reebok health club at Canary Wharf and listen to the cacophony of foreign languages and accents.

The City is also open to Britons of modest background and education-there is no ‘credentialism’. Even now, many high-earners in the dealing rooms and insurance markets have not been to university. There is a long tradition of that open attitude. For example, both my grandfathers had modest starts in life: one was the son of a Highland Scottish shepherd, the other came from a poor family in the East End of London.

The first question, then, for any budding financial centre is how to attract the people. Getting financial capital is easy: you give tax breaks to companies. Getting human capital is much more complicated.

People are the key to building a financial centre. They are also the key to its survival down the years. Somehow each new generation has to take on the ethos built up by the previous generation-or at least the positive aspects of it-and modify it to fit new conditions. There are fascinating similarities between people in the City now and those a generation ago. Most obviously money is a powerful motivator, but it is not just that. Money is a way of keeping the score-it says how good you are-and successful people are hugely competitive. But there are also social limits to competition in this business, for people have to play in teams; loners do not do well. Sustained success is achieved partly by competing, but also by co-operating.

A further element for lasting success is effective regulation. Even ahead of the current crisis London has had its regulatory failures: in banking the collapse of Bank of Credit and Commerce International;

(#litres_trial_promo) in pensions the stealing from workers by Robert Maxwell;

(#litres_trial_promo) and in insurance the near-collapse of Lloyd’s of London.

(#litres_trial_promo) We now know that the changes to the system put in by the Labour government of 1997 at best failed to insulate London from inherent weaknesses in the international financial system and at worst contributed to the failure. On the other hand the model adopted by the British authorities for the rescue of the banking system worked comparatively well and became a model for bank rescues in other countries.

But to see the City through the prisms of regulation and rescue seems to me to be a narrow and distorted way of looking at the place. In any case banking is only one part of the financial services industry, albeit an important one, and over the years London’s regulatory advantage over New York has encouraged most major US banks and securities houses to base their international business there. As for Tokyo, its obstructive system is one of the reasons why it has failed to become a truly international centre, as many had expected back in the 1980s.

Regulation is only a means to an end. That end is to have efficient, open and transparent markets. And arguably London is able to get away with lighter regulation because it has managed, compared with other centres, to sustain a reputation for fundamental straight-dealing through many incarnations of regulatory environment.

I do not think anyone fully understands how this spirit endures down the generations. There must be some element of peer pressure to do the right thing. There must also be a continuing climate of openness-of looking to the world rather than just to the UK or to Europe. But I think the strongest glue holding the City together over time is simply the profound embedded appreciation of the power of the market. Do not over-intellectualize. Respond instead to whatever the market signals that people want and then you will make money. And by making money you will have served a social as well as an economic purpose.

This may be a bit idealized-a vision of City aspirations that is, for many workers in the financial services industry, a long way from their own experience. There are plenty of greedy people in London, quite a few crooks who will manipulate markets to their own advantage. There has been quite a lot of insider dealing and, as we are now well aware, quite a lot of excess. To many people this is distasteful, and even enthusiasts for the City would have to acknowledge that these excesses undermine both its reputation and ultimately its performance.

But there is no denying that it has brought home the bacon for the economy of the capital and the south-east of England. Inner London is the richest place in Europe in terms of GDP per head.

(#litres_trial_promo) The biggest single impetus transforming the UK from having a per capita income towards the bottom of the European league table in the early 1980s to one close to the top by the early 2000s has been the strength of its financial services industry. That dominance brings problems, of which more in a moment, but it has brought prosperity to millions.

There is a list of features about London that goes beyond finance: more visitors through its airports than any other city in the world; more international telephone calls; the largest non-national professional community on the planet; more book titles published than anywhere else. According to United Nations data

(#litres_trial_promo) the UK exports more cultural products and services than any other country including the USA.

There are, of course, many other elements of the economy, especially education, communications and culture. But the City has been the engine driving it all along.

•Become a magnet for skills •Develop an open attitude to talent •Appreciate the power of the market

3. WHAT COULD GO WRONG?

In 2008 the engine faltered. The world had a classic financial market crash, leading to a serious global economic recession, one that may eventually turn out to be deeper than any since the Second World War. Writing at the end of 2009, it was still not possible to judge the extent to which London-based institutions contributed to the collapse. The blame game had some way to run. Pointing out that, as far as UK institutions were concerned, the most serious problems occurred in banks that were headquartered elsewhere, particularly in Edinburgh and the north of England, cut little ice. The financial breakdown originated in the USA rather than the UK or continental Europe but financial institutions everywhere found themselves under the cosh. It is true, too, that there have always been crashes and there always will be crashes in the future. But inevitably and understandably the reputation of the City was seriously damaged, just as it was by previous disasters, including the dot-com bust and the subsequent collapse in share prices. And while all financial centres that were involved in international business suffered, the London economy and financial services in particular took a huge blow.

Markets recover; confidence returns; growth resumes. It is too early to make any firm judgements but to me the damage of 2008/9 both to the world economy and specifically to the City feels very like the damage during the 1970s. The world then was racked by runaway inflation and experienced what was its most serious post-war recession to date. The key difference, aside from the fact that inflation is under control, is the world economy is vastly more global than it was forty years earlier.