The value of financial centres redux
When I started this blog over 15 years ago, one of my earliest posts was entitled Are Financial Centres Worthwhile? The conclusion was that though the annual benefits from a financial centre appear to be meagre, they may perhaps be worthwhile because these benefits continue for a very long time as leading centres retain their competitive advantage for centuries. At least, most countries seemed to think so as they all eagerly tried to promote financial centres within their territories. But that was before (a) the Global Financial Crisis and (b) the current process of deglobalization.
Yesterday, the United Kingdom finalized the Brexit deal with the European Union, and the UK government rejoiced that they had got a trade deal without surrendering too much of their sovereignty. There was no regret about there being no deal for financial services. The UK seems quite willing to impair London as a financial centre in the pursuit of its political goals. China seems to be going further when it comes to Hong Kong. It has been willing to do things that would damage Hong Kong to a much greater extent than Brexit would damage London. Again political considerations have been paramount.
Decades ago, both these countries looked at financial centres very differently. After World War I, the UK inflicted massive pain on its economy to return to the gold standard at the pre-war parity. In some sense, the best interests of London prevailed over the prosperity of the rest of the country. Similarly during the Asian Crisis when Hong Kong’s currency peg to the US dollar seemed to be on the verge of collapse, then Chinese Zhu Rongji declared at a press conference that Beijing would “spare no efforts to maintain the prosperity and stability of Hong Kong and to safeguard the peg of the Hong Kong dollar to the U.S. dollar at any cost” (emphasis added). The major elements of that “at any cost” promise were (a) the tacit commitment of the mainland’s foreign exchange reserves to the defence of the Hong Kong peg, and (b) the decision not to devalue the renminbi when devalations across East Asia were posing a severe competitive threat to China. In some sense, the best interests of Hong Kong prevailed over the prosperity of the mainland.
Clearly, times have changed. The experience of Iceland and Ireland during the Global Financial Crisis demonstrated that a major financial centre was a huge contingent liability that could threaten the solvency of the nation itself. Switzerland was among the first to see the writing on the wall; it forced its banks to downsize by imposing punitive capital requirements. Other countries are coming to terms with the same problem. Deglobalization adds to the disillusionment about financial centres.
Today, countries are eager to become technology centres rather than financial centres. How that infatuation will end, only time will tell.
Posted at 7:43 pm IST on Fri, 25 Dec 2020 permanent link