America's fall from financial pre-eminence

Hamish McRae

If they want to do international business, US banks have to do it in London, not New York

Published: 24 January 2007

So New York is no longer the world's leading financial centre, for that crown is passing to London. If you wanted to choose a moment when the US financial establishment realised that the financial power of America was waning, this week is as good as any. But that power is not just shifting to London or Europe but to places such as Hong Kong, Shanghai and Mumbai, as power shifts to Asia.

On Monday a report by McKinsey, the management consultants, argued that Wall Street was losing ground to other centres, most notably London. It was commissioned by New York's mayor, Michael Bloombergand the New York senator Chuck Schumer, and reflects concern at the highest level in the US. It follows the news that last year for the first time ever more money was raised in London than New York by companies floating on the stock exchanges in each city.

This is a story at two levels. There is the specific one about the battle between London and New York and there is a larger and, I believe, more important one about the loss of US financial power more generally.

The London/New York rivalry is quite straightforward. For years London has done more international financial business than New York: more international bank loans, more foreign money being managed, more foreign bonds being traded and so on. But the huge size of the US domestic financial market has meant that New York was bigger overall.

Now that is starting to change for two reasons. One is that international business is growing more swiftly than national; the other, that the US has shot itself in the foot by insensitive policies.

International business more naturally comes to London, so the Indian, Chinese and other Asian companies seeking to raise money make this their first call. Recently there has also been a surge in the wealth being generated in Russia and the Middle East, largely as a result of rising oil and gas prices, and the owners theretend to look to London to run a large part of that wealth. Time zone and physical proximity alone would attract it here.

This trend has, however, been reinforced by US action. After the Enron scandal the Congress brought in the Sarbanes Oxley regulations, which in a nutshell required directors to verify what they said in company accounts was true. You might imagine that this was what they should have been doing in the first place, so in principle there should have been no objection. In practice, given the way US law operates, it is very onerous, and it applied not just to US companies but any foreign one raising money in the US. So you raise it instead in London, or maybe Hong Kong.

Added to this is the hardening of US immigration procedures. This affects both staff and customers. It is very difficult to get a US work visa for a Briton or a European but it is easy to get a UK visa for a highly-skilled American - a friend recently got one in six weeks. And of course Europeans don't need visas to work here. As for customers, particularly from the Middle East and Russia, going through US immigration can be a nightmare.

So if they want international business, US banks and securities houses have to do it in London, not New York. Just before Christmas I heard the UK head of a huge US financial service company telling a Treasury seminar they planned to expand their London operation still further.

Even European-based financial companies are in pretty much the same position: if they want international business they have to come here. London should not be complacent and there will be leakage to other centres such as Dublin and Zurich, which offer tax advantages. The example of New York is a sobering one but provided we don't do anything really stupid, which I suppose we might, the position of London is reasonably secure.

The bigger issue, though, is the waning of American financial power. Now you have to be careful here because the US remains the world's largest economy, accounting for about one-third of world output, and will remain the largest for another generation at least. The fact that London raises more money for companies sounds good but it does not change the reality of US economic weight. In any case the money raised in London is organised, in large measure, by US investment banks.

But that is the snapshot of the world economy now. If you take a moving picture, looking instead at the dynamics of global growth, the picture is rather different. The twin Asian giants are rapidly overhauling the present developed world, with China growing at more than 10 per cent a year and India at 8 per cent. Together they will have accounted for almost as much extra economic activity last year as the US.

Further, if you look at world savings, Asia now accounts for roughly three-quarters of the additional savings accumulated each year. The US has become the world's largest debtor, relying on foreign savings, invested in US securities, to cover its current account deficit. One of the reasons why the dollar is so weak is because owners of those savings, particularly the Chinese authorities, seem to be diversifying out of dollar investments and into euro and sterling ones. Middle Eastern money, for obvious reasons, is tending to go to other jurisdictions too.

Foreign owners of assets are not diversifying as a political gesture, for when politics and financial-self interest clash the latter usually wins. So yes, they will keep some money in America. But it does not make sense to keep as much there as they have in the past. Result: a weaker dollar, as we saw with the $1.99 rate yesterday.

Americans find it rather hard to cope with this. They complain about the prices in London when they convert into dollars but of course that is what happens if you have a weak currency. It is not, however, just a question of foreign places being expensive for Americans. It is the vastly bigger issue of American money in all its forms no longer dominating world markets.

You can see that in London. Sure, some of the buyers for expensive homes are Americans but more are from elsewhere: Russia, the Middle East, India, China and so on. More importantly, you can see it in bidders for British companies: a generation ago these almost invariably came from the US. Now they are more likely to come from Europe or Asia.

That phenomenon is being repeated all over the world. China is the largest investor in Africa, using its financial might to secure access to resources and in effect deploy its economic power.

I am not sure to what extent the US establishment is aware of this. Yes, it is now aware of the slippage of the position of New York, but the slippage of US financial power more generally? A difficult reality dawns.