London will remain the major financial centre of Europe, even with the UK’s decision to leave the EU.
Much of the City’s appeal is Brexit-proof: the skills, knowledge, language, lifestyle and deep-rooted infrastructure spanning legal, consulting and technology. These cannot be easily replicated across the EU. Of course, there are niche financial centres in western Europe, whether it be Dublin, Luxembourg, Geneva or Zurich. These may gain business in coming years but we expect London to thrive too.
At the time of the UK’s “Big Bang” in the late 1980s, Amsterdam, Paris and Frankfurt were trying to attract the international firms that came to London. Big Bang was the UK’s reaction to New York’s competitive threat, and it worked. This provides an important lesson for the future. While politicians and bureaucrats clearly can have a bearing on the outcome, ultimately London has to be competitive in order to grow. It needs to be a place that people want to do business “in” as well as to do business “from”.
There are many different facets to this debate: global, regional, national and even firm specific. Globally, London needs to compete with New York, Singapore, Hong Kong and even Shanghai in the future. In recent years, London has made considerable efforts to be the place to do business from. Offshore renminbi, Islamic finance and “green bonds” are examples of the latest areas where London is in a strong position, and highlight an innovative zeal that it must retain.
The City needs to watch out for changes in other global centres. In this sense, President Trump’s “America First” approach to financial regulation could have profound implications. His executive order reviewing financial regulation signals a potential major shift in the post-crisis regulatory landscape. This could boost New York’s appeal. The UK needs to avoid a race to the bottom on regulation, but be mindful of any regulatory fragmentation between the US and Europe and the dilemma it might pose.
At a regional level, the UK is trying to avoid a messy break and is opting for a clean Brexit from which a comprehensive free trade deal with the EU can be agreed. As outlined in the Article 50 letter, it is a constructive approach.
Yet for financial institutions in the City, one size does not fit all. Investment banking, fund and asset management, and insurance all have different business approaches.
There are many issues that need to be addressed: passporting is key for some firms, as is euro clearing for others. All would like to see less uncertainty, for instance early clarification on the ability to attract skilled labour from across the globe, and some have called for a transition period to ease adjustment.
But it is not just Brexit that brings with it challenges and opportunities. There are many non-Brexit related issues the City must not lose sight of too.
Tail risks are much higher. The Systemic Risk Council, for instance, has warned that the combination of stalling of Basel banking reforms, repealing parts of the Dodd-Frank Act, and the potential divergence between EU and UK financial policy risks triggering a financial crisis.
This challenge is particularly relevant in the context of current monetary policy. Since the financial crisis, monetary policy has been the shock absorber across western economies.
This prompts several questions. Are markets pricing properly for risk? In a low interest rate environment, there has been a search for yield, pushing some markets to high levels.
Another important question is: what constitutes a risk-free asset? Normally one would say government bonds and housing. But with the prices of both high, is this still the case? Also, how vulnerable might western economies and markets be to monetary policy tightening? The US and UK economies, after all, are at the stage of the economic cycle where they might usually be expected to slow. Such a cyclical UK slowdown should not be conflated with Brexit.
This points to the need for predictable and gradual actions by central banks. And a need for a broader debate as to the drivers of monetary policy, including whether factors such as “liquidity gaps” should be more important than “output gaps” in policy thinking.
Additionally, there are wider political and geopolitical risks, and cyber security is now high on the agenda. This is important both at a firm and national level. An example of the latter risk might include the resilience of the payments system.
Overall, Brexit will dominate much of the City’s immediate thinking. There are challenges and unknowns but there will be huge opportunities too. It is in the EU’s and UK’s interests for the City to remain globally competitive and remain Europe’s capital market. But Brexit is also a reminder that the City needs to continue to keep a close eye on global risks and opportunities.