March 2009 International Financial Centres in the post-crash era Vanessa Rossi, Senior Research Fellow, Chatham House

Overview The global recession and financial storm has not yet abated – a stress test of survival The crisis has highlighted the massive increase in balance sheet risks compared with national incomes Iceland marked the end of the “small country-big bank” model of global finance Yet banks will become more important as financial intermediaries if saving deposits rise and retail investors shun risk: the “Tokyo scenario” 2

3 World trade smashed by storm Exports in US $ trillion: 2007 data versus 2009 estimates 2009 may be down 20-30% versus 2007 data – larger losses for Japan and the energy exporters Source: WTO

Risk averse High growth and inflation Low growth and inflation Investment trends: exodus from risk creates global asset imbalance Risk taking The US: “The Anglo Saxon Model” US financial wealth was $60-65trn, over 4x GDP Under 15% of household wealth in bank deposits, as much as 50% in equities and corporate bonds JAPAN: Cash Wealth $30 trn Nearly 55% of household wealth in bank deposits The EU: “Balanced Portfolio” Total financial wealth similar to US But household wealth held in equities lower

Holdings of debt, equity and deposits 2008 – shaded areas represent estimated losses in equity values by March 2009

Wealth losses almost 1 year ’ s GDP - equities shrink, role of government rises WORLD FINANCIAL WEALTH TOTAL SHRINKS FROM $200 TO $160 trillion? BANK DEPOSITS and CASH around $70 trillion Larger than world GDP of $55 trillion EQUITIES - OTHER ASSETS VALUE FALLS From peak $65 to $35trillion? GLOBAL TOXIC ASSETS $3-5trillion? TOTAL BONDS VALUE DOWN FROM $65 to $55 trillion Government share up from 50% to 60-65% Government debt up, corporate bonds fall

Implications: Big banks: few “global players”, a cluster in the US, China and Japan and, arguably, the Gulf region backed also by “oil deposits” Europe - cross-border issues? Other IFCs will have to focus heavily on financial services with low balance sheet exposure – stiff competition London may be the most affected of the major financial centres – this crisis is the banking equivalent of previous restructuring in reinsurance and Lloyds of London 7

Japan ’ s banks: expand assets abroad liabilities assets JAPANESE BANK DEPOSITS TOTAL $10 trillion PRIVATE SECTOR LOANS $5 trillion FOREIGN ASSETS $2 tn LIABILITIES $1 tn Prudential reserves $0.2 trillion LOANS TO GOVERNMENT $3 tn about 35% of Gov Debt

China ’ s banks: “ cash ” now mobilised liabilities assets CHINESE BANK DEPOSITS TOTAL $ trillion PRIVATE SECTOR LOANS $5 trillion FOREIGN ASSETS $0.3 tn LIABILITIES $0.1 tn Prudential reserves Over $1 trillion LOANS TO GOVERNMENT $0.5 tn about 100% of Gov Debt Policy easing

10 Economic ranking by size of GDP – which countries are big enough? GDP estimates ($ tn) RankRegion EU (inc UK)1725 2US1421 3Japan4.47 4China Canada, Brazil, Russia, India, Korea 1-1.5(India) 3 =10GCC total, Mexico, Australia0.8-1(avg.) ~2 World total

Comparison of GDP and Stock Market Capitalizations as Shares of World

Shares of World GDP (%) (chart data at 1990 constant prices, own estimates) China the only economy gaining share It is the only sizeable contender of the BRICs Stock market capitalisations will broadly follow these GDP trends

Japan’s shares in world economy and markets Japan’s shares in world wealth and other market indicators much larger than share in global GDP

Japan is the 3rd largest bond market Larger share in global bonds than equities: approx 15% versus only 8% share of world GDP and equities

Holding of JGBs by foreign investors trend up but still low, close to $0.5 trillion

Potential growth in foreign investment in Japanese markets High estimate: bond holdings rise to match equity stakes Low estimate: no increase in holdings except for modest increase in equity investments based on maintaining share of market

17 The Asian debt market should expand Critical to rebalance global asset demand and supply and to fund development in low savings countries such as India, Bangladesh, Vietnam Potential to grow dramatically - possibly $1trillion pa? Japan would be a key participant here e.g. Samurai bonds: “rare oasis” during credit crunch. Froze after Lehman collapse but reopened in February: $2.2bn (Westpac), $1.5bn (Indonesia)

18 MARKET OPINION?

The March 2009 City of London Survey: Tokyo and Sydney drop below top 10 GFCI4 (Fall 2008) 1London 2New York 3Singapore 4Hong Kong 5Zurich 6Geneva 7Tokyo 8Chicago 9Frankfurt 10Sydney 23Dubai 27Melbourne 34Shanghai 43Bahrain 45Qatar GFCI5 (Spring 2009) 1-London 2-New York 3-Singapore 4-Hong Kong 5-Zurich 6-Geneva 7+1Chicago 8+1Frankfurt 9+2Boston 10+3Dublin 15-8Tokyo 16-6Sydney 23-Dubai 28Melbourne 35Shanghai 19

Recommendations regarding the City of London Surveys Two possibilities for consideration: (1) The report may be more widely understood and accepted as a barometer of IFCs performance and strength if it were to adopt a two-pronged strategy and rankings: Firstly comparing countries’ leading international financial centres (ex: London, New York, Tokyo) Secondly comparing secondary (regional or niche) financial centres around the world (ex: Chicago, Geneva, Channel Islands) This might help focus attention on the most critical factors in the international surveys and underlying changes in view. (2) Greater methodological weight could be placed on the size and development of financial sectors rather than on “ease of access” type factors. We agree that it is important to preserve the nuances brought into the survey by the direct personal input of market participants and these are not an issue.

GFCI5 divided into international and secondary centres: more representative GFCI5 - International 1London (UK/Europe) 2New York (US/Americas) 3Singapore (SE Asia) 4Hong Kong (China/SE Asia) 5Zurich (Switzerland/Europe) 6Frankfurt (Germany/Europe) 7Toronto (Canada) 8Tokyo (Japan/Asia) 9Sydney (Australia/Pacific) 10Paris (France/Europe) 21 GFCI5 - Secondary 1Geneva 2Chicago 3Boston 4Dublin 5Guernsey 6Jersey 7Luxembourg 8San Francisco 9Isle of Man 10Edinburgh

Other rankings: looking beyond IFC competitiveness surveys WEF Financial Development Report United States 2United Kingdom 3Germany 4Japan 5Canada 6France 7Switzerland 8Hong Kong 9Netherlands 10Singapore PWC – Cities of Opportunity (Financial clout – 11 cities) 1New York 2London 3Paris 4Tokyo 5Frankfurt 6Toronto 7Chicago 8Atlanta 9Los Angeles 10Singapore MasterCard – Worldwide Centers of Commerce London 2New York 3Tokyo 4Singapore 5Chicago 6Hong Kong 7Paris 8Frankfurt 9Seoul 10Amsterdam

23 THANK YOU