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

0.00

0.20

0.40

0.60

0.80

1.00

1.20

1.40

1.60

1.80

EU (27)

China

US

Japa

nGCC

Canad

a

Korea

Russia

Hong

Kong

Singap

ore

$ t

rilli

ons

2007

2009

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

0.0

5.0

10.0

15.0

20.0

25.0

30.0

US EU (G5+Euronext) Japan China

$ tr

illio

ns

Bond Market

Bank Deposits

Stock Markets

GDP

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 ASSETSVALUE FALLS

From peak $65 to $35trillion?

GLOBAL TOXIC ASSETS $3-5trillion?

TOTAL BONDSVALUE 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

$6.5-7.0 trillion

PRIVATE SECTOR LOANS $5 trillion

FOREIGN ASSETS $0.3 tn

LIABILITIES $0.1 tn

Prudential reservesOver $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)

Rank Region 2007 2017

1 EU (inc UK) 17 25

2 US 14 21

3 Japan 4.4 7

4 China 3.4 12

5-9 Canada, Brazil, Russia, India, Korea

1-1.5 (India) 3

=10 GCC total, Mexico, Australia 0.8-1 (avg.) ~2

World total 54-55 95-100

Comparison of GDP and Stock Market Capitalizations as Shares of World

SWI HK

SGP

CHI EuronextGERUK

J AP

USA

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

0.0% 10.0% 20.0% 30.0%

Market Capitalization (Share)

GD

P (

Sh

are)

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

0

5

10

15

20

25

30

1970

1973

1976

1979

1982

1985

1988

1991

1994

1997

2000

2003

2006

Japan

Eurozone

US

UK China

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

GDP8%

Broad Money14%

Bond Market15%

World Wealth15%

World wealth held abroad

20%

Stock Market Capitalization

7-9%

0%

5%

10%

15%

20%

25%

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

6.88.5 7.8

5.6

18.4

8.4

1.73.7

0

5

10

15

20

25

30

US EU Japan Rest

$ trillion

Other

Government

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

6.6%

5.8%

6.3%

5.6%

5.1%

5.4%

4.6%4.7%4.6%

5.0%

4.2%4.2%

4.0%

3.0%

3.3%

3.6%

0

5

10

15

20

25

30

35

40

45

50

Ho

ldin

gs (

Tri

llio

n Y

en

)

0.0%

1.0%

2.0%

3.0%

4.0%

5.0%

6.0%

7.0%

Perc

en

t o

f T

ota

l H

old

ing

s

Holdings

Percent

Potential growth in foreign investment in Japanese markets

0.0

1.0

2.0

3.0

4.0

5.0

2007/2008 2017

($ t

rill

ion

s)

Total Investment

Value of equity investments

High

Low

• 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)

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MARKET OPINION?

The March 2009 City of London Survey: Tokyo and Sydney drop below top 10

GFCI4 (Fall 2008)

1 London

2 New York

3 Singapore

4 Hong Kong

5 Zurich

6 Geneva

7 Tokyo

8 Chicago

9 Frankfurt

10 Sydney

23 Dubai

27 Melbourne

34 Shanghai

43 Bahrain

45 Qatar

GFCI5 (Spring 2009)

1 - London

2 - New York

3 - Singapore

4 - Hong Kong

5 - Zurich

6 - Geneva

7 +1 Chicago

8 +1 Frankfurt

9 +2 Boston

10 +3 Dublin

15 -8 Tokyo

16 -6 Sydney

23 - Dubai

28 -1 Melbourne

35 -1 Shanghai

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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

1 London (UK/Europe)

2 New York (US/Americas)

3 Singapore (SE Asia)

4 Hong Kong (China/SE Asia)

5 Zurich (Switzerland/Europe)

6 Frankfurt (Germany/Europe)

7 Toronto (Canada)

8 Tokyo (Japan/Asia)

9 Sydney (Australia/Pacific)

10 Paris (France/Europe)

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GFCI5 - Secondary

1 Geneva

2 Chicago

3 Boston

4 Dublin

5 Guernsey

6 Jersey

7 Luxembourg

8 San Francisco

9 Isle of Man

10 Edinburgh

Other rankings: looking beyond IFC competitiveness surveys

WEF Financial Development Report 2008

1 United States

2 United Kingdom

3 Germany

4 Japan

5 Canada

6 France

7 Switzerland

8 Hong Kong

9 Netherlands

10

Singapore

PWC – Cities of Opportunity (Financial clout – 11 cities)

1 New York

2 London

3 Paris

4 Tokyo

5 Frankfurt

6 Toronto

7 Chicago

8 Atlanta

9 Los Angeles

10 Singapore

MasterCard – Worldwide Centers of Commerce 2008

1 London

2 New York

3 Tokyo

4 Singapore

5 Chicago

6 Hong Kong

7 Paris

8 Frankfurt

9 Seoul

10 Amsterdam

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THANK YOU

www.chathamhouse.org.uk/internationaleconomics