The importance of the City of London to the UK economy cannot be overstated. Employing 1.1 million workers, 3% of the country’s workforce, it also contributes a huge 10% of Britain’s total taxes. In the latest full financial year analysis (to 31 March 2020), PwC estimates the total tax contribution from the sector was £75.6bn, similar to 2019’s of £75.5bn, despite the coronavirus-induced recession. Billions in government-backed support loans have actually seen the financial sector expand enormously during the pandemic. But Covid adaptations have also shown City workers they can work from anywhere. Post-Brexit this presses uncomfortably on the question, why relocate to London, as a financial professional (40% of the City of London's workforce were born outside of the UK in 2019), or financial business, without the benefits of frictionless movement and trade with the EU. Given Britain’s economic reliance on the sector, the City of London’s competitiveness as an attractive place to do business is a key priority for the current government, and likely all future ones too.
The future of financial services
The UK government’s vision for the financial services sector is shaped around five key goals, be: 1) an open and global financial hub 2) at the forefront of technology and innovation 3) a world-leader in green finance 4) a competitive marketplace promoting effective use of capital 5) implementation of robust UK regulatory standards, while allowing innovation in the public interest. Monsur Hussain, senior director of financial institutions at Fitch Ratings, points out the UK’s relationship to three global players, the EU, the US, and China, “will be crucial in this, intertwined with geopolitical and national security considerations”. Evidence of the potential difficulties in how this may play out for the City post-Brexit was recently on display at the COP26 summit in Glasgow – hosting the world, in a conference centre or a financial centre, is hard when negotiating highly competitive politics, regulations and markets.
Since the end of the Brexit transitional period, HM Treasury and regulators have launched a number of reviews of the UK’s regulatory framework, in part to seek to boost the UK’s global competitiveness post-departure from common EU rules. Proposals to give regulators a secondary objective for international competitiveness, have been brought forward by HMT. Regulators are also reviewing particular areas, for example secondary markets through the wholesale markets review, and the Financial Conduct Authority (FCA) has already made some changes to the UK’s primary markets regime. Making ‘competitive’ a byword for less regulated risks backfiring, however. The FCA’s mandate to promote effective competition – alongside protecting consumers and enhancing market integrity – is caveated by the competition being in consumers’ interests. The City needs this too, says Isabelle Jenkins, financial services leader at PwC UK. “HMT and regulators have been keen to stress the UK’s regulatory regime will remain among the most robust in the world,” she notes. The City’s ongoing success as a global financial centre will “only be preserved through…a high quality and predictable regulatory framework, access to skills, proportionate tax regime and an environment where financial services firms can innovate and grow”, Jenkins adds.
Other financial centres
Alternative locations to pull on a perceived post-Brexit push away from the City are available. “New York is the only full-on competitor in capital markets and the likely beneficiary from Brexit,” says Alastair Winter, founder of Argyll Europe, who has advised on developments in global markets for the last 30 years. “Singapore is about family offices (especially Asian), private equity and tax avoidance/evasion. Geneva is a smaller European version of Singapore, albeit much longer established. Hong Kong will diminish as China draws in on itself. Amsterdam could become a major challenger to the City, but only in Europe,” he says of the viable candidates. In the 2021 global financial centres index London retained second place below New York as the most competitive place to do business, and remains the largest exporter of financial services in the world with the biggest trade surplus in the sector, totalling $80.6bn in 2020, according to analysis by The City UK lobby group. This is nearly the same as the next two leaders, the United States and Singapore, combined, and a 7.9% increase from 2019 (sector exports rose by 4% year on year, while sector imports declined by 6.8%). Adding in related professional services, the total surplus was $101.7bn in 2020, an 8.4% increase on 2019.
London’s deep investor base, useful mid-point time zone, and flexible and deep capital markets, all help companies be global, and all of which London still has post-Brexit. But the City will need to attract more businesses, listings, and headquarters, while prioritising quality and integrity. Reforming the UK’s primary markets regime has been a key area of focus for HMT and the FCA this year. “The Lord Hill and Kalifa reviews made recommendations designed to make the UK a more attractive place to list, particularly for fast growing founder-led companies and special purpose acquisition companies, which have typically chosen to list in New York or Amsterdam,” points out PwC’s Jenkins. Political change may also be a factor; the City’s traditional allies, Conservative politicians, haven’t done much for the UK’s reputation as a safe pair of hands lately, from former Prime Minister David Cameron’s catastrophic dealmaking for Greensill that involved him leaning on the Treasury, to current Prime Minister Boris Johnson’s often chaotic appearances at global summits, and awkward questions about corruption in Tory party funding. “The past few years of government sleaze have not helped others regard the UK as a standout integrity hub,” says Damian Burleigh, chief revenue and marketing Officer at Acuity Knowledge Partners, which provides analytics and business intelligence to the financial services sector. A bonfire of regulation risks welcoming institutions “of dubious provenance and that run contrary to UK participation in initiatives on climate change and tax evasion”, Winter says. It may also attract legitimate new ventures to the City, but “will encourage EU bodies and the ECB to ask financial institutions to shift business from London”, says Winter. Some firms will now prefer an EU base to a UK one in any case. “The mix of firms will be different in the City,” Burleigh says, though he has confidence now Brexit has materialised London listings will regain prominence.
While impressive, the UK’s financial services exports, which so vastly outweigh its imports, are highly concentrated; the US and EU account for fully two-thirds of total. Cross border activity from the UK to the EU has been significantly impacted by Brexit, falling 6.6% in 2020, to the extent that by January 2021, the end of the exit transition period, the US had overtaken the bloc to become the UK’s largest export market for financial services. Any good financial professional knows the dangers to a portfolio of a lack of diversification. Britain, having broken with its main trading bloc, the EU), only to rely on such a strong rival, (New York), for the continued success of its main export, (financial services from the City of London), may find itself in an uncomfortably weak position. To offset this, greater harmonisation may be necessary with the EU on financial services than hard Brexiters would wish. “Deviation between the EU and UK for the sake of it is costly and unnecessary,” says PwC’s Jenkins, “internationally consistent regulation is a significant benefit to firms operating in multiple jurisdictions and the UK should align its regulatory standards with those agreed internationally, and the UK generally does so”. Where it is appropriate for the UK to apply a different approach to the EU, she adds however, it should. For example the ongoing Wholesale Markets Review.
A centre for green finance
Climate crisis measures are a key battleground where, shortsightedly, environmental standards and competitiveness can be positioned in opposition to one another. “The role of climate change transition for the Square Mile is extremely big,” says Acuity Knowledge Partners’ Burleigh. Every bank and asset manager has an ESG team, as does Acuity in order to support its clients on analytics, research and monitoring. “This has become a new base where conformity is required even if regulation has not made this necessary yet,” Burleigh says. The challenge will be in determining which firms do not really walk the walk with the climate at the heart of their culture. This creates “enormous opportunities” for the UK to be a “green finance hub”, says PwC’s Jenkins, by supporting the allocation of capital to green industries and creating products and services to meet the increased investor and customer demand. “The financial sector has a vital role to play in supporting the transition to net zero. A clear and proportionate regulatory framework will support this, rather than hinder it,” she adds.
Where consumer benefit sits in this past year’s focus by the government on boosting the competitiveness of London as a global capital markets hub, is less clear. Jenkins argues a more competitive City “will have direct and indirect benefits for consumers and the economy more widely”. Others are not so sure. A race to the bottom on rules or costs may keep retail prices down, but with low global interest rates propping up many zombie companies or companies surviving on debt servicing, whose valuations are not correct or sustainable, investors and consumers alike “could suffer a quick fall from grace should interest rates move more than 1-2%”, Burleigh warns. The FCA is cognisant of its responsibilities, as can be seen from its new Consumer Duty, which said: ‘We want to see a higher level of consumer protection in retail financial markets, where firms compete vigorously in the interests of consumer’ and where consumers can make informed choices about financial products and services, while balanced with a ‘successful financial services system in which firms can thrive’. Businesses looking for a ‘no questions asked’ approach to finance already have numerous jurisdictions as options. Making the City of London more attractive by unravelling a decade of improvements in consumer protection would only position it to lose its valuable USP.