By Nicole Gelinas
New York should heed (some of) McKinsey's suggestions.
This piece originally appeared on City-Journal.org, January 22, 2007
On January 22, consulting firm McKinsey & Co. unveiled a report assessing how effectively New York (and more generally, the United States) competes as a hub of growth and innovation in global finance. McKinsey's study, commissioned by Mayor Michael Bloomberg and Senator Chuck Schumer, adds yet more facts and figures to the pile of evidence that shows that New York is losing its position at the top of the global-finance world. But even more ominous for the city�s future was the report's global reception.
Consider the three top headlines on the UK website of the Financial Times (based in London, New York's chief global competitor on the day the issue was reported). THREAT TO NEW YORK AS CENTRE OF FINANCE, blared the first headline, followed by POLICYMAKERS CAN STOP THE ROT IN NEW YORK and WALL STREET SEES SHIFT IN CENTRE OF GRAVITY.
New York�s finance sector is hardly "rotting." Wall Street just booked a record year for bonuses, after all, and its job growth has outpaced that of other New York industries. But when such headlines greet bank executives and their star workers around the world as they settle down to their computers, it's time for New York to worry. The perception that it is falling behind, already grounded in reality, will help shape the future.
McKinsey lists a few key areas of concern across the financial-services spectrum. First�if anyone still needs convincing after nearly a year of constant media coverage on the topic�the report notes that global firms no longer line up to list stocks on New York exchanges. "Over the first ten months of 2006, U.S. exchanges attracted barely one-third of the share of [initial public stock offerings] measured by market value that they captured back in 2001, while European exchanges increased market share by 30 percent and Asian exchanges doubled their share," the report points out. And it's not just international companies shying away from New York: even small U.S. firms "increasingly favor" London markets.
Second, the United States indisputably has fallen behind in the high-growth global derivatives markets. (Derivatives are financial instruments whose values come from other financial instruments or underlying assets; foreign-exchange derivatives are based on the underlying value of foreign currencies, for example, while equity derivatives are based on the value of stocks.) London boasts 49 percent of the global foreign-exchange derivatives market and 34 percent of the interest-rate derivatives market, while America has 16 percent and 24 percent of each market respectively. In fact, McKinsey quotes one business exec as saying that "the U.S. is running the risk of being marginalized" in derivatives.
Third, while New York retains a clear lead in arranging, packaging, and selling debt, there's a growing danger here, too. The report explains that "London is rapidly emerging as an effective alternative," in part because the city has adapted innovative "American" terms and conditions for Asian and European issuers. Further, it's just common sense that the U.S. will face greater competition as issuers in China and elsewhere turn to the global markets, where they�re already accustomed to issuing other securities.
New York's innovators are losing ground in part because they have a big handicap: crippling regulatory and legal environments, as well as an unwelcoming environment for high-skilled immigrant workers.
Companies around the globe are reluctant to list on American stock exchanges in part because doing so now requires complying with the five-year-old Sarbanes-Oxley Act (SOx). SOx forces executives to jump through regulatory hoops to ensure that their firms' financial statements and internal financial "controls" are in order, when many international executives, and their accountants and investors, think they�re already doing a good job of complying with internationally accepted accounting standards without Sarbanes-Oxley.
Even where SOx doesn't directly apply, executives and top workers at investment banks feel the burden of excessive American regulations. For example, in the world of derivatives, in Europe "people feel less encumbered overseas by the threat of regulation and so are more likely to think outside of the box," one U.S.-based business leader told McKinsey's researchers.
It�s easy to see why. Compliance officers at American firms don't just have to deal with the Securities & Exchange Commission and sundry other federal regulators; they've also got state attorneys-general (think Eliot Spitzer) to worry about. In London, by contrast, a single regulatory agency has primary jurisdiction over securities firms. And that authority encourages compliance with broad principles rather than with thousands of pages of fine print.
There's also global talent. New York is still tops in fostering an environment of innovation, according to business leaders surveyed by McKinsey. But to stay there, it must continue to attract the world�s best students and workers.
Unfortunately, thanks to a federal cap on visas for high-skilled workers, it�s been doing the opposite. European Union citizens can travel and work relatively freely, so it's a small matter for a London-based firm to attract a top trader or banker from Paris; it's a huge headache, though, to put the same person in a New York job.
If America had enacted Sarbanes-Oxley, say, 20 years ago, it might not have affected New York�s global preeminence. International executives would have had to put up with the rules to access the American cash and expertise they needed. But today, financial markets in London, continental Europe, and parts of Asia and the Middle East increasingly offer "American"-style expertise and deep pools of international investors. Executives simply don't have to bother with New York if they find it's too much trouble.
McKinsey offers some solid suggestions. Most important, New York should lobby legislators and agencies in Washington to fix what's obviously broken in terms of runaway regulation and litigation, so that New York doesn't lose its reputation as a cauldron of financial-services innovation. (Chicago, as a derivatives hub, has a stake in working with New York here.)
But then McKinsey makes another suggestion that's not so great. It calls for New York to create a public-private "joint venture" with a "highly visible leader" from the business world to focus "on financial-services competitiveness." This blue-ribbon panel, McKinsey suggests, would work with top financial-services firms to encourage them to create more jobs here. It would also consider the feasibility of establishing a world-class graduate school for applied finance, and, possibly, creating a "special international financial services zone" here through tax and regulatory breaks. It would also consider launching a global-marketing campaign to attract business to New York.
Regrettably, New York's elected officials likely will seize on this idea, since it's a way of avoiding the real problem�onerous regulations and an irrational legal environment�while still generating some attention. But New York pols shouldn't be thinking about how to give some financial firms and locations special treatment. Instead, they should work to ensure that all New York firms can compete on fair and equal terms against the rest of the world.
If New York were to prod Congress and federal regulators into doing their jobs, companies would soon figure out that the climate for financial-services businesses here had improved�just as they figured out that Sarbanes-Oxley was bad news long before the politicians did.