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January 2007 Archives

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.

By Ted Frank

This piece originally appeared in the Wall Street Journal, 10-28-06

The trial lawyers have now enlisted themselves in the war against terror. One can imagine a parody—a team of wing-tipped attorneys parachuting into the wilds of Afghanistan, armed with subpoenas forcing Osama bin Laden to produce all relevant documents and secure his attendance at a 20-day videotaped deposition (damn the Geneva Conventions against torture). The legal and photocopying bills alone crush al Qaeda.

The reality is more prosaic, and less amusing. For just as Willie Sutton legendarily said he robbed banks "because that's where the money is," plaintiffs' attorneys are weaving creative legal theories to hold legitimate third parties liable for the intentional acts of terrorists. This friendly fire could end up doing almost as much financial damage as the terrorists themselves, with the lawyers getting rich in the process.

The roots of this folly are in the 1970s, when many state courts began to decide that the intentional acts of criminals shouldn't bar plaintiffs from collecting money from others with deeper pockets. So if you are carjacked—sue the parking lot owner. Most legislatures have yet to reverse this radical legal change.

Thus trial lawyers, thanks to New York Supreme Court Justice Nicholas Figueroa's generous rulings and jury instructions, persuaded a jury in October last year that the terrorists who planted a truck bomb in the World Trade Center garage in 1993 were only 32% responsible, while the Port Authority of New York and New Jersey was 68% responsible—and therefore, under New York law, wholly on the hook for $1.8 billion in damages.

After 9/11, lawsuits would have bankrupted several corporate victims of the attacks were it not for a $7 billion, taxpayer-funded bailout of potential plaintiffs. Even so, several dozen claimants opted for litigation. Naturally, their lawyers have sued everyone from the airlines to Boeing to Motorola to New York City. Many of these cases are still in pre-trial proceedings. Attorneys are asking for billions of dollars in damages.

Banks are not immune from terrorist-related lawsuits, either. They're getting hauled into court because of who has accounts at their institutions.

Federal laws permit parties injured by an act of terrorism to recover treble damages and attorneys' fees in civil suits against terrorists. Fair enough. But an act of terrorism may also include "knowingly providing material support or resources to a foreign terrorist organization." The vagueness and breadth of this language is the source of the mischief: Following the 9/11 attacks, the U.S. started cracking down on front organizations for Islamic terror groups that posed as charities; and some of these faux-charities had accounts at international banks. Bingo. Lawsuits are pending now that claim, in effect, that the banks should have known then what the U.S. government did not decide until years later.

For example, on Aug. 22, 2003, the U.S. designated Interpal and Comit� de Bienfaisance pour la Solidarit� avec la Palestine (CBSP), among others, as international terrorist organizations. These two outfits channeled funds to the Orwellian-named "Union of the Good" militant group, which in turn supported Hamas. Three days before the designation, on Aug. 19, 2003, a Hamas suicide bomber, Raed Abdul Hamid Misk, blew himself up on the Egged No. 2 bus in Jerusalem, killing and wounding dozens.

The American victims and their families have sued over this and other attacks; but they have not sued Misk—who, now beyond earthly jurisdiction, will have to answer to a higher authority—nor Hamas, nor "Union of the Good," nor even Interpal or CBSP. Rather, the families are suing NatWest Bank,where Interpal happened to hold some of their bank accounts, and Credit Lyonnais, which once held CBSP money.

The complaint against Credit Lyonnais filed earlier this year spends most of its 79 pages listing heinous acts of Hamas and their consequences. So what does this have to do with Credit Lyonnais? A small section of the complaint claims that Credit Lyonnais was supposed to be monitoring Al Jazeera in case an official for one of its customers, such as CBSP, said something incriminating. Perversely, the fact that Credit Lyonnais reported suspicious banking activity to regulators is supposed to be evidence that the banks "knew" that the two charities were supporting terrorism.

The plaintiffs make much of the fact that Israel designated CBSP and Interpal unlawful organizations in the late 1990s. But the U.S. did not until 2003—and France and Britain have yet to do so, despite extensive investigation. The banking system will grind to a halt if a bank must scrutinize every customer to the degree plaintiffs argue should have been done for CBSP and Interpal--a degree of scrutiny greater than their own home countries have established.

France and Britain may well be wrong to assess these Hamas-affiliated organizations as "humanitarian": Money is fungible, and Hamas can readily shift its own funds from feeding constituents to making bombs. But criminal prosecutors, not contingency-fee-hunting trial lawyers, should chase terrorist financing. The latter are more interested in wealth than guilt: Trial lawyers have every motivation to attempt to attach blame to the deepest and most readily available pocket instead of the actual culpable parties. Nor do they bear the diplomatic consequences for the U.S. when they baselessly tread upon the wrong toes.

Both NatWest Bank and Credit Lyonnais filed motions before Judge Charles Sifton of the Eastern District of New York to dismiss the cases against them. In vain: The lawsuits go forward and are in the pre-trial discovery stage.

If courts are not going to apply the antiterrorism laws sensibly, Congress should amend them to make clear that civil liability is limited to those who commit criminal acts of international terrorism, and those who aid and abet with specific intent to commit terror. Otherwise, terrorists can damage the global economy simply by inducing fratricidal litigation.

Ted Frank is a resident fellow and director of the Liability Project at AEI.

 

 


Isaac Gorodetski
Project Manager,
Center for Legal Policy at the
Manhattan Institute
igorodetski@manhattan-institute.org

Katherine Lazarski
Press Officer,
Manhattan Institute
klazarski@manhattan-institute.org

Published by the Manhattan Institute

The Manhattan Insitute's Center for Legal Policy.