The debate about the “paradigm shift” seems mainly to be between those who say that the current crisis marks the relative decline of Wall Street as the center of world finance and those who argue that it will maintain its relative position.
But I think the effect of the crisis will actually increase the relative position of New York and London as world financial centers. Why? I say this largely because previous global financial crises were just as brutal as the current one, or even more so (1825, 1837, 1873, and 1929 were all more brutal), and yet during the subsequent years the then-global-financial-centers became more, not less, central.
Why this happened is not hard to figure out, I think. During the liquidity booms, the great advantage of the primary financial centers – the fact that they are much more liquid than other markets – is usually sharply eroded by the huge increases in liquidity, trading volumes, and financial transactions across the world, and with them, the decline in the value of liquidity. In fact it was always during the long boom periods that secondary financial centers were able to grow in importance – just as Sao Paolo, Frankfurt, Delhi, Shanghai, Singapore, Dubai and even Hong Kong have all grown dramatically in the past 10 years.
After the booms, however, the sudden reduction in underlying liquidity and the greater value investors and issuers placed on liquid markets typically causes most of the secondary financial centers to die out as trading and issuance migrate to the deeper markets of the primary financial centers. This is simply a form of the old traders saw – “liquidity draws liquidity.” If liquidity truly dries up around the world and trading and issuance volumes collapse, the value for investors and users of capital of accessing New York or London will be greater, not smaller.
What about the argument that an Asian financial center will rise in relative importance? I think this may very well happen, but it will have little or nothing to do with the current crisis.
An Asian financial center will or will not rise depending on several factors. These include the liquidity and value of its currency for international transaction, the strength and impartiality of its legal framework, the scope for political and regulatory independence, a clear governance framework (which implies, among other things, that managers are minimally constrained by policy needs), the size of the home market, the openness to foreign markets, the importance of financial markets (as opposed to large banks) in financing, and several other obvious and not-so-obvious things. The financial center also needs to be perceived as politically (and geopolitically) safe and stable, and especially a safe haven in times of tension, which is not always an easy thing in an Asia which consists of several very large, often heavily armed countries with a long history of mutual distrust and rivalry.
I may be wrong about whether or not New York (and London) maintain their pre-eminence, but I think I am certainly right in suggesting that any argument about what-will-happen-next that ignores the last 200 years of surging and waning global liquidity and the past several globalization cycles is likely to get very little right. What we are experiencing is dramatic, but it isn’t new.
