Banking insights
All eyes look east as power struggle continues

At a time of revolutionary change, will Europe remain as the economic power in banking or will it be left in the shadows by the East? Andrew Dawson examines the issues.

The physicist who invented the term “black hole” once said that “time is what prevents everything from happening at once”.

For some, this may be preferable to the death by a thousand cuts we have been experiencing this summer as the contagion in the eurozone and the US debt situation is treated with one sticking plaster after another.

Suffice it to say that this is a crisis not entirely made in Athens. Even in the early days of the eurozone, many wondered how the less competitive “southern” economies could remain flexible while tied to the same monetary policy as Germany. Since Italy, Spain, Portugal and even Ireland no longer had the option of devaluing against Germany, the theory was that their domestic wage rates would take the strain. But this did not happen and Greece, other Mediterranean countries and Ireland enjoyed a decade of an artificial boom fuelled by cheap credit underpinned by euro membership.

What is certain is that any form of default by Greece will have knock-on consequences for the weaker countries – Portugal, Ireland, Italy and probably Spain – which will see higher interest rates on debt repayments. There could even be a domino effect where a Greek withdrawal from the euro might encourage others to do the same, sparking competitive devaluation and wiping out any first-mover advantage.

Given the enormous pressures on some member states and the jittery financial markets, there is no short-term certainty of eurozone stability.

Significantly faster pace

While the eurozone crisis is potentially destabilising, it is in some ways a distraction from much larger and longer forces that are reshaping financial services. For example, China’s recent rebuke of the US government’s “addiction to debt” and its demand for an assertion that the $1.2 trillion of US debt held is both safe and secure only serve to demonstrate once again how rapidly economic power is shifting from West to East.

In the short term, regulatory reform will continue to dominate the financial services marketplace.

There is no escaping the fact that the industry has its trials to bear not least in terms of regulatory changes. A recent CSFI/ PwC report revealed that this issue was top of the insurance sector agenda, with companies worried about the impact these changes will have on demand and competition.

As the industry looks to the future, it is crucial that businesses can clearly demonstrate their ability to cope with these requirements while simultaneously proving they can be transparent, deal with limited resources and compete in very challenging markets.

In the longer term, we all know the shift in power from West to East is going to continue.

In short, the E7 (emerging economies of China, India, Brazil, Mexico, Russia, Indonesia and Turkey) is rapidly gaining share from the G7 (seven of the world’s leading countries which take a co-operative approach on international economic and monetary issues). This is true not only in terms of economic growth but also banking assets – and crucially, this is now far greater than just the traditional BRIC countries (Brazil, Russia, India, China).

However, it is not the growth of individual countries’ economies but the new economic interconnections that are doing the most to reshape financial services.

The result is that a bloc of countries within South America, Africa, Asia and the Middle East (SAAAME) is emerging as a force for trade and investment. Already SAAAME does not have to look to the US and Europe for capital, consumers, manufacturing, labour, natural resources or oil. This shows that although traditional trade flows remain, greater interconnectivity within these emerging nations has resulted in trade growing at a significantly faster pace.

Another key factor is rapid urbanisation that is giving birth to whole cities in the emerging markets. These not only have their own economies and the ability to generate revenues, but they also have individual strategies in place enabling them to develop and build clusters of industries that can attract a critical mass of high value added jobs.

Information technology is also accelerating behavioural and social change in the world. It is harmonising culture, breaking down hierarchical social structures and putting the power of information in the hands of the individual.

In a connected, knowledge-intensive world, the financial services industry will need to absorb information, learn to adapt and, crucially, be truly customer-centric.

Innovation is key

However, as fast as technology is changing, financial institutions face significant barriers to expansion and to competing on a level playing field. Already the largest banks in the world by market capitalisation are Chinese, and these highgrowth emerging markets appear to be making it difficult for foreign banks toexpand in these regions. Despite the surge and economic stimulus, foreign banks within China are failing to gain any extra traction. Innovation is also key – the largest financial institution in Kenya is not a bank but M-Pesa, a joint venture between Vodafone and Kenya’s Safaricom.

In this changing environment, the million dollar question is this: Will Europe remain central to decision making and economic power in banking or will it disappear into a black hole as the East becomes the financial centre of the world?

For the financial services industry in Scotland, for example, the future is already looking bright. The key players in Scotland’s banking sector appear to have stabilised and Edinburgh is emerging as a base for start-up banks. Some national and international institutions have relocated to Edinburgh and Glasgow, demonstrating Scotland’s ability to attract high-quality players, and we have real strength in areas such as technological innovation.

If we are to meet our collective ambitions and reach our potential, it is crucial not just that we remain ambitious but also that we create our agenda for change and act on it now – after all, there is much to go for in the years ahead.

Andrew Dawson – Assistant Director, Global Financial Services, PwC.

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