The City of London has never been a modest place. Nonetheless, the waves of self-congratulation that greeted the 20th anniversary of "big bang," when the stock exchange's old restrictive practices were swept away on 27th October 1986, were still a little excessive. The story that the City, especially since 1986, has become one of Britain's great success stories, a real world leader which inspires envy among foreigners, was repeated ad nauseam. Hardly a dissenting voice was heard.
There is no question that the City is a colossus, looming over national economic life. Financial services account for 8 per cent of the economy. Add in business services, and the total comes to 12 per cent. Some 330,000 people do "City-type" work in London. The City is now far and away the world's biggest international financial centre, as well as its most innovative (see Henry Tricks's report on hedge funds).
But a few caveats are required. For a start, memories of 1986 are selective. I was there (as a journalist), and the chief feeling was apprehension. No one knew what would happen when foreign firms were allowed in and the distinction between order-takers (stockbrokers) and traders (jobbers) was abolished. Many did not want the changes, which were forced on them by the abolition of exchange controls in 1979 and the restrictive practices case the Office of Fair Trading (OFT) brought against the stock exchange.
More to the point, one particular outcome was certainly unintended: statutory regulation. The deal between Nicholas Goodison, then chairman of the stock exchange, and Cecil Parkinson, the trade and industry secretary, was that the OFT case be dropped in return for the stock exchange revising its rule book and a significant degree of self-regulation being preserved. What we have instead is the Financial Services Authority, one of the world's most formidable and comprehensive financial regulators.
Money has a way of silencing criticism, however, and the City is very good at making money. Indeed, it has become so good at making money, especially for senior financiers, that its sheer size and success raise questions. At 12 per cent, financial and business services make up a higher proportion of national income in Britain than they do in any other major economy. But they do not contribute as much to the balance of payments as is often implied—in 2005, overseas earnings from insurance, banking and other financial services were about £25bn, around one tenth of earnings from exporting goods. And many countries in Europe with proportionately smaller financial sectors have had higher per capita incomes than Britain on average over the last 20 years. You simply do not need so large a financial sector to prosper. (A favourite Prospect factoid is that Britain has 13 times more accountants than Germany, which is a richer country.)
So is the City out of proportion with the rest of the economy? An interesting way of looking at this is to do a modest counterfactual exercise. Assume that big bang had occurred, but that the City had not grown to its present size and was more comparable in its weight in the economy to Frankfurt or Paris, which are neither negligible nor uncompetitive. What might the consequences have been?
Four possible differences come to mind. First, the economy of London and southeast England would be less of a hothouse. Largely thanks to the extraordinary amounts earned in the City, London is, on some measures, the most expensive major city in the world. Property prices are the most obvious indicator, but the cost of restaurants and other services can be pretty frightening too. Transport congestion—about which business constantly complains—is also related to the expansion of the City.
Second, national income inequalities would be lower. The City is partly responsible for incomes being significantly higher in the southeast than elsewhere. Other factors—for example, the decline of heavy industry and the southeast's proximity to the rest of Europe—also explain disparities in income but a smaller City would surely mean smaller differentials.
Third, there would be more talented people available for the rest of the economy. The City currently vacuums them up like a giant Dyson. A lot of the talent comes from abroad, which helps to make London so cosmopolitan. But a lot also comes from precious sources in Britain, such as the dwindling number of physics graduates who are sorely needed in schools and industry. It is symptomatic that a rocket scientist in Britain does not build rockets but rather devises ever more complex trading strategies for banks.
Fourth, the dominant culture would place less stress on "winner takes all." The potential rewards of competing successfully in the City, the most open of global markets, are huge. But is this a recipe for a healthy society or economy? Is "winner takes all" a value we want to permeate everything?
Counterfactual exercises are fun but they risk flying in the face of reality. Given the City's long-standing prominence in British life, the revived orthodoxy of economic liberalism and the increasing importance of finance in modern economies, the present outcome may have been inevitable. It is certainly essential that the country has an efficient financial system. But the counterfactual exercise suggests that there are costs—notably social and cultural costs—as well as benefits to the City in its present form. Can policy make a difference? Should it? As concerns about social cohesion and growing inequality mount, we should mark the anniversary of big bang with a bit more scepticism.
