London Financial Institutions and Globalization - Essay Example

LONDON FINANCIAL S AND GLOBALIZATION By Location Introduction In the late 20th Century as well as the 21st Century, the Information and Communication Technology sector has undergone a lot of innovations that have enabled communication between nearly all corners of the globe speed up. The innovations have resulted in greater globalisation with the effects felt in the business world with the mode of conducting business seemingly exhibiting a shift from the old practices of the 19th and early 20th centuries. Case in point is the financial markets sector where global financial flows have seen a steady increase that has relinquished control from former financial power houses like London. The globalisation has also seen the expansion of institutional investor activities into new territories, meaning the movement of a significant portion of their investments to new markets. This paper seeks to explore the implications of this phenomenon with the aim of showing that ICT, although means better communication and better cooperation across space, space still matters.. Economic geography Economic geography seeks to explain spatial orientation and distribution of economic activities (Krugman 2011, p. 5). The property of labour to be attracted to production centres makes the production centres even more attractive as the new employees are also consumers resulting in other firms as well as workers joining the centre (Krugman 1991, p. 5). The centripetal market forces described are attributed to the agglomeration of the centres and not the proximity to natural resources (Smith 2012, p. 4). This was what caused the first unbundling with productions that occurred in rural settings with products intended for locals shifting to industrial form of production (Elms and Low 2013, p. 13). This classified the north industrialisation. However, with the ICT innovations of recent years that have seen the reduction of transport costs that makes the occurrence of agglomeration less likely. To explore these peripheries, the businesses need to have a centralised manufacturing area. This is coupled higher costs and congestion caused by an agglomeration act as centrifugal forces driving production away from the centres through sourcing strategies (Smith 2012 p. 5).With the ICT innovations spurring globalisation, the effect was that the spatial economics views shifted This phenomenon explained the north de-industrialisation and south industrialisation otherwise known as the second unbundling (Elms and Low 2013, p. 14). North de-industrialization and South industrialization Countries of the North (Europe, Japan and North America) saw an industrial revolution as a result of development of increasing economies of scale that spurred a take off in growth (Elms and Low 2013, p. 14).At the same time, countries of the south (India and China) experienced economic downturns as the north exploited their resources. The effect was that the incomes of the two diverged greatly with the north industrializing and the south de-industrializing (Florida 2005, p. 3). With the start of globalisation, the ICT sector that saw a lot of innovations enabling trans-global communication opened up the countries of the south with the great income difference enabled the combination of technology from developed economies with labour from developing economies through outsourcing (Elms and Low 2013, p. 17). The effect was the development of global trade that provided incomes for the south and slowly reduced the icome difference. At the same time, increased operations of the global businesses shifted to the south which saw their emergence as industrial centres (China). More and more developing nations are coming up and starting to rely on industries to support their economies (Florida 2005, p. 4). At the same time the north is displaying de-industrialisation characteristics with the economies slumping. This is partly the effect of such economic strategies as outsourcing. In the economies of the north, the phenomena of firms that focused on the production of high value adding goods resulted in the attraction of a skilled workforce to the areas (Elms and Low 2013, p. 33). These workers served as the customers to the services and goods produced meaning the spatial transportation/transmission cost of the businesses were reduced. The effect was that the businesses grew as volumes of profits grew (Krugman 1991, p. 15). This describes the Demand Linked Circular Causality of business. At the same time, there was more competition for labour as the costs of living in the centres grew due to land competition. The effect was that labour costs grew with suppliers of inputs raising their costs. The general effect is an increase in the cost of production.at the same time, the level of development in the south allowed the labour in the markets to be cheaper than the north (Elms and Low 2013, p. 34). At the same time, globalization enabled the sourcing of inputs from anywhere in the world. This meant cheaper inputs could be bought from the cheapest market with the labour cost in the south meaning production costs will be lower. As such, the producers of the north chose to start producing from the south through outsourcing, which created this industrialisation-deindustrialisation effect with clusters coming up in the south (Elms and Low 2013, p. 34). Outsourcing Outsourcing refers to the contracting of an external entity to carry out some of the processes of a business as it is cheaper to do so. The ICT sector’s innovations have enabled networking from different parts of the globe (globalisation). It sees firms internally perform little value adding operations with the value chain activities done by a network of organisations(Gonzalez, Gasco and Llopis 2005, p. 2). This has seen firms reaching out to firms in markets with favourable production conditions to do a significant portion of the production process(Leamer 2007, p. 2).According to Gonzalez, Gasco and Llopis 2005(p.3), when the financial institutions move to these markets where there is reduced agglomeration and costs of production, they would have to import skilled labour which would mean the increase in wages and therefore cost of production which in the end defeats the purpose of the move(Leamer 2007, p. 9). The new economic geography To understand the effect that the globalization of the financial institutions is having on the financial institutions in London we need to construct and examine different scenarios (Krugman 2011, p. 5). Over the 19th and 20th Centuries, London was the epicentre of the economic world with the empire’s activities fuelling its growth. Its large volumes of production and exports compared to other nations at the time meant that there was a ready market for financial services. According to Krugman 2011 (p. 10), the key driver of agglomeration is the need to establish firms near the market as well as the market size whose interactions determine the resulting economies of scale. The United Kingdom being the largest economic power in those days meant that London’s conditions prescribed a centripetal market force for financial institutions that saw them be established in numbers. However, over time globalisation resulted in the establishment of new favourable markets across the globe that needed financial institutions to provide the services. At the same time the costs of doing business was rising steadily due to the effect of the demand linked circular causality with wages even in the low bracket rising steadily (Clark 2002, n.p.). The effect is that a sizeable number of institutions have opened shop in new areas as well as the significant shift in the direction of capital flow that has seen the control of the financial world relinquished from London describing a centrifugal market force. i. Clustering and spatial economics Clusters are interconnected companies of a particular field, concentrations within a specific geographic area causing an unusual competitive success (Porter 2007, p. 4; Worldbank 2009, p. 105). With the globalization of the business world attributed to ICT innovations, companies can get input from anywhere in the world through pressing a button. Theoretically, the effect of location, a fundamental variable, on competition in industries that has seen the establishment of clusters as well as agglomeration should have been cancelled out by now because of globalization (Porter 2007, p. 4). However, this has not been the case on the ground with the economic maps of the globe quite literally dotted with clusters of different sectors from the national to the metropolitan levels. These clusters exhibit typical characteristics. This creates a paradox in the form that competitive advantage is generated in the global economy by local factors. Due to the demand linked circular causality of the business world the clusters attract workers who in turn out to be customers and the firms within the cluster flourish and grow ( Elms and Low 2012, p. 34). Due to the competition for labour and the competition for land the costs of running businesses go up. These include rent, wage costs and inputs cost. The effect of this process is that those who cannot keep up with the changes in cost of running business opt out through such strategies like outsourcing or even closing shop altogether (Clare et al. 2013, p. 16). This leaves the strong firms creating a strong cluster. This has been the case for London where the development of the city saw the cost of running businesses grow with non competitive firms being pushed out. The banks were able to remain functional because their operations allow them to adjust to the cost of doing business by participating in high value adding. Where there are banks, there needs to be accounting firms to provide accounting services needed for banking. Banking transactions of a large scale need legal documents to see a successful and trustworthy process. This means that legal firms are also needed. This was the case for London, where a diverse number of accounting and legal firms were attracted to the strengthening financial institutions(Cook et al. 2014). This resulted in a strong cluster of interconnected firms that have a minimised chance of failing. The centrifugal market forces therefore turned out to be centripetal. The strength in unity created by the links between the different firms makes them almost immune to the globalisation effects. This therefore means that the comparative advantage notions of the past are less relevant(Porter 2007, p. 4). The spatial economics of the hub created by the financial institutions cluster in London is the reason why globalization does not undermine their presence. First, the cluster has resulted in the establishment of a good relationship between customers, skilled labour and the banks that has helped in the implementation of more efficient service delivery. The existence of the cluster for pretty much a long time has seen its reputation grow, which is a guarantee of business success (Clark 2002, n.p.). Then there is the fact that the location allows the institutions to tap the large pool of specialized labour with customers being close (Elms and Low 2013, 7). If the effect of globalisation does indeed take root with the customers starting to access financial services from other regions, the effect of the distance in the time it takes to agree on the transactions as well as transport costs to the firms accompanied by taxes imposed on the trade flows will mean that the cost of running the business will increase (Venables 2009, p. 5). However, looking at McCann 2008 (p. 12) graph, we realize that it is not always the case. He argues that inputs with high value of knowledge are increasingly localized resulting increased globalization of outputs with added high value. This creates a scenario where these outputs are produced in limited areas and sold globally while those outputs with a low value addition being produced anywhere on the globe (McCann 2008, p. 12). Hence the creation and sustainability of clusters like London. The graph deals with three cities X, Y and Z, existing in a one-dimensional economy spanning AB with X and Z being larger than Y (McCann 2008 p. 12). The cities exhibit high and low value goods and services production H and L respectively. The size of the cities makes X and Z have larger markets and competition with the same applying for the production costs for each good due to land competition costs. The resulting economic geography model makes Y account for below a third of the total production of L with the other cities each taking up more than a third (McCann 2008 p. 12). The graph extrapolated from this creates an equilibrium point for the land prices for each location at the envelope of each local bid-rent curves. The falling costs transmitted to production as a result of the space that the firm is found. The meaning extracted from this is that the bid-rent curves for the equilibrium in the production of these low priced goods tend to become shallower. The implication is that such activities can be carried out while making a profit (McCann 2008 p. 12). The falling costs transmitted to production as a result of the space that the firm is found. The meaning extracted from this is that the bid-rent curves for the equilibrium in the production of these low priced goods tend to become shallower. The implication is that such activities can be carried out while making profit. ii. Knowledge spillover Knowledge spillover describes the exchange of information between individuals and entities. For any economic sector to grow and develop, it is necessary for the players in the industry to exchange the information and knowledge concerning the industry. This highlights the argument that distance matters (Venables 2009, p. 5). Consider two firms that are in the same industry (competitors) but are located 100 kilometres from each other. In the course of running a business, one of the firms detects a new market phenomenon that is a threat to the market as a whole. The distance between the two firms makes it harder for the other firm to be notified formally for a discussion on the way forward which may result in the collapse of the two. In a cluster, however, the proximity of the industries to one another enables interactions between firms that promotes the transfer of knowledge (Cook et al. 2014). It is true that globalisation has enabled firms to seek capital from anywhere around the globe with the establishment of the financial clusters in Wall Street, Hong Kong and other centres. It is also true that companies can alleviate any disadvantage stemming from input costs through global sourcing. This would mean that the financial institutions would not need to incur the increased costs as a result of competition for land by locating themselves in clusters. However, this is not the case with the global and local financial industries existing in areas of high spatial concentration (Palmberg 2012, p. 4). This is mainly attributed to the availability of specialized labour and suppliers, proximity to customers and the ability to interact with members of the banking world on a face-to face basis which act as positive agglomeration tools. The dynamism and ability of the financial institutions in London are therefore enhanced due to the knowledge transfer that adds high value to complex activities of the institutions. Knowledge transfer is one of the important aspects of location that make location a determiner of the competitiveness of a firm. In a study conducted on London’s financial institutions, it was among those highly ranked as having great importance in determining the direction of the institutions (Cook et al. 2014).This is because of face-to-face interactions, whether formal or by chance, that enable resolution of problems quickly, easy sharing of current trends as well as the cementing of relationships with market participants. It is therefore safe to say that globalization has not undermined the London financial cluster that has a good knowledge transfer due to its compactness. Conclusion Therefore, from the discussions it is clear that the world is not flat as some may think. The levelling of the playing field through outsourcing and other strategies may have done well to raise the economies of the developing nations, but it does not make it a death spell for the existing institutions. The globalisation may have resulted in the creation of new institutions elsewhere on the globe, creating competition for London, but the situation on the ground shows that it does not undermine the banks and other institutions (Leamer 2007, p. 6). Bibliography Clare, A., Gulamhussen, M. A. And Pinheiro, C 2013, What factors cause foreign banks to stay in London Journal of International Money and Finance, 32, pp. 739-761 Clark, G. 2002 London in the European financial services industry: location advantages and product complementariesJournal of Economic Geography, 2(4), pp. 433-453. Cook, G., Pain, K., Taylor, P., Beaverstock, J. and Pandit, N. 2014, GaWC Research Bulletin 124. Lboro.ac.uk. Available from: http://www.lboro.ac.uk/gawc/rb/rb124.html [29 Oct. 2014]. Elms, D. and Low, P. 2013, Global value chains in a changing world. Florida 2005, The World Is Spiky. Gonzalez, R., Gasco, J. and Llopis, J. 2005, Information systems outsourcing success factors: a review and some results. 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Venables, A. 2009, Rethinking Economic Growth in a Globalizing World: An Economic Geography Lens*. African Development Review, 21(2), pp.331--351. World_Bank 2009, World_Development Report 2009.Reshaping_Economic_Geography Read More