Summary
The financial industry meltdown is widely viewed as having led to the severe global economic recession. More effective regulation of the industry is according to some analysts the key requirement to prevent a recurrence of the problem. However, in order to protect their competitive advantage countries such as the UK may adopt a new regulatory regime that imposes a smaller compliance burden than is required. This is one dilemma posed by the Turner Report.
Analysis
Financial institutions with a global clientele will generally locate in cities and countries where they can achieve a competitive advantage. The source of this advantage can be diverse including local expertise, sophisticated telecom systems and low transaction costs including favourable tax treatment. A low regulatory burden has always been a controversial source of competitive advantage because it may encourage risky behaviour that eventually impacts negatively on economic activity. Indeed financial institutions may shop around for the most favourable regulatory regime - a type of regulatory arbitrage.
However, the assumption that a lighter regulatory burden will attract financial activity to a particular jurisdiction and thus beggar a neighbour with a tougher regime should be questioned. As already indicated, low regulatory costs are only one consideration. The ability to provide credit to customers in tough economic times is another. For example, The Canadian regulatory regime for banks is considered to be more burdensome by some analysts based on the requirements for capital and reserves. However, in current circumstances, this is an advantage and not a disadvantage. Moreover, in specialized areas such as mining finance any regulatory disadvantage is offset by the availability of local expertise. A similar argument could be made with Australia.
On a more general level, including all industries, it is noteworthy that a country with a relatively high regulatory and tax burden such as Germany is at the same time the world's foremost exporter as ranked by the World Trade Organization (WTO). Therefore, it is essential to go beyond the regulatory regime in identifying sources of competitive advantage.
In terms of financial regulation, no matter how excellent the Turner Report and it's implementation in the UK might be, it is hard to envisage that there would not be some kind of harmonization with EU partners, if not financial centres elsewhere. This limits the ability to beggar thy neighbour through regulation.
As a bottom line, financial institutions making a location decision should take a comprehensive long term view weighing all components including the regulatory framework and its evolution.
