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Germany – a financial location in transition

04 Sep 2018

Germany – a financial location in transitionBy Theodor Weimer, Chief Executive Officer of Deutsche Börse AG

Theodor Weimer, CEO, Deutsche Börse AG

We all of us have our own memories of early summer 2016: back then, what was keeping us glued to our seats was not the FIFA World Cup in Russia, but a referendum in the United Kingdom – one whose outcome was as least as surprising for us all as Germany’s failure to make it past the first round at this year’s football tournament. Both events roused strong emotions among us: the winners were triumphant while the losers felt utter dismay. We should not let ourselves be guided by either feeling going forward. Instead, we should ask what that rightly famous British virtue, common sense, can tell us.

First, we must simply face the facts: the British people have spoken. And they did not vote the way many of us expected them to. The result of the referendum will have painful economic consequences: the world’s fifth-largest economy has decided not to remain in Europe. The economist Hans-Werner Sinn put this in perspective when he said that, measured in terms of average economic performance, Brexit is the equivalent of 19 out of the European Union’s 28 member states leaving.

What does this mean for the financial sector in Europe? How will we cope with the fact that the City of London – Europe’s key hub for global capital flows – will now presumably be located in a third-party state, i.e. a country outside the EU? The first thing we must do – and this applies to politicians and the financial sector alike – is to maintain our strong relationships with London. The next thing is to learn from London and strengthen the EU as a financial centre. For us in Germany, this means we should put our own house in order first.

So how is Germany doing as a financial centre at the moment?

To be honest, there is room for improvement. According to the March 2018 Global Financial Center Index, London is still the number one financial centre in the world, followed closely by New York and Hong Kong. After that come Singapore, Tokyo, Shanghai and Toronto. Europe’s most important financial centre – Zurich – is in the 16th place. Frankfurt am Main is merely 20th. A year ago, Frankfurt was number 11. We cannot let this become a trend.

Why is an internationally competitive financial centre so important? Is it not Germany’s strong real economy that has made the country a leading exporter and the fourth-largest national economy in the world? The answer is simple: the financial system is the lifeblood of our economy, and industry – and particularly Germany’s small and medium-sized enterprises – are its muscles. Anyone who thinks that, in the long term, you can have a strong economy without a strong financial centre is making a mistake.

There are no German banks in the world’s top 50 any more. Some of the reasons for this are merely temporary. The distortions caused by negative interest rates have massively impacted the German financial market. Banks are no longer making money from their core business in Germany. Competition from new business models in the financial sector – in other words from fintechs – is also taking its toll.

A strong financial centre is more than a hub for banks, though. A few facts about the German capital market and its relationship to the real economy: according to the World Bank, the total market capitalisation of all German-listed companies in 2016 amounted to 49 per cent of GDP. The figures for France and the USA were 88 per cent and 147 per cent respectively. This is hardly surprising, since Germany’s shareholding culture is still underdeveloped. Although the most recent figures from Deutsches Aktieninstitut point to an upward trend, they still make for sobering reading: only 16 per cent of the Germans own shares.

Insurers are the main driving force for investment, and their ability to put money into higher-risk vehicles is strictly limited. This is easier for the large financial intermediaries in the USA and the United Kingdom. BlackRock alone has over USD 6 trillion of assets under management.

So what needs to be done?

First of all, we must leverage Germany’s existing capital market expertise – for the benefit of market participants and in the interest of a stable financial market within the EU. Euro clearing is one example of this. A clearing house requires market participants to post collateral, especially for derivatives trading, in order to cover potential defaults and for use in the case of crisis. OTC interest rate derivatives, for example, can be used to hedge interest rate risk. London clearing house LCH currently handles over 95 per cent of all Euro clearing for these products. This means that, after Brexit, Europe’s leading clearing house will be located in a third-party state. In light of this, we at Deutsche Börse are advocating a market-driven, partnership-based approach. This is why our clearing house, Eurex Clearing, has launched a partnership programme with the world’s major banks, providing an additional, market-based Euro clearing offering.

Secondly, we can no longer afford to outsource large portions of our financial markets expertise. Instead, we need to go back to insourcing this knowledge. We have to start from the ground up, by making financial education part of the school system. At a more macro level, it also means financial service providers must attract more expertise to Germany and Frankfurt again. The one positive thing about Brexit is that it will – I hope – finally serve as a wake-up call and get us to address this project seriously.

Thirdly, we must make an effort to provide greater access to venture capital for German businesses. We are providing support for fintech locations and for applications that use artificial intelligence. All well and good, but the figures speak for themselves: the most recent data for Germany shows that venture capital investments amounted to approximately 0.04 per cent of GDP, whereas in the USA they were ten times as high, at 0.4 per cent. This has to change if we want to remain competitive in the long term.

Fourthly, politicians need to understand the importance of the financial system. Despite the experience of the financial crisis in 2008, there is no use in demonising banks and financial investors. There has been major progress with regulation since then, and we have made the financial system safer. The challenge now is to also get the system back to the point where it can finance innovative growth again.

In short, we need a roadmap for Germany as a financial centre – one that is not aimed at, but rather works with, our partner states in Europe. The fact that such cooperation also includes competition between companies and locations is part and parcel of a functioning market order. It is simple common sense. Supporters of this last principle are to be found on both sides of the Channel. As Arthur Schopenhauer – that worldly-wise contrarian thinker who lived in Frankfurt – once said: “Common sense can replace almost any level of learning, but no level of learning can replace common sense.”

By Theodor Weimer
Convenience translation of the German article; first published in the Handelsblatt Journal special edition “banking”, 29 August 2018

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