The City and the global village

The Swiss are after Warburg. What is the cost of losing control of our finance houses?; Again the problem of modernising the British economy is thrown into sharp relief

First Barings, and now Warburg. The investment banking operations of one of the City's proudest names seem likely to fall into foreign hands, and you can be sure it will not be the last to do so. You would have to be less than human to avoid a touch of schadenfreude at the spectacle of City takeover artists - a Warburg speciality - getting a taste of their own medicine from the Swiss Bank Corporation.

But this latest foreign invasion of the City should be a matter of concern for us all. It speaks loudly and clearly about the weaknesses, and strengths, of the British economy in the mid- Nineties. And it carries a particular message for Labour as Gordon Brown strives to formulate an economic policy that will confront the realities of the global marketplace.

The pending demise of SG Warburg's investment banking operations as a British-owned and controlled enterprise may seem small beer compared with the spectacular collapse of Barings. But for the City, it is in many ways the more telling blow. Barings never tried to be anything other than a niche player in that great game of finance of the past few years, the boom in international securities. Warburg, by contrast, had global ambitions.

Warburg assumed its status as the City's standard-bearer 10 years ago in the Big Bang revolution that swept into history the old demarcation lines between merchant bankers, stockbrokers and jobbers. Alone among the City's merchant banks, Warburg did not hesitate to shell out big money to gobble up one of the most substantial stockbrokers, Rowe & Pitman, along with one of the two biggest jobbers, Akroyd & Smithers. Only Barclays made a similar commitment in its purchase of the other big jobber, Wedd Durlacher, and brokers De Zoete Bevan, to form BZW. The City verdict in the run-up to Big Bang in 1986 was that Warburg had the best chances of succeeding as an investment bank in the new era of international securities dealing.

But like the rest of the City, Warburg was coming from behind. By dint of the City's previous restrictive practices, Britain's merchant banks had not been able to build up anything like the same weight of capital as international rivals such as Goldman Sachs and Salomon Brothers.

Warburg's hope - along with the other merchant banks that set up integrated operations - was that it would be able rapidly to build up a sufficiently capitalised international business. What the past 10 years - and in particular the testing conditions of the past few months - have shown is that this was a vain hope. The risks involved in international securities markets require capital on a scale much greater than was anticipated. The late start has proved a fatal handicap. Hence the recourse to the Swiss Bank Corporation, which has one of the deepest purses in the business.

It is a far cry from hopes entertained in the mid-Eighties when the Bank of England deliberately sponsored the revolution in the City to help bring about the formation of a strong British presence in the new growth area of international finance.

The failure to have achieved any more is particularly galling because financial services are supposed to be one of the key strengths of the British economy. Instead, the securities business, like the car industry, is having the sins of the fathers visited upon it: the price of former complacency is the loss of control to foreign owners.

Once again, the problem of modernising the British economy is thrown into sharp relief. If you fall behind in a sector, you have to run all the harder to catch up - and risk tripping up. This tendency for past economic failure to build upon itself is one reason Britain has become so reliant upon foreign capital to reconstruct many of its industries.

All the more reason to try to avoid failure in the first instance - a lesson Gordon Brown appears to have learnt in endorsing a more vigorous pursuit of competition policy earlier this week. Suppressing competition at home (the effect of the Stock Exchange's pre-1986 restrictive practices) leaves you in no shape to confront international competition when it eventually emerges. But if the City's standard-bearer is waving the white flag, the readiness of Swiss Bank Corporation to buy Warburg's investment banking operations - hot on the heels of the Dutch bank ING's decision to bail out Barings, complete with management bonuses - presents the other side of the story. The City may not have produced national champions in international securities, but it is now without doubt the principal global centre where such business is conducted. It has become the international playground for foreign securities operations.

The City Research Project conduced by the London Business School charted this pre-eminence in its report earlier this year. London firms accounted for two-thirds of the underwriting of international equities and a similar proportion of global dealing in shares traded outside their home countries. It is tempting to conclude that the issue of foreign ownership no longer matters. This pre-eminence as an arena for global securities, after all, is but the latest episode in the post-war resurrection of the City as an international financial centre. That rebirth had little to do with British banks and everything to do with foreign banks which flooded in to take advantage of the freedom to conduct international business without irksome controls. Over time, a virtuous circle developed with London achieving a depth of expertise and size of markets that cannot be matched elsewhere in Europe.

Foreign banks may be beating a path to the City, but the conclusion that national ownership no longer matters is wrong. Several studies of industries have shown that key functions such as research and development tend to be kept in the home countries. When cutbacks are made, it is generally the foreign operations that go first.

If you can't have the best, you have to settle for the second best. And the reality of the British economy is that it has become heavily reliant upon inward investment, in manufacturing as well as in finance. The technology transfer from overseas is one key way in which our industry has been able to make up some of the ground lost in our post-war decline.

What that means is that you have to provide an environment which is attractive to foreign investors. Foreign ownership comes with a price tag. It constrains the domestic governments from implementing taxation and regulation policies that may alienate investors. Labour will find it difficult to buck that trend. City-bashing rhetoric is not the order of the day. As Gordon Brown puts flesh on Labour's economic programme, he will do well to concentrate on policies that enhance the things that do not move between countries - people and infrastructure - and make sure not to frighten the thing that moves most readily of all - capital.