Do Financial Services Really Serve Us Well?

The Evening Standard (London, England), February 4, 2015 | Go to article overview

Do Financial Services Really Serve Us Well?


Byline: Anthony Hilton city comment

DAVID Pitt-Watson, a longserving fund manager with Hermes now to be found at the London Business School, has a story of how he once reduced a group of vocal critics of the City to silence by asking them what they thought was the purpose of the financial services industry. He was seeking to demonstrate that it is only when we are clear in our minds what we expect the financial services industry to do that we can properly assess whether or not it is doing a good job.

It is a question that does not get asked enough. Mention financial services, and people think about banking and money transmission or saving and investing. They might then go on to insurance and risk transfer, and may mention the financial markets. But these are by-products, not the central purpose. The reason we have a financial industry in the words of Lord Rothschild "is to move money from where it is now, to where it is needed". That is known in the jargon, as intermediation.

That is the service which benefits society because it puts capital in the hands of those who can make good use of it, and thereby makes possible the building of companies and the generation of more wealth. Ask if the UK is good at financial services, and most in the City would say the question is a nobrainer. The Square Mile is the world's leading international financial centre. It employs between 6% and 8% of the working population but produces 10% of the country's income. It is clearly a national asset.

But even if all these statements are true, it does not mean from a national standpoint that financial services does its job well. Perhaps it is wasteful; perhaps it could achieve the same results more efficiently; perhaps some of its best brains those nuclear physicists, nanotechnologists and mathematicians earning telephone numbers on trading desks would benefit the country more if they worked elsewhere? These questions were explored at the London Business School yesterday before an invited audience by one of Europe's leading economists, Thomas Philippon, a Professor at New York's Stern Business School. What he demonstrated based on years of research is that, when looked at from the standpoint of the nation as a whole, the financial services industry is no more efficient today than it was 120 years ago. Needless to say, this is something many people who have spent their lives in the City find hard to accept.

But it is very hard to argue with Philippon's figures. He got to this conclusion by measuring the financial flows in the economy in Lord Rothschild's expression, the movement of money from where it was now to where it was needed. He also measured how much the financial sector charged to facilitate those flows. So he had two numbers the proportion of national income that was moved in any one year and the financial sector's share of GDP, which he equated with the reward that flowed to the financiers. …

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