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Launch of SFE’s business briefing series

How different could Scotland’s financial services industry be in 2018?

Good morning ladies and gentlemen.  Just by way of background, I should say that I have spent my entire career of over 20 years working with Accenture clients in Financial Services, both at home and abroad.  In our industry, the phenomenon of “globalisation” is hardly new news, but we are living in times where the global economy it is taking a new and unprecedented shape.

Many of the comfortable assumptions that we have lived with for years are being profoundly challenged.  A new world is emerging, which at Accenture we have described as a ‘multi-polar world’ in which both economic and geopolitical power have dispersed to new centres of strength – BRIC economies such as China and India most obviously, but also the newer emerging economies such as Mexico, Korea and Poland.

In this new world order, what has made Scotland successful in the past does not guarantee success in the future. Across a broad range of trends and developments, Scotland will be challenged to answer fundamental questions about where and how it wants to compete on the international stage.

This morning I want to paint a picture of what the world might look like for Scottish financial services industries in 2018. I will argue that Scotland – and in particular its financial services industry – needs to face up to new challenges and start positioning itself for the future if it is to have a chance of continuing to enjoy the success it has enjoyed up until now.

In many ways I think Britain has been slow to respond to the challenge of globalisation and run with it.  In some ways it is like our attitudes to sport.  We invented and exported many of the world’s favourite sports such as football, cricket and golf, but we difficulty accepting that other (often emerging) countries can take those sports, excel at them and beat us at our own game.  We often look back to what has made us successful in the past without focusing on what will make us successful in the future – which is rarely the same thing.

So this morning there are three key questions I want to ask:

1. What are the drivers that are shaping today’s global economy?

2. What trends are occurring as a result?

3. How will these trends change the world of 2018 and what can Scotland and Scottish financial services do to succeed within this context?

1. What are the drivers that are shaping today’s global economy?

• There are clearly many forces at play in a complex world, but I believe that three key drivers in particular are fundamental in the development of the multi-polar world:

1  Increasing reach of information and communications technologies.

• Time and distance have been eroded as barriers to trade and capital flows through the development of ICT.

• Since the 1990s faster communications stemming from internet technologies and fibre-optic networks have facilitated the disaggregation of business functions across different geographic locations.

• There has been very rapid adoption of technology as a means to deliver new goods and services into economies around the world.  For example, in India alone, the online education market is estimated to be worth $200m and is expected to grow to $1bn by 2010.

2  Policies to increase economic openness.

• Despite the odd protectionist episode, the prevailing policy around the world over the last two decades has been one of increased economic openness and market liberalization.

• In 2005 there were 205 regulatory changes in investment regimes across the globe, of which 164 were favourable to foreign direct investmentI. 

3  Increasing size and reach of multinational enterprises (developed as well as emerging market).

• By 2004 the world’s 100 largest multinationals had US$4.7 trillion in foreign assets, representing more than half (53%) of total assets.

• Ten years earlier, foreign assets were barely a third of all assets (34%).

So, the world is changing rapidly, new economies are growing and new markets are open for business. 

Again, this is hardly new news.

You might be tempted to ask: so what?   Let me try to answer.

2.  What trends are occurring as a result?

These drivers are giving rise to five trends that are shaping global businesses today:

• New capital flows: Increased global interdependence as volumes of foreign direct investment rise and the suppliers and demanders of capital become more geographically diverse and more reliant on each other.

• Dispersed centres of innovation: Innovation is becoming more geographically diffuse with clusters of innovation springing up in diverse locations across the globe.

• New consumer markets: Increasing employment and incomes in emerging economies combined with immigration into existing markets is creating a huge pool of new potential customers.

• Battle for resources: While the demand for natural resources increases significantly, fuelled by the growth of emerging economies, so too the supply of resources is becoming more strained, leading to fierce competition between countries for access to the best sources of supply.

• The war for talent: Talent has now become a global commodity, fought over by multiple competitors from both the developed and emerging markets.

For the purposes of this morning’s discussion, I will focus less on the battle for resources and more on those trends that will directly impact the financial services industries, namely: capital, innovation, consumer markets and talent.

For each of these trends, I will describe what is occurring, make some general observations about what the world of 2018 might look like and comments on the challenges facing the Scottish Financial Services industry as a consequence

3. How will these trends change the world of 2018?  - Multidirectional capital flows

More open markets will allow increasing volumes of foreign direct investment to, from and between emerging economies (‘E2E’ investment).

• In 2005, emerging markets attracted $334 billion in FDI, 36% of the world total. 

• FDI from emerging economies grew to $133billion in 2005, 17% of the world total. 

• In 2006, the majority of outward flows of FDI from the BRIC economies went to other emerging markets.

Increasing presence of emerging-market multinationals.
 
• In 2005, the top 100 companies from emerging markets increased their foreign sales by 48% and foreign employment by 73% - compared with about 10% overseas sales and employment recorded by their developed world counterparts. 

• When Chinese oil company PetroChina floated on the Shanghai stock market in 2007, it became the world’s largest company with a stock market capitalization of almost US$1 trillion – twice the size of its nearest Western counterpart.

• Fortune Global 500 list of the world’s largest companies now numbers 70 emerging market companies among its ranks – up from just 20 in 1995. 

New financial instruments – in particular Sovereign Wealth Funds – snapping up stakes in financial services companies as well as other sectors. 

• Singapore’s Temasek Holdings invested $4.4 billion in investment bank Merrill Lynch in December 2007.   It had already invested $2 billion in Barclays Bank and holds a 17% stake in Standard Chartered. 

• China Investment Corporation paid $5 billion for a 9.9% stake in US investment bank Morgan Stanley in December 2007.

• Earlier this year, Gordon Brown offered London as the overseas base for China's $200 billion sovereign wealth fund (China Investment Corporation), which aims to encourage the world's fastest-growing economy to invest in Britain.

Lingering risk of a return to protectionism – while progress has been made towards greater liberalisation, some signs that elements of the global economy are resistant.

• Thailand’s newly appointed government general approved new limits on foreign investment at the beginning of 2007.

So what will the world of 2018 look like?

• New, regional financial centres around the world will spring up and compete with the traditional axis of London, New York and Tokyo.  There is a risk that financial centres such as Edinburgh cease to be a significant centre for financial services if they fail to keep pace with the competition.

• Increased foreign ownership of developed world assets – prestige and history will count for little.  Witness India’s Tata taking over Tetley Tea or potentially Jaguar and Land Rover – traditional British brands.

• At the same time, resistance and protectionist instincts could lead to Scotland losing pace with the rest of the global economy.

• More investment by Sovereign Wealth Funds that look to establish a foothold in developed world markets.

• Higher flows of FDI present both opportunities for investment in Scotland and investment by Scotland in other markets.

Key challenges for Scottish Financial Services

• How can Scotland maintain its position as a key financial centre in the face of competition from emerging economies and new hubs of strength?

• How can Scotland position itself as a key location of emerging market Foreign Direct Investment and Sovereign Wealth Fund investment?

3. How will these trends change the world of 2018?  -  Globalisation of Innovation

I believe that there is a fairly widespread (and very complacent) view in developed economies that somehow innovation will remain the preserve of the developed world, whilst the emerging economies do the “leg work”.  This is quite fallacious.

Clustered R&D and technology centres will drive innovation in emerging markets, competing with the developed world at the higher ends of the value chain.

• China holds 12% of the world’s nanotechnology patents, Seoul is becoming a digital media hub, Brazil is a centre for biofuels.

Success will be founded on new sources of talent, government support for R&D, global standards of intellectual property and focusing on consumer markets in emerging economies as a springboard into developed markets.

• In science, engineering and technology, Asia and Central and Eastern Europe together account for a larger proportion of graduates in these subjects than the United States and Western Europe combined. 

• R&D spending in China has been growing at about 17 percent, far higher than the 4 to 5 percent annual growth rates reported for Japan, the United States and the EU.

• Global IP standards are beginning to be set outside the US and Western Europe, while some countries are trying to align themselves to international standards.

• A burgeoning market and growing middle class has always been a driver of R&D.

This has provided new opportunities to re-locate R&D functions to emerging markets.

• Wall Street has outsourced sophisticated research on global capital markets to India.

• GE and Microsoft have R&D centres in Bangalore.

Also provides the opportunity for technology leapfrogging

• In South Korea, mobile phones are being used to transfer money and check balances.

• New IT investments by banks are forecast to reach $35.6 billion globally in 2008 at a CAGR of 15%. 

So what will the world of 2018 look like?

• Large number of functions off-shored to new centres of innovation, reducing cost base and increasing enterprise competitiveness.

• However, as dissatisfaction grows with some off-shore services – particularly sectors such as voice services – these operations are now being repatriated back to the developed world. Furthermore, skills shortages in some emerging markets in Eastern Europe and Asia – particularly accountants and finance professionals – will limit efforts to outsource corporate financial functions.

• Technology has transformed the way in which retail banking in particular is delivered. Emerging market financial services lead the way in technological innovation by offering new, cutting-edge products and services before their developed world counterparts.

Key challenges for Scottish Financial Services

• How can we harness innovation? What opportunities are there to form alliances with technology partners?

• How can Scotland strengthen its ability to innovate and build clusters of innovation that can compete on the global stage?

• At the same time, how can Scottish businesses leverage off-shore R&D facilities to generate growth, as well as capturing those functions that are being repatriated to the developed world?

• Question end-to-end control of the value chain: what are the core functions that add most value? Where does Scotland want to focus – high-value-add or low-cost functions that can be outsourced? 

 3. How will these trends change the world of 2018?  -  New consumer markets

I would say that the rise of new consumer markets in the multi-polar world needs very little explanation.  Let me just provide you with some facts to give you a sense of the scale of this effect.

New, huge pools of growing disposable income

• Consumer spending in China is forecast to rise at 8% CAGR by 2025, compared to 2.7% in the United States.

• It is estimated that by 2010 there will 123 million middle-class households in India and China.  This more than the total number of households in the US. 

New needs, new products

• Rapid growth in consumer spending in emerging markets will drive demand for consumer credit to support key purchases.  This is an extraordinary opportunity.  The use of credit cards is currently extremely low in emerging markets – with just two cards per 100 people in China, India and Russia.  In the most developed market for consumer credit, the United States there are 240 cards for every 100 people 

• Financial market liberalization will boost the availability and affordability of consumer credit.

• The BRIC economies saw consumer loans expand from $145 billion in 2001 to an estimated $477 billion in 2005.  By 2009 BRIC retail lending could reach $1.8 trillion. 

• At the same time there is a significant, growing market for savings and investments.  This is particularly true in markets where there are strong family ties, and a strong cultural desire to improve the chances of future generations.  For example, the market for education-based savings is growing rapidly in China and India.

So what will the world of 2018 look like?

• The concept of the geographically local market is anachronistic as Financial Services institutions around the world compete for new pools of consumers in both developed and emerging markets.

• Consumers are increasingly less loyal and prone to change their bank more frequently over their lifetime.

• Consumers demand greater personalisation of service that reflects individual tastes and concerns – these are increasingly social/cultural rather than demographic.

Key challenges for Scottish Financial Services

• Does Scotland want to be a local, regional or global player?

• How might the balance of Scotland’s FS sector change as a result of changing consumer markets?

• How can Scotland tailor products and services to local consumers on a global scale?

• How can Scotland manage the risks of operating in emerging economies?

3. How will these trends change the world of 2018?  -  War for talent

New sources of high-end talent in emerging economies

• There are about 33 million university-educated young professionals in emerging economies compared with 14 million in the developed world. 

• Relative position of emerging economies in terms of educational attainment is also improving – countries such as South Korea have jumped ahead over the last forty years so that they not have one of the most educated populations in the world. It is perhaps not surprising, then, that South Korea now produces about the same number of engineering graduates as the United States, despite having one-sixth of the US population. 

And increasingly poor skills match in developed economies

• In recent years the UK has graduated more media studies graduates than physics and chemistry combined. 

Leading to increased competition for global talent

• In 2006 employee turnover within the Indian IT sector stood at 40% and wage inflation 16%.

So what will the world of 2018 look like?

• Companies recruit talent from increasingly diverse locations and tap into previously marginal segments of the workforce e.g. mothers returning to work, the elderly, disabled etc.

• Employees are less loyal and more demanding – reward and recognition policies tailor to softer concerns about the environment, work/life balance, variety of experience etc.

• More flexible/remote working patterns.

Key challenges for Scottish Financial Services

• How can Scotland ensure security of supply in respect of talent? 

• How can Scotland make itself attractive to overseas talent so that not only do they study in Scotland’s universities but also enter the Scottish labour market following their studies?

• How can Scottish businesses recruit talent on a global basis that caters to different local needs and approaches?

Conclusions

Accenture believes there are three building blocks of high performance – whilst developed on the basis of researching more the 6,000 companies, they are equally valid for countries. They provide a framework through which we can assess what Scotland and its financial services industries need to do in order to face up, embrace and succeed in the world of 2018:

• Market focus and position: strategy decisions regarding where and how to compete

• Distinctive capabilities: hard-to-replicate capabilities that define how businesses compete

• Performance anatomy: common mindsets relating to culture, leadership and workforce

Market focus and position

For Scotland, as with any economy, succeeding in a multi-polar world requires identifying where your comparative advantage lies and exploiting it.  In the past, traditional strengths have been in the financial services, in high-end consumer brands, in textiles, foods and spirits, and in traditional energy-related technologies.  Further areas of strength are emerging, such as sustainable energy, biotechnology and life sciences, and digital media.  But increasing competition and the sheer speed of globalisation mean these strengths are all under threat.

There is no doubt that the rise of a multi-polar world brings a choice about which markets, which customers and what to sell.

• Markets: local vs global
• Customers: existing vs new
• Products: high-value vs low-value/high volume

Scotland needs to decide where it wants to compete. But it seems clear to me that future success will be increasingly dependent on gaining market share in emerging markets. This will require companies to gain greater market intelligence before entry and monitor changing political and economic trends closely. Financial services will also need to develop global brands that also reflect what resonates within local cultures and ways of working.

Distinctive capabilities

If Scotland is to maintain a leading role on the global stage, it needs to focus on three key ingredients:

• Access to talent: maintaining a supply of talented individuals in the face of increasing competition from overseas is critical. Already the City of London is experiencing problems due to a shortage of science graduates, impacting quantitative roles in particular. Many of the staff working in these roles in London now come from Russia, Poland or China. Maintaining investment in higher education and aligning skills development with business needs is essential.

• The proximity of other FS institutions: there is a critical mass that needs to be maintained in order for other institutions to locate here.

• The working/living environment: Scotland has a great advantage here, especially when you look to the increasingly overcrowded and congested environment in which workers live in places such as London.

This makes how Scotland markets itself on the international stage absolutely critical – but I don’t believe it is doing enough to get the message out. This needs to improve immediately as others are stealing a march on you. You only have to look at the recent marketing exercise undertaken by the Swiss cantons – who tried to capitalise on the uncertainty around non-domicile taxation in England by tempting foreign workers in the City of London to relocate to tax-friendly Geneva – to understand how much competition there is and will be in the future.

Underpinning this, maintaining light-touch, business-friendly legislation will help ensure that the overall environment for business and investment remains attractive.

Performance anatomy

• Increased collaboration between academia, business and policymakers (e.g. by secondments between business and research institutions) in order to create the networks needed for innovation to flourish, building on areas where Scotland is already strong e.g. the computer game industry.

• Investment in science and engineering disciplines at school and university to ensure a ready supply of skills.

• Attracting the best global talent by offering a propitious environment for researchers and scientists, capitalising on Scotland’s living environment and excellent academic institutions.

In summary

• Greater exposure to global financial markets brings greater potential for reward but also significant risks.

• We should be careful not to be drawn into viewing Scottish economic performance merely in relation to the Arc of Prosperity countries (i.e. Ireland, Iceland and Norway), but as part of a truly globalised economy.

• It is essential to be outward-looking and nimble enough to capitalise on opportunities that develop (and develop quickly) as well as extract yourself from potential trouble spots.

• What has made Scotland successful in the past will not necessarily do so in the future. Scotland needs to be prepared to bite the bullet of change if it wants to succeed in a world of new and sometimes uncomfortable realities.

• Scotland can chart its own course in a multi-polar world – it can decide whether it wants to be a leader or a follower, whether it wants to evolve or transform itself, whether it wants to take a position of influence or control on the global stage. The future is yours for the taking.

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