key: cord-0910730-l44h1192 authors: Vo, Duc Hong; Nguyen, Nhan Thien title: Determinants Of A Global Financial Center: An Exploratory Analysis date: 2020-10-10 journal: nan DOI: 10.1016/j.bir.2020.10.002 sha: 7e555e3a4e9a65208077995c4a549493e0639b6d doc_id: 910730 cord_uid: l44h1192 Well designed and comprehensive analyses of identifying determinants for a global financial center (GFC) are limited. This study is conducted to examine and identify the fundamental determinants for the Asia-Pacific region. Current literature provides us with 14 determinants which have been used in previous academic studies. The relevance and importance of these determinants for the Asia-Pacific region are unclear. We form 16,384 models on these 14 determinants to test the appropriateness of each of these determinants. Unlike previous studies, we use both Bayesian averaging of classical estimates (BACE) and the weighted average least square (WALS) in our analyses to ensure the robustness of the findings. Two key criteria are used to select relevant models with appropriate determinants. When all criteria and techniques are jointly considered, three fundamental determinants are identified for the Asia-Pacific region: (i) freedom to trade internationally; (ii) higher education and training; and (iii) market size. The world has observed the formation and advancement of metropolitan cities in the earliest twentieth century. Theories have been developed by many urbanists in determining cities which provide significant effects on the global economy. Gras (1922) and McKenzie (1927) mention the social and geographical characteristics of the world cities, which are demonstrated to influence the remaining parts of the world. Almost 40 years later, Peter Hall (1966) provides the taxonomic hierarchy of financial cities where New York and London claim the first and second major and largest centers in the world stage. Following the advancement of technological information and the globalization process, Sassen (1991) proposes the concept of a global city by connecting it with cross-border activities such as finance and specialized sectors (telecommunications and multimedia). Previous literature defines a global financial center (GFC) as a central city whose capital market and financial market are synchronized with the flows of global capital, information and telecommunications. The twenty-first century has witnessed the two decades with a dramatical increase in the GFC establishment. One facet stemmed from urban research is in relation to competition among cities. Following the findings of Buck, Gordon, Hall, Harloe, and Kleiman (2002) , the competition between cities for promoting themselves as the attractive havens for inward investments becomes fiercer and more popular. With enormous foreseen advantages of being a GFC such as boosting wealthiness, increasing jobs, city competition has gone worldwide than ever. Cassis (2006) and other economists agree on the significance of historical trade links, historical financial connection and financial development on the status of the GFC. Yildirim and Mullineux (2015) consider that the presence of financial center is symbolic to a host country in terms of financial and industrial services, fascinating infrastructure and technologies, and a major contributor to the national GDP. It can be easily observed that Shanghai, Beijing, Shenzhen, Hong Kong and Guang Chou are not only the five largest cities of China (in terms of GDP contributions as well as financial development) but also these cities belong to the top 10 largest financial centers in Asia (GFCI 24, 2018) . Tokyo is also a major GDP contributor to Japan, and the city is currently one of the most well-known financial centers in the world (GFCI 24, 2018) . With the focus on the Asia-Pacific region, Sydney and Melbourne are also the major GDP contributors of Australia and these Australian cities belong to the top 10 largest financial centers in the Asian region (GFCI 24, 2018) . We consider that a global financial center allows a country to maintain the steady-state of the economic growth and development. It is because the GFC provides the infrastructure for investment and savings that enable more opportunities for entrepreneurial endeavors. The financial centers aim to address the global funding shortages, which are projected to be at peak for the next 10 or 20 years. Many different economic issues have emerged as part of the globalization and industrialization process, including financial access and integration, energy security, global warming, ageing population and environmental degradation. These issues have become new challenges, and they have also become more crucial for the satisfaction of economic and social demand. It is widely acknowledged that the banking and finance systems are generally considered blood vessels for the entire economy and international trading. The GFC seems to be one way to tackle the issues of financial development and integration. That is a reason we believe analyses to identify the fundamental determinants of a GFC are of utmost importance. With these advantages of being the GFC, numerous countries in Asia are in pursuit of the financial center such as Indonesia, Thailand, Vietnam, the United Arab Emirates and many others. Yeouido island was schemed as a financial center by the Korean government in 2009. Seoul metropolitan government has cultivated Yeouido to be one of the world's leading financial centers in the world. In order to achieve the target, the governments have put countless efforts on improving the financial industry to achieve the international standard (GFCI 27, 2020 Following this introduction, the remainder of our paper is structured as follows. Section 2 examines and synthesizes relevant empirical analyses. We present the method adopted and data utilized in this study in Section 3. Section 4 of our paper present and discuss the empirical results obtained from this paper. Section 5 concludes and provides implications for policy purposes for emerging and developing countries in the Asia-Pacific region. Few studies have been conducted to identify fundamental determinants for a successful global financial center (GFC). Findings from these studies are mixed. We group previous studies on this issue into two areas of academic studies. The first group of researches includes classical studies which only utilize one dimension to define and classify world cities. Another group of research covers contemporary studies which consider the world cities as a process of continuing growth with persistent endeavors. As such, their status requires more than just a single-facet assessment. For the first group, many economists have put great effort to define and generalize the novel economic phenomenon in relation to the geography of money and finance. Departing from the seminal work of Peter Hall (1966) , studies on the taxonomic determinants for global cities have been investigated. In this consideration, we provide a summary of findings from previous studies into four key areas on which the cities qualify for being the global financial cities. The first area of academic studies is in relation to the cosmopolitan characteristics which are typically favorable by various scholars such as Hall (1966), Kindleberger (1974 ), Hymer (1972 ), Hynan (1977 , Thrift (1994 Thrift ( , 1996 and Leyshon (1995 Leyshon ( , 1997 . In this line of thought, the cities as the global centers are likely those with more serviceable capabilities and influential powers in terms of trade, education, culture and technology. Hall (1966) study is generally considered as a distinctive work on defining world cities based on urban geography. Studies by Kindleberger (1974) , Hymer (1972) , Khoury (1989) , Jao (1997) and Leyshon (1995 Leyshon ( , 1997 put attention on the multinational corporates (MNCs) headquarters and activities in the financial centers. These authors argue that the accessibility of the MNCs to advanced financial markets, J o u r n a l P r e -p r o o f skillful workforce, media and the governments is important in making high-level decisions on coordinating the financial capital flows. Leyshon (1995 Leyshon ( , 1997 specifically point to the political and economic policies which affect the efficiency of the financial market. Social factors such as social security and living standard have also had their effect on the success and the status of the financial centers. In addition, Khoury (1989) argues that political salience and geographical constellation are the two core drivers of the formation of global financial centers. Thrift (1994 Thrift ( , 1996 focuses on the culture and cosmopolitan characteristics which explain the formation of the major cities. The author considers financial centers as the collective means of generating, processing and providing information on the financial market derived from the day-to-day functions of the world economy. Jao (1997) also presents a clear definition of the financial center where the head offices are located. The author emphasizes on the essence of the financial market development in enhancing currency and capital market effectiveness. The second line of thought considers the world cities as the control centers of capital in the international specialization. Enriching theoretical literature comes from various studies including Cohen (1981) , Friedmann and Wolff (1982) , Friedman (1986), Godfrey and Zhou (1999) , and Glickman (1987) . Cohen (1981) study provides us with many possible trends in the new international specialization and urban hierarchy. On the rising demands of MNCs for financial services such as banking, auditing, accounting and legal consultancy, the study links those increasing demands to the change in the nature of the third-party companies which provide those services and the emergence of new major cities. The study considers New York, Tokyo, London as three predominant world-class centers of finance. Following these top cities, other cities such as Chicago, Paris, Frankfurt and Zurich belong to the second tier of the urban hierarchy. Friedman (1986) provides us with the list of leading cities in the world on the basis that the major cities are the control centers for capital in the new era of international specialization. These cities have to satisfy sets of criteria in advance. Moreover, the author also argues that it is almost impossible for delineating a stable urban hierarchy. In relation to Friedman (1986) urban hierarchy, London, Miami, Paris and Osaka-Kobe are considered as the world top-notch centers. The third line of thought contextualizes the formation of major cities by considering the inter-relationship between the advancement of telecommunication, the globalization, the organizational structure of the financial institution and producer services. Sassen (1991 ), Zelizer (1994 , Dodd (1995) , Beaverstock et al. (1999) and Falzon (2001) are generally considered J o u r n a l P r e -p r o o f representative studies to this line of thoughts. Dodd (1995) discusses five properties for the monetary network including accountancy, regulation, spatiality, sociality and reflexivity. The author argues that the monetary network should be best originated through the transmission of information between economic entities. The first two properties are the prerequisites for the formation of a financial network because these properties require a formal or standardized accounting system and legal information. The last three properties imply that financial centers are a combination of financial transactions. Beaverstock et al., (1999) discuss the roster of the world's leading cities in terms of selected services which they can possibly supply. The authors argue that the world's dominant cities are the post-industrial production sites in which the corporates and financial institutions adjust their products and financial services to integrate them with a globalization. The authors use the availability and quality of four fundamental services, such as accountancy, advertising, banking and legal services, which are considered crucial to the financial centers. Sassen (1991) supports the ideas that the globalization of the economy shifts the purpose of financial services and various productions to a global scale. The internationalization of production and financial services conceptualize the financial agglomeration in various world's cities. Considering local preferences of the third-party services, Sassen (1991) ranks London, New York and Tokyo as the three largest cities in terms of the high density of producer services. Similarly, Falzon (2001) suggests that the internationalization of production chains, financial services and the importance of the economy of scale are related to the formation of the global cities. Fourth, major cities are grounded on the relative ranking of the financial network. Typical studies for this line of thought are Reed (1981 Reed ( , 1989 studies. These studies consider that financial development is the crucial attribute for the formation of a city's attraction to capital resources. Using various analytical methods, the authors identify a taxonomic hierarchy, including five levels by which the world's top-tier cities such as London, New York, and Tokyo are defined. There are limited attempts which have been conducted empirically to consider the formation and the determinants of a global financial center. Typical empirical analyses include studies from Tey (2004) Moreover, their findings indicate that the quality of the legal system and property right is the most influential factor for the state and quality of a financial center. Eichengreen and Shah (2020) The Asia-Pacific region has generally been considered as a global economic powerhouse in the last two decades in the world's economy. Many cities in the region such as Ho Chi Minh City of Vietnam have emerged as major cities in the process of economic growth and integration. Lessons from existing global financial centers such as London, New York, and Tokyo are very important. However, empirical analyses with the focus on the Asia-Pacific region from this study will provide relevant and direct evidence for policymakers of the countries in the region in identifying fundamental determinants for a formation of a successful global center. In this paper, our main interest is on the differences between those countries with and without financial centers. As we do not know the form of the true model of an establishment of a GFC, we select determinants which are drawn from previous studies to be included in the model. We utilize a mixed probit model whose dependent variable GFC it only receives the value of 0 or 1, which denotes whether or not the country has any global financial center (GFC) in year . The equation can be expressed as follows: where ∈ (1, … , ) and ∈ (1, . . . , ), is the × row vector that potentially explains the establishment of a GFC of country in the period . We consider that selecting variables is fundamental for the analyses. In this paper, we use many multi-dimensional indicators which are generally considered good representative for independent variables known as determinants of a GFC in our model. These fundamentals are drawn from various studies such as Kayral and Karan (2012) , Moosa et al. (2016) , and Eichengreen and Shah (2019) . It is worth noting that this procedure by conducting multiple regressions are with the purpose to update our prior expectations, meaning that identifying the fundamental determinants for a GFC. Our literature review indicates that 14 determinants have been widely considered in previous analyses. As the starting point, we take into account all these 14 determinants. There are potentially 2 14 models, or 16,384 different models, as indicated by the J o u r n a l P r e -p r o o f statistical theory, to utilize various combinations of these 14 determinants into different estimations. Some of these 16,384 models might happen to be more informative and predictive than others. Our first step is to set out various criteria for filtering out these models, which we believe are the most relevant and appropriate for our purpose. The second step is to involve with averaging out the potential models based on their corresponding prior probabilities. The These above-mentioned criteria are associated with statistical inferences. We select the predictors which are part of these two equations, and they have positive coefficients. Also, our analysis is extended using the weighted average least square (WALS) and the Bayesian averaging classical estimation (BACE). Each of these techniques is briefly discussed below. Various These estimates can be obtained by simultaneously estimating one at times from three different variables of a pool of "suspected" variables. Doing so is equivalent to the decision to select three balls from a pool of K balls) and the variable . % ! " , % !)* respectively denote the standard deviation of minimum and maximum coefficients. By its definition and procedure, a major setback of the extreme bound analysis is its stringent conditions on the validity of the variable. When the upper bound and lower bound of any specific variable lie on the different side of zero, then the variable is labelled as "fragile". The problem is well articulated in Durlauf and Quah (1999) , Sala-i-Martin (2004) and further extended using the method of Granger and Uhlig (1990) generally known as the reasonable extreme bound analysis. Two strands of techniques can be used in tackling the model uncertainty, generally known as the Bayesian and non-Bayesian methods. In this paper, we focus on the other strand, which is the Bayesian approach. Many 1 We greatly appreciate comments from the reviewers for these criteria. We assume that the variable of interest can be expressed as + = , --+ , . . + /, where ,is a matrix ofcolumn vectors which we believe to appear in the true model. , . is the auxiliary matrix of . column vector which may or may not combine with ,to determine our variable of interest +, / is × 1 column vector of disturbance which is expected i.i.d and normally distributed /~ (0, % . 2 " ). The WALS method assumes that we can "orthogonalize" the matrix , . , which means by that , . 3 4 -, . = 2 5 6 , where 2 5 6 is the identity matrix with rank . , 4is defined as 4 -≔ 2 " − , -(, -3 , -) 8-, -. In details, we assume that if there is an orthogonal matrix 9 ( . × . ) which satisfies 9 3 , . 3 4 -, . 9 = Λ, it then scales up the auxiliary variables matrix , . by 9Λ 8 ; 6 , and defines new column vector of coefficient . * = Λ ; 6 9 3 . , then the , . * . * = , . . and , . * 3 4 -, . * = 2 5 6 . We can note that the matrix 4is a residual maker of the The advantages of utilizing Bayesian averaging of classical estimates (BACE) is clearly outlined by Sala-i-Martin (2004) The formation of a global financial center, as a dependent variable, is a binary variable. "1" is used when a country has a financial center, and "0" is taken when the country does not have a internal policies or the reputation of a global financial center. Another point is that the GFC emerges as the aftermath of the globalization and industrialization process, which requires long term commitment and many efforts from the country. To a certain extent, these accumulative efforts and developments are infeasible to capture. We, therefore, utilize static models by which create the benchmarks and explore the most common determinants between the cities as being the financial cities and those which do not. Our analyses use the dataset of 35 countries in the Asia-Pacific region. Table 1 provides the overall picture of the global financial centers in Asia and the world. Global Financial Center Dependent variable takes binary value with one denoting the countries with the GFC. The average of government consumption, transfers and subsidiaries, government investment, top marginal tax rate and state ownership of assets. This variable is measured in the scale of 0 -10. The average of juridical independence, impartial courts, protection of property right, military inference in the rule of law and politics, the integrity of the legal system, legal enforcement of a contract, regulatory restrictions on sale and property, reliability of police, business cost of crime. This variable is measured in the scale of 0 -10. The average of money growth, the standard deviation of inflation, inflation most recent year, freedom to own foreign currency bank accounts. This variable is measured in the scale of 0 -10. The average of income of taxation, non-tariff trade barriers, compliance cost of importing and exporting, foreign ownership/investment restriction, capital controls, freedom of foreigners to visit. This variable is measured in the scale of 0 -10. This variable takes into account the local supplier quality and quantity, state of cluster development, nature of competitive advancement, the production process of sophistication, value chain breadth, willingness to delegate authority, control of international distribution, the extent of marketing. This variable is measured in the scale of 0 -10. This variable takes into account the financing through equity market, ease of access to loan, venture capital availability, soundness of bank, legal rights index. This variable is measured in the scale of 0 -10. This variable takes into account the intensity of local competition, the extent of market dominance, effectiveness of the anti-monopoly policy, no. Procedure to start a business, no of day to start a business, agriculture policy, total tax rate, prevalence of trade barriers, the prevalence of foreign ownership, the business impact of rules on FDI, import as a percentage of GDP, trade tariff, degree of customer orientation. This variable is measured in the scale of 0 -10. This variable takes into account the secondary education enrollment, tertiary education enrollment, quality of the education system, quality of math and education, quality of management school, internet access in school, availability of research and training services, the extent of staff training. This variable is measured in the scale of 0 -10. Take into account the quality of overall infrastructure, road, railroad, port, air transport, electricity supply, mobile telephone subscription and fixed telephone line. This variable is measured on the scale of 0 -10. Our empirical analysis proposes that many models could be taken into account to identify fundamental determinants for the formation of a GFC. Our analysis is then extended to utilize the BACE and WALS method, which is averaging all of the possible models that could have happened. The third and the fourth column in Table 4 above report the empirical results using the BACE and WALS methods. Findings from this BACE method confirm a positive and significant contribution to the establishment of a GFC from the following five determinants, including (i) freedom to trade internationally; (ii) market size; (iii) higher education and training; (iv) size of the government and (v) population density. These five above determinants are also consistent with the results of the WALS estimates. On top of that, institution quality is also found positive and significant in the later estimates. The first three determinants are also supported by findings from Model 2 (using the BIC based criterion) and Model 1 (using the AIC based criterion). The remaining two determinants, including the size of the government and population density, are only supported by Model 1 (using the AIC based criterion). In summary, across all different techniques as presented in four models 1 to 4, we note that only three determinants satisfy all four models across techniques. These three determinants are (i) freedom to trade internationally; (ii) higher education and training; and (iii) market size. On these observations, we conclude that these three determinants should be considered as the starting point for the governments to consider the process of formulating relevant economic policies with the purpose of supporting the successful establishment of a global financial center in the emerging markets in the Asia-Pacific region. J o u r n a l P r e -p r o o f Many cities in the developing economies in the Asia-Pacific region such as Ho Chi Minh City of Vietnam and many others have emerged as the centers for financial and economic activities on a large scale. Governments in those countries have put great effort to identify major determinants to ensure the successful formation of a global financial center. However, it appears that few studies had been conducted and the Asia-Pacific region appears to have been largely ignored in current literature. As such, this paper is conducted to provide additional evidence in relation to fundamental determinants for establishing a global financial center in the Asia-Pacific region. These three determinants satisfy all criteria and techniques developed and adopted in this paper. On the basis of the above three fundamental determinants, we consider that the following policy implications are important for the governments of countries in the Asia-Pacific region to consider when relevant policies on the issue are formulated and implemented in the near future. We acknowledge that establishing a successful global financial center is a complicated and multi-faceted decision-making process which requires careful planning. The process also takes into account specific characteristics of the economy and the society. As such, there is no onesize-fits-all approach for different countries in the region. As an illustration, we use Ho Chi Minh City of Vietnam to identify current gaps and relevant targets for the formation of a global financial center. First, our results indicate that the formation of a global financial center requires an efficient tax system, a good degree of governance, digitalization of bureaucratic works and the trade liberalization. These aspects are embedded in the so-called freedom to trade internationally used in our analysis. The financial network should be placed on a standardized accounting system and legal information in relation to the rules, laws and the contractual relationship. Among these prerequisites, we consider the efficiency of the tax system and trade liberalization are more crucial. We can observe the success of Hong Kong as a global financial center as a typical example of the laissez-faire policy (or free interventionism). In the case of Vietnam, we suggest that the Vietnamese government should optimally minimize the intervention on the market. Second, we conclude that the essential condition for designating a global financial center is to enhance the accumulation of human capital and the promotion of products and services specialization. The globalization process shifts the scale of local and traditional financial transaction to a global level. Capital flows and modern technologies freely move across nations. This process changes the role of the financial system to make the system to be a collective mean of conveying, generating, processing and interpreting monetary information. As such, the financial system should primarily focus on the specialization of the skilled labor force, production materials and others. The financial center is effectively the center of "expertise", which requires a certain degree of specialization and skillfulness. In Vietnam, Ho Chi Minh city possesses many potentials and advantages for being a financial center in the Asia-Pacific region. From 2011-2017, the proportion of the unskilled workforce has reduced from 38.5 per cent to 21.9 per cent of the total labour force. More astoundingly, the proportion of highly educated workforce grows from 18.9 per cent to 25 per cent. These achievements result from attempts to implement a universal education program. However, weaknesses are found with the Vietnamese educational system. First, our curriculum and programs are obsolete and unfocused. Postgraduate students in Vietnam are not self-confident, non-specialized and low tech in comparison to students in other Asian countries. Third, our empirical evidence also ascertains that the market size is crucial to market development as well as a financial center establishment. Promoting market size is meant to increase the demand for capital. The following three approaches are recommended for consideration. First, the Vietnamese government should raise more capital for financing infrastructure in particular in the current environment after the Covid-19 pandemic. Many developing countries are successful in doing so. Investing in infrastructure is generally considered a powerful mechanism to increase capital demand. However, it is also a double-edged sword because the mechanism can render the country into a heavily indebted situation with the presence of inefficient management and corruption. Second, the Vietnamese government should J o u r n a l P r e -p r o o f promote and support the development of the small-and-medium-enterprises (SMEs) sector. Encouraging entrepreneurship and developing a vibrant start-up ecosystem act as the main channel for financing innovation (McKinsey, 2017) . Lastly, we encourage the Vietnamese government in capitalizing or privatizing the state-owned companies. Doing so is considered fundamental for increasing market demand. J o u r n a l P r e -p r o o f A Roster of World Cities Working capital: Life and labour in contemporary London Thousands of models, one story: Current account imbalances in the global economy Capitals of capital: A history of international financial centres Hong Kong as an International Financial Centre: Measuring its Position and Determinants', Hong Kong Monetary Authority, Working Paper The new international division of labour, multinational corporations and urban hierarchy Money and the nation-state: contested boundaries of monetary sovereignty in geopolitics The new empirics of economic growth The correlates of international financial-center status Characteristics of international financial centres World city formation: An agenda for research and action The world city hypothesis. Development and Change Cities and the international division of labour Ranking cities: multinational corporations and the global urban hierarchy Reasonable Extreme Bounds Analysis An introduction to economic history Global cities of tomorrow The multinational corporation and the law of uneven development Hong Kong as an international financial center: Evolution, prospects and policies Research on the Distinguishing Features of the International Financial Centers The international financial centers: Developing the competitive edge The formation of financial centers: A study in comparative economic history (Princeton Studies in International Finance No. 36) Geographies of Money and Finance I' Geographies of Money and Finance II A comparison of two model averaging techniques with an application to growth empirics Weighted average least square (WALS): A survey The concept of dominance and world-organization Determinants of the status of an international financial center Deepening capital markets in emerging economies The preeminence of international financial centres Financial center hegemony, interest rates and the global political economy The Global City Determinants of long-term growth: A Bayesian averaging of classical estimates (BACE) approach International Financial Centre: A Panel Estimation of the Determinants of Financial Activity Concentration Economic performance of Australia's cities and regions On the Social and Cultural Determinants of International Financial Centres: The Case of the City of London Reconfiguring the economic in economic geography An Empirical Assessment of the Istanbul International Financial Centre The social meaning of money: pin money, paychecks, poor relief, and other currencies The Global Financial Centres Index The Global Financial Centres Index The Global Financial Centres Index