Financial interdependence in the global economy is intensifying. The globalisation of the financial services industry and markets, and the intensification of international financial integration create opportunities and present challenges to participants in the financial intermediation process, in the development of global strategies for the provision of value.
Given the importance of financial services for organising the world economy, these activities create significant opportunities for value creation and capture.
Increasingly, offshore financial centres are becoming key players in the “race”, capturing a large share of global financial flows.
A major type of offshore financial centre is the international financial centres (IFCs) that play a dominant role in the international financial intermediation process. The traditional financial intermediation theory suggests the provision of basic value elements, such as liquidity and risk management, and the allocation of resources. However, no account is given to the value added elements as major outcomes of the process of financial intermediation. The challenge facing IFCs is developing a sound investment climate for the delivery of the elements or factors of value and value added to the agglomeration or cluster of financial institutions operating in it.
The definitions of an international financial centre (IFC) share a common element of the provision of international financial transactions and services. In this study, an IFC represents an agglomeration of financial institutions that provide value competitively in the global financial marketplace. In this study, we define investment climate to capture more elements of value provided as “the factors or elements of value provided by an IFC to the agglomeration of financial institutions operating in it”.
An investment climate, which is synonymous to the business environment, focuses on its positive outcomes in terms of stimulating economic growth and development. However, most of the studies describe or prescribe the required institutional, governance, and infrastructure elements in an IFC. In addition, they have a narrow geographic focus on Asia, or Europe, while African and Middle Eastern countries are understudied. The emergence of the Middle East as a global financial centre is fuelled by its oil revenues and equities. The Arab world, especially the Gulf Co-operation Council (GCC) countries, seeks to establish an international presence by developing IFCs.
Elements: In our literature review, we will deal with the factors or elements of value affecting the investment climate in an international financial centre. Based on an extensive review of the extant literature, we found that these factors might be classified as: finance, innovation, governance, social relationships, and information.
Finance: A modern economic system depends on a reliable and efficient flow of finance through the financial system comprising both financial markets and financial intermediaries. Financial resources are required to achieve the objectives set by organisations. The efficient allocation of risks and resources is the primary function of a financial system. Financial institutions make the capital formation process more efficient and more attractive by providing services to the investors, creditors, and shareholders; managing risk is where real value is added in financial services. Financial institutions bear and manage risk on behalf of their customers through the pooling of risks and the sale of their services as risk specialists. A stream of research has found that the provision of liquidity and risk management are important basic factors of the investment climate in an IFC. In addition to liquidity provision in an IFC, risk management is important. IFCs add value to companies by minimising it in offshore outsourcing. The discussion above suggests that the provision of finance (liquidity) is positively related to the investment climate in an IFC.
Innovation: The positive impact of innovation on investment climate exists at both firm and country levels. Innovation may be the key for financial institutions to provide value-added products and services and differentiate themselves. Key institutions, besides factor endowments, that can influence the location of production include national and regional systems of innovation, flexibility, and willingness to embrace innovation. The discussion above suggests that innovation is expected to be positively related to the investment climate in an IFC.
Governance: Adequate governance systems are essential to the development of a sound investment climate in an IFC. It includes several integrated elements: legal and regulatory systems, transparency, institutions, infrastructure, a stable political and macroeconomic environment, and capital account liberalisation. A study on East Asia and other emerging markets attempts to empirically answer what matters in the investment climate when a country wants to attract more long-term, stable foreign investment. A good investment climate includes sound macroeconomic policies, open regimes toward foreign investment, and non-discriminatory frameworks for business facilitation. A policy implication is that improving the functioning of markets and the institutional framework is critical for boosting long-run economic growth. The elements of a sound investment climate, in the form of systems of corporate governance, financial regulations, and general business environment as the means of maintaining a national interest as they become sites across which international transactions flow. The discussion presented above suggests that the presence of an adequate governance system is expected to be positively related to the investment climate of an IFC.
Social relationships: Social relationships generate opportunities. Relationships in the financial industry are long-term in nature and come to possess important attributes for the parties involved: reliability, trust, confidence, and security, which are critical to success, and economic growth rates. Networked relations can also enhance certainty by enabling collaborative problem-solving, innovation, learning, and institutional change. The process of knowledge creation and dispersion is facilitated by the relatively “tight spatial matrix” within which financial institutions locate themselves in leading IFCs. The discussion above suggests that the development of social relationships is positively related to the investment climate in an IFC.
Information: At the conceptual level, a study found that financial institutions provide more efficient discovery, evaluation, and dissemination of information about legitimate investment opportunities. It is considered a focal point in the field of entrepreneurship. In a similar vein, agglomeration of financial institutions may result in a faster, more reliable information flow. This is the process of knowledge creation and dispersion that is facilitated by the relatively tight spatial matrix within which financial institutions locate themselves in leading IFCs. Communication can help generate new ideas but it also allows agents to benefit from information of others. The above discussion suggests that the production of information on entrepreneurial opportunities is positively related to the investment climate in an IFC.
nFouad al-Salem, PhD, and Mostafa Mohamed, PhD are working with Gulf University For Science & Technology, Kuwait. The views expressed are personal.