Introduction, Karin Knorr Cetina and Alex Preda

Introduction 1
Karin Knorr Cetina and Alex Preda

Section I. Inside Financial Markets

1. The Embeddedness of Electronic Markets: The Case of Global Capital Markets

Saskia Sassen 17

2. How are Global Markets Global? The Architecture of a Flow World

Karin Knorr Cetina 38

3. How a Superportfolio Emerges: Long-Term Capital Management and the Sociology of Arbitrage

Donald MacKenzie 62

4. How to Recognize Opportunities: Heterarchical Search in a Trading Room

Daniel Beunza and David Stark 84

5. Emotions on the Trading Floor: Social and Symbolic Expressions

Jean-Pierre Hassoun 102

6. Women in Financial Services: Fiction and More Fiction

Barbara Czarniawska 121

Section II. The Age of the Investor

7. The Investor as a Cultural Figure of Global Capitalism

Alex Preda 141

8. The Values and Beliefs of European Investors

Werner De Bondt 163

9. Conflicts of Interests in the US Brokerage Industry

Richard Swedberg 187

Section III. Finance and Governance

10. Interpretive Politics at the Federal Reserve

Mitchel Y. Abolafia 207

11. The Return of Bureaucracy: Managing Dispersed Knowledge in Global Finance

Gordon L. Clark and Nigel Thrift 229

12. Enterprise Risk Management and the Organization of Uncertainty in Financial Institutions

Michael Power  250

13. Managing Investors: How Financial Markets Reshaped the American Firm

Dirk Zorn, Frank Dobbin, Julian Dierkes, and Man-shan Kwok 269

14. Nothing but Net? Networks and Status in Corporate Governance

Gerald Davis and Gregory Robbins 290

Index 313

This book is about the social and cultural study of finance, of the markets and institutions used for financial transactions, and the trading of assets and risks. The financial system controls and manages credit; in contemporary societies, the ultimate users of real capital rely heavily on others (investors) to provide the funds with which to acquire the resources they need. Investors make the transfers of money to those seeking credit in the hope of reaping profits at later points in time; the debts the receivers of the funds incur are claims investors can make on future income and on economic output and development. Characteristically, these claims (which take the form of com­pany shares, governments bonds, etc.) and their derivatives are marketed and traded on financial markets—with the help of financial intermediaries (e.g. banks, brokerage houses, insurance companies) who package the deals, assume some of the risks, and facilitate the trading of claims and risks among market participants. The existence of such markets allows particip­ants to sell claims and risks they no longer want, and to pursue additional profits through clever trading. Financial markets, then, are a major, if not the most important component of the credit mechanism in risk-based economies. Economists regard them as constituting an efficient mechanism that fulfills vital functions of, and for, the financial system: for instance, they pool and transfer wealth for capital use, decrease the costs of finance (through the elimination of banks as direct lenders), and spread and con­trol risks—risk being more widely distributed when credit is obtained in financial markets through the splitting of shares and through derivative products that can be used for hedging risky investments (e.g. Merton and Bodie 1995: 4f., 13-15).

In contemporary Western societies, financial activities are a defining char­acteristic not only of the corporate economy, but also of politics, the welfare and social security system, and general culture. For example, the corporate economy has long depended on credit to finance production and investments. A Robinson Crusoe with nothing to invest could not hope to produce much. He would first have to invest his own time and labor in order to build the rudiments of a productive capital structure (Shapiro 1985: 77). As Susan Strange argues (1994: 30), if we had had to wait for profits to be accumulated there would have been none of the economic growth of the past decades in industry and agriculture. The state has long needed credit and borrowed vast amounts of money. From the seventeenth century onward, states systematic­ally financed costly military interventions by issuing debt (government bonds) and borrowing money from banks and financial intermediaries, habits in which the financial sector might well have its earliest roots (Neal 1990). State borrowing continues to be strong today, though now it is more oriented toward deficit management and investment spending. In general terms, Western governments operate in interaction with the developments on financial markets. State officials and central bankers observe the price move­ments of currencies and financial indicators whose value may have an impact in a given geographic area, and they respond to them by talk and policy changes in an attempt to manage market participants’ expectations and behavior (see Abolafia, Chapter 10, this volume). The state is interlinked with the financial system through government fiscal and regulatory policies which impact on the financial markets (e.g. Fligstein 2001: 201-2), and through the incentives states provide to attract financial investments and systems. A central component of modern welfare societies, pension systems, also depend on and interact with financial markets. Reserves that pay benefits to retirees are assets managed through investment vehicles. Finance is, more­over, now an ever more present part of the larger culture, as exemplified by the expansion of media attention given to finance. The first all-news financial television network appeared in the United States in 1983. It was soon fol­lowed by and absorbed into other networks (e.g. CNBC, CNNfn, Bloomberg Television and Radio). Newspapers also expanded their business section into enhanced ‘Money’ sections; together, these media provide an uninterrupted stream of financial and business news consulted by both a lay and a profes­sional audience (Shiller 2000: 28-9). Barbara Czarniawska (Chapter 6, this volume) shows that the world of finance is present in popular culture—in consultancy books that dispense useful tips about personal investing mingled at times with autobiographical accounts (e.g. Schwager 1989, 1992), and in films and novels (e.g. Lewis 1989; Ridpath 1996; Partnoy 1997) that capture the dominant view of finance in our times.

Ours is not, of course, the first period in history to demonstrate a height­ened curiosity in investment and some breathtaking movements of financial markets (see below and Preda, Chapter 7, this volume). But finance has perhaps risen in importance in the last quarter century more rapidly than any other sector of the economy. Since it bottomed out in 1982, the US stock market has experienced the most dramatic price increases in its history, if long-term data (1871-2000) are considered, and large stock price increases also occurred in Europe, Asia, and Australia (Shiller 2000: 5 ff.). In the period between 1981 and 1986 alone the volume of US public bond issues rose at an annual rate of 37%, equity issues almost tripled, the dollar volume of mergers and acquisitions activity tripled, and the volume of international bonds multiplied fivefold (Eccles and Crane 1988: 1). Since then there have been various dramatic falls in prices (examples are the ‘Black Monday’ of October 19, 1987 when the Dow Jones Industrial Average dropped 508 points, and the market declines of 2001 and 2002). Nonetheless, the level and diversity of financial activities appears to have increased significantly since the 1980s. More importantly, perhaps, awareness of the financial system and of the risks and benefits it offers to individuals and organizations has also risen. As Sassen points out (Chapter 1, this volume), since 1980 the stock of financial assets has increased three times faster than the aggregate gross domestic product (GDP) of the twenty-three highly developed Organization for Economic Cooperation and Development (OECD) countries, and the volume of trading in currencies, stocks, and bonds has increased five times faster. Most of this activity is financial market activity. For example, the global foreign direct investment stock was US$6 trillion in 2000, while the worldwide value of internationally traded derivatives was over US$80 trillion, and rose to US$192 trillion in 2002. In 1983, on the largest financial market in terms of volume of transactions, the foreign exchange market, transactions were ten times as large as world trade (the economic exchange of goods and services), but in 1999 they were seventy times larger, even though world trade also grew significantly during this period (Sassen, Chapter 1, this volume).

Financial markets in particular, then, have risen in importance since the early 1980s, and their power to determine outcomes in production, con­sumption, and social welfare is enormous. Yet to date they have not been paid much attention by sociologists. This is somewhat surprising in the light of the sharp upturn economic sociology has taken in the last twenty years, and the pioneering work that has been done in this field (e.g. White 1981; Granovetter 1985; Burt 1992; Fligstein 2001; Podolny 2001). Why the relative lack of interest in financial markets then? One answer surely is that the new economic sociology has focused on aspects of the economy, an area which has to be distinguished from that of finance. Economists have defined economic activities as that set of pursuits which involves the use of scarce resources to satisfy various human needs or wants—and they have broadly classified these activities into the categories of production, consumption, and exchange (Dholakia and Oza 1996: 7). Economic sociology also defines economic behavior in these terms—in terms of the institutions and relations of production, consumption, and social distribution (e.g. DiMaggio 1994: 28; Smelser and Swedberg 1994: 3; Portes 1995: 3). In their research, economic sociologists have focused on the production side of the economy, taking the firm as their point of departure—in line with the distinctive role production has played in the discipline’s understanding of capitalism and with the focus early economic sociologists placed on the internal working of organizations (Swedberg 1991; Baron and Hannan 1994; Carruthers and Uzzi 2000: 486). Though a number of early studies were concerned with financial markets (Smith 1981; Adler and Adler 1984; Baker 1984), most recent research has not been in this area but has involved a shift from what goes on within firms to what goes on between them. The dominant line of research special­izes in the analysis of interorganizational ties, in effect joining organizational analysis and market analysis through the use of network approaches that analyze the nature of the relationships and networks and how these affect labor, product, and credit-seeking (e.g. White 1981; Burt 1983; Baker 1990; Baker, Faulkner, and Fisher 1998; DiMaggio and Louch 1998; Uzzi 1999). When markets are analyzed they tend to be producer markets, for example, markets for industrial products and nonfinancial services. Characteristically, the research glosses over distinctions between producer markets and financial markets in an effort to address the question of how economic activities are embedded in social structure (Granovetter 1985). While this research does not reject differences between markets, it is also not designed to capture the types and patterns of social structural and cultural variation that a ‘multiple market’ model (Zelizer 1988) suggests. Yet differ­ences between producer markets and financial markets are consequential for almost every level of analysis of markets.

Financial markets are not primarily concerned with the production of goods or with their distribution to clients but with the trading of financial instruments not designed for consumption. No ‘production’ effort on the trader’s part is involved in ‘spot’ transactions, the direct sale or buying of a financial instrument. When more complex instruments are traded (options, futures, etc.), their value tends to be calculated on the spot by traders them­selves without recourse to production facilities. Financial markets belong to a second-order economy where the ‘goods’ are contracts (equities, bonds, currencies, derivatives) that circulate rather than being channeled to end consumers. There are two aspects to the sense in which these markets are steps removed from the ordinary economy of production and consumption. The first pertains to the instruments traded, which are not the funds investors provide but the shares and obligations they obtain in return for their invest­ment and the contracts they enter into so as to protect these investments. Thus financial market participants do not withdraw credit directly from a company when they sell company shares; what may happen is that the sale influences the value of these shares. The shares and other instruments are abstract entities which may not even be pieces of paper but merely an entry in the books of the respective parties; the value of these entities is determined by financial market activities and is only tenuously related to the underlying referent (e.g. a company). The shift from concrete funds to abstract entities epitomizes the decoupling of financial markets from the ordinary economy of production, consumption, and exchange. The second aspect of this decoupl­ing has to do with the form of action prevalent in financial markets, which is ‘speculation.’ Consider the example of the foreign exchange market, where ‘actuals’ (currencies) rather than contracts are traded in spot transactions (though these currencies nonetheless take the form of abstract entities). Historically, currency (foreign exchange) dealers provided services for importers, exporters, and others who needed foreign exchange to pay bills and pay for goods. They were intermediaries in conventional trading oriented to the transfer of goods from producers to consumers. But only a tiny percentage of the current daily trading volume in foreign exchange (about US$1.2 trillion in 2001; Bank for International Settlements 2002) reflects any ‘real’ requirements of companies; the daily volume of dollar transactions in this market is approximately 200 times larger than the added volume of US merchandise imports and exports, plus other sales that require foreign exchange (e.g. Caves, Frankel, and Jones 1999: 420). Thus, most foreign exchange dealing today is speculation not motivated by a need for the product obtained but by the motive of gaining from expected price changes of the currency when it is resold. Speculation and the seemingly endless circulation of the entities traded also differentiate other financial markets not only from producer markets, but also from merchandise and service trading, which is oriented toward the transportation of goods from one location to another and toward consumption at the end of the trading chain.

There is another sense too in which financial markets and the associated institutions differ from national economies: financial markets tend to be global markets, and the financial system can arguably be considered a global system. It is, if you wish, a structure of the world as one place rather than one of national societies. Economies, on the other hand, have typically been localized; they are the economies of nation states. They depend on national regulatory frameworks and institutions, tax and social security systems, national policies and interventions. They use national currencies and presup­pose the existence of a national central bank. Their localized character is reflected in national economic indicators and in the attention given to them. Larger economic systems such as the European Union pose problems for analysts precisely because they do not correspond to this pattern; European statistics are often problematic since they average out the internal dynamics of localized economic activities and their causal dependencies on national frameworks of policymaking. To make predictions about the European Union’s economic development, analysts tend to resort to the indicators of leading national economies and to disregard aggregate statistics that reflect the European level. The global architecture of financial markets is reflected in their concentration in global centers and cities (Leyshon and Thrift 1997; Sassen 2001), in the bridgehead construction of their infrastructure and the global ‘scopic systems’ they employ (Knorr Cetina, Chapter 2, this volume). All this will become clearer in the first section of this book. Not all financial markets, one should add, are equally global. While currency markets are inherently transnational markets, bond and equity markets are not, though they have become increasingly global in the most recent wave of globaliza­tion. As Sassen shows (Chapter 1, this volume), the value of cross-border transactions in bonds and equities as a percentage of GDP in the leading economies was 4% in 1975 in the United States, 35% in 1985 when the finan­cial era was in full swing, and had risen to 230% in 1998. This share grew from 5% to 334% in Germany and from 5% to 415% in France.

A Brief Look at the History of Financial Markets

The world economy was born with the dawn of international trade, and foreign exchange trading has played a role in this economy from this time onward. Some financial transactions are ancient; of others we have had evid­ence only more recently. We need to distinguish here between the existence of public debt or of company shares (with occasional trades) and the emerg­ence of financial markets and of stock exchanges. Financial securities were well known and privately owned in the eighteenth century in North America, but they were not traded (Wright 2001: 21-2). Financial markets can only be assumed to exist when there are routinized, systematic forms of trading, rel­atively stable settings, a minimal degree of standardization of financial secu­rities, and established cognitive procedures for their evaluation. When stock exchanges emerged they involved, in addition, agreements about formal rules, an established organizational structure, and a regulatory framework for exchange activities. Economic historians agree that informally organized financial markets preceded stock exchanges and shaped the ways they were set up (Michie 1999: 15). For that reason, the social and cultural history of financial markets does not begin with the analysis of the institutional structure and dynamics of exchanges. One must also investigate forms of interaction, social relationships, and cognitive and technological patterns that indicate the existence of more or less informal financial markets.

Sociologists and economic historians have distinguished at least two patterns of market emergence. The first pattern, proposed by Max Weber, is that of functional differentiation. Weber ties the rise of financial markets to the emergence of modern, large-scale commerce (Weber 2000 [1894]: 306). In the seventeenth century, wholesale merchants began to exchange certificates of the ownership of goods and brought only samples to the market. This saved transportation costs and expanded the circulation of goods. In time, certificates began to be traded independently of the goods. When early modern states turned to financing their wars through public debt instead of costly private debt, this innovation gave financial markets an additional and decisive impetus (Neal 1990; Carruthers 1996: 71). Previous trading in paper certificates facilitated the move to trading government bonds, which states unloaded on the market. The growth of maritime trade—a costly enterprise— led to the emergence of joint-stock companies in the late seventeenth century; their shares added to the supply of trading instruments.

The second pattern of market emergence has been proposed by Winifred Barr Rothenberg, who ties the emergence of financial markets to the separa­tion between property rights and exchange rights. Rothenberg (2000: 5) shows how in eighteenth century rural Massachusetts, in a cash-poor eco­nomy, in the absence of a banking network and of other financial institutions, members of rural communities issued mortgage deeds as financial securities without renouncing their property rights. The deeds were issued for the sole purpose of exchange; they were designed to facilitate trades in agricultural products. Over time, mortgage deeds were traded and accumulated without any reference to the underlying agricultural products, and a network of informal exchange relationships was thus established.

In Western Europe, financial markets emerged in the late seventeenth and early eighteenth centuries in Amsterdam, London, and Paris. The Paris Bourse was created already in 1724 by royal decree. In contrast, the London Stock Exchange was not completely institutionalized until 1801 (Michie 1999: 35). The New York Stock Exchange emerged from the ‘Buttonwood Agreement’ of May 17, 1792, by which the participating stockbrokers agreed to ask the same commission rate on transactions. The first formal stock exchange in North America was founded in Philadelphia in 1790 (Markham 2002: 115). Before that, there had been an incipient financial market in Philadelphia in the 1750s, but on a comparatively modest scale. Initially, financial transactions were conducted in the street and in the pubs and coffee houses where merchants came together. After the institutionalization of stock exchanges, the formal market moved indoors while the informal market continued to trade in the street. This situation continued until well into the twentieth century. In the nineteenth century, several formal exchanges existed in parallel in New York city; they specialized in various classes of securities (oil, mines, cotton, listed or unlisted, etc.). For most of the nineteenth century, trading in derivatives was not regulated by law, and was therefore practiced mostly in informal markets.

In the second half of the nineteenth century, markets underwent a process of technological remaking. While financial markets had benefited from communication technologies such as the telegraph and the telephone since the 1840s and the 1870s, respectively, what developed in the 1870s were custom-tailored technologies for the recording of security prices and for their simultaneous display in several places. This process was not free of tension; there were conflicts over the access to market technologies, to financial news, and to price information. Since then, financial markets have been reshaped repeatedly by revolutionary new technologies, a process that is ongoing. Several European stock exchanges have recently become entirely automated; the now empty trading floors of the Paris Bourse are occasionally used for staging fashion shows. The technological remake of financial markets in the nineteenth century had a number of consequences. The introduction of price recording technologies promoted the standardization of price information. Official price quotations appeared in London and New York in the late 1860s; with this innovation, producing business analyses and company statistics became more feasible and popular. As a further consequence of price standardization, one of the first market indexes was created by Dow Jones in 1884. Shortly afterward, security ratings and systematic financial analyses of industrial stocks were introduced. Technological innovation, along with processes of economic expansion, urbanization, and international migration have contributed further to the speed of transactions and the expansion of markets throughout the nineteenth and twentieth centuries. This expansion has been accompanied by the cross-border integration of these markets, manifest in the increased speed of capital flows, the growing interdependence of markets, and their previously mentioned concentration in global centers.

Outline of the Book

Economic sociology, we said, has focused very much on the production side of the economy. Yet an incipient sociology of financial markets has also emerged since the 1980s, exemplified by Smith’s work on trading strategies and auctions (e.g. 1981, 1989), Baker’s studies of trading networks (e.g. 1984), Abolafia’s ethnography of bond traders (1996), and Sassen’s continued work on the location of financial markets in global cities (e.g. 2001), amongst others (e.g. Lie 1997). The studies collected in this volume extend this tradition and that of recent or ongoing work not represented in this volume (e.g. Hertz 1998; Miyazaki 2003; Zaloom 2003). The studies cover a whole spectrum of approaches focused on the internal working and governance of financial markets, on the rise of the investor and investors’ concerns, and on the influ­ence financial markets exert on other areas, for example, on popular culture and the internal structure of firms.

Section I, Inside Financial Markets, looks at the transaction practices in various financial markets, at market globality, and at mechanisms of market coordination and integration—followed by a reflexive study of how women fare in this world as reflected in popular culture. In Chapter 1, The Embeddedness of Electronic Markets: The Case of Global Capital Markets, Saskia Sassen addresses the technological transformations behind the emerg­ence of global markets and the growth of capital flows since the early 1980s—as indicated by a number of highly telling statistics. These develop­ments ensure, Sassen argues, the consolidation of an upper stratum of select financial centers, forming the top layer of the 30-40 global cities through which the global financial industry operates, and a weakening of national attachments for the elites and firms which make up the stratum. Yet the global market also remains embedded in national policies and state agencies in terms of the guarantees and protections it receives, and by producing norms and cognitions that become integrated into ‘sound’ national economic policies and standards. Chapter 2 (Karin Knorr Cetina) poses the question How are Global Markets Global? The Architecture of a Flow World with regard to a specific case, that of the foreign exchange markets, which by all accounts are the most genuinely global and the largest market worldwide in terms of daily volume of trading. The chapter draws a distinction between network markets and flow markets, arguing that foreign exchange markets have become decoupled from networks and exhibit a scopic architecture based on reflexive mechanisms of observation and projection that project market reality and enable it to flow. The argument challenges the notion that networks are the fundamental stuff of which today’s markets (or other forms of new organization) are made, and the idea that electronic interconnected­ness can be equated with a network form of organization. The chapter also spells out the characteristics of a flow market. In Chapter 3, How a Super-Portfolio Emerges: Long-Term Capital Management and the Sociology of Arbitrage, Donald MacKenzie turns to the actual trading practices of global arbitrage trading. MacKenzie’s study focuses on Long-Term Capital Management (LTCM), a hedge fund that had been hugely successful for sev­eral years but was driven to the brink of bankruptcy in 1998. The chapter describes in detail LTCM’s trading strategies, explaining its failure in terms of a sociological hypothesis: LTCM’s success led to widespread imitation in the arbitrage community of people who personally knew each other and who ended up holding overlapping arbitrage positions. Sales by some holders then led to a cascade of self-reinforcing adverse price movements that exhausted LTCM’s means to hold out against the losses it incurred. Daniel Beunza and David Stark (Chapter 4), How to Recognize Opportunities: Heterarchical Search in a Trading Room, also look at arbitrage trading, but from the perspective of how a Wall Street trading room of a major international investment bank is organized for the process of price discovery. Beunza and Stark conceptualize the trading room as a kind of laboratory characterized by heterarchy, that is, a flattened hierarchy where the evaluative principles and information of one trading desk can be exploited by other desks in a process by which intelligence is distributed across desks. The authors show how trading involves heterogeneous principles of valuation and collaborative efforts which have received hardly any attention hitherto in the literature on trading (but see Heath et al. 1994). Chapter 5 (Jean-Pierre Hassoun), Emotions on the Trading Floor: Social and Symbolic Expressions, also focuses on the financial trading floor—from yet another perspective, that of the role and management of emotions in trading. Drawing extensively on the metaphors traders use, Hassoun provides a typology of market emotions, which he associates with the contexts in which emotions emerge—those of performance, violence, and gaming and gambling. He also discusses the social effects of these emotions and specifies three ‘registers’ of market activity that range from the macro- to the micro-level. The final chapter in this section (Chapter 6), Barbara Czarniawska on Women in Financial Services: Fiction and More Fiction, provides a reflexive commentary on the way financial markets are exclusionary and represented in this way in popu­lar culture. Czarniawska compares the portrayal of ‘exceptional’ women such as the Swedish analyst Elin Friman in novels and journalistic accounts with that of certain semi-fictitious male characters in films and autobiographies (examples are the movies Rogue Trader, which is based on the autobiography of Nicholas Leeson, who brought down the Baring Bank, and Boiler Room, a movie based on the story of Michael Milken, ‘the king of junk bonds’, who was later imprisoned). She finds that risk-taking women who try their hand at masculine pursuits come to sticky ends in the plots of such fiction, confirming conventional stereotypes expressed by male traders when they assert that women have no place in financial markets.

Section II, The Age of the Investor, turns from trading and the architec­ture of markets to the historical and contemporary construction and self­understanding of investors. While governments, firms, and markets all refer to the investor and conduct their business in the name of the investor, there are few sociological investigations of investor attitudes and investment behavior. Chapter 7, by Alex Preda, on The Investor as a Cultural Figure of Global Capitalism takes a step toward remedying this situation. Drawing on primary historical sources, Preda describes the emergence and understanding of the investor in the eighteenth and nineteenth centuries as one of capitalism’s cultural figures, comparable to those of the entrepreneur and the capitalist. Preda argues that investment, originally denounced as a kind of gambling, became legitimate during the first wave of globalization (1850-1914); it began to be seen as intrinsic to human nature and a human right regardless of social status. The process involved a reconfiguration of the investor as a person in possession of these rights and of certain cognitive and technical skills (a kind of scientist) that allowed him or her to pursue his or her financial goals in universally valid and rational ways. These rights continue to play an important role today—in various governments’ attempt to institute standards of business that work to the advantage of investors, in legal invest­igations, and in the various national and international negotiations over how to make financial information more transparent. In Chapter 8, The Values and Beliefs of European Investors, Werner De Bondt extends the historical analysis to contemporary investor culture. Using a survey of more than 3,100 affluent and semi-affluent investors in six Western European countries as a basis, De Bondt shows how investment strategies and the perceived attract­iveness of asset classes are influenced by the values and beliefs of investors— and by their self-confidence, financial sophistication, and trust in expert advisors. De Bondt finds that investors’ values and beliefs correlate with national character, gender, age, and religion and are predictors of portfolio choice and investment strategy. The final chapter (Chapter 9) in this section is by Richard Swedberg, who writes on the Conflicts of Interest in the US Brokerage Industry. This returns to the topic of investor rights, which Swedberg examines in the context of a case analysis of recent corporate scan­dals. Swedberg starts from the sociological assumption that interests are always socially defined or constructed and that interests can only be realized through social relations. He shows that interests manifest in these scandals were the outcome of definitional struggles centered on the notion of ‘general investor interest’, and that social relations and institutions played a key role in substituting particular definitions of interests for the general investor interest in determining the outcomes of these struggles. This analysis differs from the greed-centered psychological analysis of corporate scandals pre­dominant in public discourse. Swedberg calls on economic sociology to pay more attention to the dynamic of interests in economic behavior, arguing, with reference to Weber, that interests are a dynamizing factor in economic and general behavior.

Section III, Finance and Governance, presents two kinds of sociocultural processes: those which mediate and control market transactions (Chapters 10-12) and those through which financial markets affect the structure and organizing principles of corporations (Chapters 13 and 14). In Chapter 10, Interpretive Politics at the Federal Reserve, Mitchel Y. Abolafia takes the reader into the normally closed meeting room of the Open Market Committee of the Federal Reserve System. Analyzing meeting transcripts, Abolafia details the interpretive politics of the Fed during a period of a major policy change. The chapter identifies the temporal structure of Fed meetings and the framing moves that participants use to contest existing pol­icy frames and project new ones. By looking at interpretive politics as an interactional process that relies on a repertoire of moves, the chapter exem­plifies the social process of meaning construction in finance and provides a template for the mediating role of interpretive reasoning processes in other areas. In Chapter 11, The Return of Bureaucracy: Managing Dispersed Knowledge in Global Finance, Gordon Clark and Nigel Thrift shift the analy­sis away from such mediating interpretive processes to the question of how banks exercise control over trading rooms and financial market transactions. The authors describe a bureaucratic process of control through risk man­agement that is dependent upon assessing dispersed knowledge about mar­ket conditions and response within the firm and across the globe. In financial markets more than in most other kinds of firms and industries, this kind of bureaucratic control is seen to be essential to corporate financial integrity and performance; indeed, the authors argue that it may also be essential to global financial stability. Chapter 12, Enterprise Risk Management and the Organization of Uncertainty in Financial Institutions, continues to explore risk analysis, but with a broader focus. Michael Power shows how new instruments of risk analysis, based in sophisticated financial metrics, have gained global prominence and are being adopted as regulatory tools for financial markets by national and international bodies. Power’s argument is that the rapid rise to success of these tools is not necessarily due to their technical accuracy, but rather to the fact that they embody a new conception of the relationship between firms and financial markets (the shareholder concept of the firm). Power also argues, in line with Clark and Thrift, that risk analysis tools are adopted to increase the internal control of corporations. The shareholder concept of the firm is also central to Chapter 13, Managing Investors: How Financial Markets Reshaped the American Firm, Dirk Zorn, Frank Dobbin, Julian Dierkes, and Man-shan Kwok start from the question of what causes large numbers of firms to change strategy and structure in tandem. They find that the new model, the shareholder concept of the firm, which emerged between the 1960s and the 1990s, could not be traced to internal functional demands but came from institutional investors, financial analysts, and hostile takeover firms which began to articulate a new ideal that suited the interests of these three groups. The chapter thus illustrates how professional groups in financial markets can act as agents of change in an area with which they have little direct contact by expressing their preferences for firm structure and strategy through their roles in the market—for example, by lowering the price of firms that did not abide by the new ideal, recommending against buying stock in them, or taking firms over and restructuring them themselves. Chapter 14 demonstrates another aspect of the effect such agents can have on the internal structure of firms. In Nothing but Net? Networks and Status in Corporate Governance, Gerald Davis and Gregory Robbins show that cor­porate boards seek to appoint well-connected directors above all when they have a strong need for a display of status—which is the case when they are owned by institutional investors rather than individuals, and when they have been the subject of shareholder proposals suggesting a change in firm governance. By examining a panel of the several hundred largest US firms observed at four-year intervals over a twelve-year period, the authors explore these findings in connection with firms’ network centrality. Central boards are better able to attract central directors and CEOs of major corporations, but there is no evidence that boards composed of these individuals enhance subsequent performance (Khurana 2002).

The intention here is not to present the reader with a single point of view or argument, but rather to highlight the diversity of theoretical perspectives and approaches, as well as the complexity of the field. Some topics of research are just emerging; others are being approached under a new angle. Still others did not find their way in this book for reasons of space and structure. Nonetheless, the present book aims to deepen the sociological study of financial markets as a fundamental domain of modern societies. It hopes to convey to the reader the intellectual excitement triggered by studying them.

1 The Embeddedness of Electronic Markets: The Case of Global Capital Markets

SASKIA SASSEN

Introduction

We might expect today’s global financial market to be generally unlike other current and past markets and to approximate, and even enact, key principles of neoclassical market theory. The effort of this chapter is to understand the limits of this electronic, transjurisdictional, globally interconnected market, and to lay bare its modes of embeddedness and its conditionalities. The argu­ment is that while today’s global capital market is indeed a complex forma­tion markedly different from earlier global financial markets, this does not necessarily mean that it is totally disembedded. The new technologies have had a deeply transformative effect that I specify below. One research strategy to capture the specificity of the technical transformation along with the pos­sible embeddedness of this market is to explore the existence of imbrications with non-digital environments and conditions that shape and give content to technical features and to the effects of technology. Such imbrications would then signal the limits of the technological transformation.

To examine the validity of this point it is actually important to show that the current market for capital is different from earlier phases in this market, in good part due to the specific capacities associated with the new computer centered interactive technologies. The first section, ‘The Global Capital Market Today’ then examines in what ways this market is different. In the sec­ond section, ‘Continuing Utility of Social Agglomeration,’ I argue that even as it is different, it remains deeply embedded and conditioned by non-market and non-digital dynamics, agendas, contents, powers.

The Global Capital Market Today

The global market for capital would seem to be as close an approximation to the neoclassical model of the market as has been possible yet. Because it is

The author thanks Cambridge University Press for allowing the reprinting of this paper. The paper was originally prepared for presentation at the Conference Inside Financial Markets (Konstanz, May 2003).

increasingly an electronic market, with pervasive use of cutting edge computer applications, it is open to millions of simultaneous investors and conceivably able to maximize the chances that market participants have basically instan­taneous access to the same information no matter where they are. This should then ensure that supply and demand forces are in full operation, guided by information universally available to participants. Since it is a market centered in an industry that produces dematerialized outputs, these can respond ‘freely’ to demand-supply forces, in that they experience little if any distance friction or other obstacles to circulation which can distort the operation of these forces. Crucial to this possibility is the fact that growing numbers of governments have been persuaded or led to deregulate the industry and its markets, thereby enhancing the operation of supply and demand forces, rather than being encumbrances to their operation. Further, as a global, deregulated, and electronic market, it has particular capabilities for overrid­ing existing jurisdictions.

In brief, one might posit that this is as close an approximation to the model of supply and demand as one might hope for: a market that is not encum­bered by geography, weight, unequal access to information, government regu­lation, or particularistic agendas given its highly technical character and the participation of millions of investors. Has the ultimate market arrived?

Insofar as an economic analysis of markets excludes firms, states, and courts from its explanatory variables, the global market for capital would seem to be a good case through which to explore these assumptions and propositions. In saying this, one of my assumptions is that today’s global market for capital is actually distinct and needs to be differentiated from earlier cases of worldwide financial markets. There is by no means agreement on this. In what follows

I   briefly explain the main reasons for my asserting that it is different. Some of these differences with past financial markets and with other types of markets today are in turn the features that conceivably would seem to make this market one of the closest approximations to the economists’ model of the market.

There has long been a market for capital and it has long consisted of mul­tiple, variously specialized financial markets (Eichengreen and Fishlow 1996). It has also long had global components (Arrighi 1994). Indeed, a strong line of interpretation in the literature is that today’s market for capital is nothing new and represents a return to an earlier global era at the turn of the twentieth century and, then again, in the interwar period (Hirst and Thompson 1996).

And yet, I will argue that all of this holds at a high level of generality, but that when we factor in the specifics of today’s capital market some significant differences emerge with those past phases. There are, in my reading, two major sets of differences. One has to do with the level of formalization and institutionalization of the global market for capital today, which is partly an outcome of the interaction with national regulatory systems that themselves gradually became far more elaborate over the last hundred years (see generally

Hall and Biersteker 2002). I will not focus on this aspect here (but see Sassen 1996: ch. 2, 2001: ch. 4). The second set of differences concerns the transfor­mative impact of the new information and communication technologies, par­ticularly computer based technologies (henceforth referred to for short as digitization). In combination with the various dynamics and policies we usu­ally refer to as globalization they have constituted the capital market as a dis­tinct institutional order, one different from other major markets and circulation systems such as global trade.

One of the key and most significant outcomes of digitization on finance has been the jump in orders of magnitude and the extent of worldwide inter­connectedness. Elsewhere I have posited that there are basically three ways in which digitization has contributed to this outcome (Sassen 2001: 110-26, 2005). One is the use of sophisticated software, a key feature of the global financial markets today and a condition that in turn has made possible an enormous amount of innovation. It has raised the level of liquidity as well as increased the possibilities of liquefying forms of wealth hitherto considered non-liquid. This can require complex instruments; the possibility of using computers facilitated not only the development of these instruments, but also enabled the widespread use of these instruments insofar as much of the com­plexity could be contained in the software. It allows users who might not fully grasp either the mathematics or the software design issues to be effective in their deployment of the instruments.

Second, the distinctive features of digital networks can maximize the implications of global market integration by producing the possibility of simultaneous interconnected flows and transactions, and decentralized access for investors. Since the late 1980s, a growing number of financial centers have become globally integrated as countries deregulated their economies. This non-digital condition raised the impact of the digitization of markets and instruments.

Third, because finance is particularly about transactions rather than simply flows of money, the technical properties of digital networks assume added meaning. Interconnectivity, simultaneity, decentralized access, all contribute to multiply the number of transactions, the length of transaction chains (i.e. dis­tance between instrument and underlying asset), and thereby the number of participants. The overall outcome is a complex architecture of transactions.

The combination of these conditions has contributed to the distinctive posi­tion of the global capital market in relation to other components of economic globalization. We can specify two major features, one concerning orders of magnitude and the second the spatial organization of finance. In terms of the first, indicators are the actual monetary values involved and, though more dif­ficult to measure, the growing weight of financial criteria in economic trans­actions, sometimes referred to as the financialization of the economy. Since 1980, the total stock of financial assets has increased three times faster than the aggre­gate gross domestic product (GDP) of the twenty-three highly developed countries that formed the Organization for Economic Cooperation and Development (OECD) for much of this period; and the volume of trading in currencies, bonds, and equities has increased about five times faster and now surpasses it by far. This aggregate GDP stood at US$30 trillion in 2000 while the worldwide value of internationally traded derivatives reached over US$65 trillion in the late 1990s, a figure that rose to over US$80 trillion by 2000, US$168 trillion by late 2001, and US$192 trillion in 2002. To put this in per­spective we can make a comparison with the value of other major high-growth components of the global economy, such as the value of cross-border trade (ca. US$8 trillion in 2000), and global foreign direct investment stock (US$6 trillion in 2000) (Bank for International Settlements 2002). Foreign exchange transactions were ten times as large as world trade in 1983, but seventy times larger in 1999, even though world trade also grew sharply over this period.¹

As for the second major feature, the spatial organization of finance, it has been deeply shaped by regulation. In theory, regulation has operated as one of the key locational constraints keeping the industry, its firms and markets, from spreading to every corner of the world.² The wave of deregulations that began in the mid-1980s has lifted this set of major constraints to geographic spread. Further, since today it is a highly digitized industry, its dematerialized outputs can circulate instantaneously worldwide, financial transactions can be executed digitally, and both, circulation and transactions, can cut across conventional borders. This raises a host of locational issues that are quite specific and different from those of most other economic sectors (Budd 1995; Parr and Budd 2000). The large scale deregulation of the industry in a grow­ing number of countries since the mid-1980s has brought with it a sharp increase in access to what were still largely national financial centers and it enabled innovations which, in turn, facilitated its expansion both geographic­ally and institutionally. This possibility of locational and institutional spread also brings with it a heightened level of risk, clearly a marking feature of the current phase of the market for capital.

Though there is little agreement on the subject, in my reading these current conditions make for important differences between today’s global capital market and the period of the gold standard before the First World War. In many ways the international financial market from the late 1800s to the interwar period was as massive as today’s. This appears to be the case if we measure its volume as a share of national economies and in terms of the rel­ative size of international flows. The international capital market in that ear­lier period was large and dynamic, highly internationalized, and backed by a healthy dose of Pax Britannica to keep order. The extent of its international­ization can be seen in the fact that in 1920, for example, Moody’s rated bonds issued by about fifty governments to raise money in the American capital markets (Sinclair 1994). The depression brought on a radical decline in the extent of this internationalization, and it was not till very recently that Moody’s was once again rating the bonds of fifty governments. Indeed, as late as 1985, only fifteen foreign governments were borrowing in the US cap­ital markets. Not until after 1985 did the international financial markets re- emerge as a major factor.³

One type of difference concerns the growing concentration of market power in institutions such as pension funds and insurance companies. Institutional investors are not new. What is different beginning in the 1980s is the diversity of types of funds and the rapid escalation of the value of their assets. There are two phases in this short history, one going into the early 1990s and the second one taking off in the later 1990s. Just focusing briefly on the first phase, and considering pension funds, for instance, their assets more than doubled in the United States from $1.5 trillion in 1985 to $3.3 trillion in 1992. Pension funds grew threefold in the United Kingdom and fourfold in Japan over that same period, and they more than doubled in Germany and in Switzerland. In the United States, institutional investors as a group came to manage two-fifths of US households’ financial assets by the early 1990s, up from one-fifth in 1980. Further, the global capital market is increas­ingly a necessary component of a growing range of types of transactions, such as the diversity of government debts that now get financed through the global market: increasingly, kinds of debt that were thought to be basically local, such as municipal debt, are now entering this market. The overall growth in the value of financial instruments and assets also was evident with institutional investors whose assets rose as a share of GDP (Table 1.1).

Besides the growth of older types of institutional investors, the late 1990s also saw a proliferation of institutional investors with extremely speculative investment strategies. Hedge funds are among the most speculative of these institutions; they sidestep certain disclosure and leverage regulations by having a small private clientele and, frequently, by operating offshore. While they are not new, the growth in their size and their capacity to affect the function­ing of markets certainly grew enormously in the 1990s and they emerged as

Table 1.1. Financial Assets of Institutional Investors, 1990-7, Selected Years and Countries (bn USD) Country 1990 1993 1996 1997 Canada 332.6 420.4 560.5 619.8 France 655.7 906.4 1278.1 1263.2 Germany 599.0 729.7 1167.9 1201.9 Japan 2427.9 3475.5 3563.6 3154.7 Netherlands 378.3 465.0 671.2 667.8 United Kingdom 1116.8 1547.3 2226.9 n/a United States 6875.7 9612.8 13382.1 15867.5 Total OECD 13768.2 19013.9 26001.2 n/a

Source: Based on OECD, International Direct Investment. Statistical Yearbook 1999, table 8.1.

a major force by the late 1990s. According to some estimates they numbered 1,200 with assets of over $150 billion by mid-1998 (Bank for International Settlements 2000), which was more than the $122 billion in assets of the total of almost 1,500 equity funds as of October 1997 (United Nations Conference 1998). Both of these types of funds need to be distinguished from asset man­agement funds, of which the top ten are estimated to have $10 trillion under management.⁴

A second set of differences has to do with the properties that the new information technologies bring to the financial markets, already briefly addressed earlier. Two sets of properties need to be emphasized here: one, instantaneous transmission, interconnectivity, and speed; and the other, increased digitization of transactions and the associated increase in capacities to liquefy assets. Gross volumes have increased enormously. And the speed of transactions has brought its own consequences. Trading in currencies and securities is instant thanks to vast computer networks. Further, the high degree of interconnectivity in combination with instantaneous transmission signals the potential for exponential growth.

A third major difference is the explosion in financial innovations, also partly discussed above. Innovations have raised the supply of financial instruments that are tradable—sold on the open market. There are significant differences by country. Securitization is well advanced in the United States, but just beginning in most of Europe. The proliferation of derivatives has furthered the linking of national markets by making it easier to exploit price differences between different financial instruments, that is, to arbitrage.⁵ By 1994 the total stock of derivatives sold over the counter or traded in exchanges had risen to over US$30 trillion, a historical high; this had doubled to US$65 trillion only a few years later, in 1999.

One indicator of this growing importance of cross-border transactions is the value of cross-border transactions in bonds and equities as a percentage of GDP in the leading developed economies. Table 1.2 presents this information for a handful of these countries and shows the recency of this accelerated increase. For instance, the value of such transactions represented 4% of GDP in 1975 in the United States, 35% in 1985 when the new financial era is in full swing, but had quadrupled by 1995 and risen to 230% in 1998. Other countries show even sharper increases. In Germany, this share grew from 5% in 1975 to 334% in 1998; in France it went from 5% in 1980 to 415% in 1998. In part, this entails escalating levels of risk and innovation driving the industry. It is only over the last decade and a half that we see this acceleration.

The drive to produce innovations is one of the marking features of the financial era that begins in the 1980s. The history of finance is in many ways a long history of innovations. But what is perhaps different today is the intens­ity of the current phase and the multiplication of instruments that lengthen the distance between the financial instrument and actual underlying asset. This is reflected, for instance, in the fact that stock market capitalization and

Table 1.2. Cross-border Transactions in Bonds and Equities, (*) 1975 to 1998, Selected Years and Countries as a percentage of GDP Country 1975 1980 1985 1990 1995 1998 United States 4 9 35 89 135 230 Japan 2 8 62 119 65 91 Germany 5 7 33 57 172 334 France n/a 5 21 54 187 415 Italy 1 1 4 27 253 640 Canada 3 9 27 65 187 331

Note: (*) Denotes gross purchases and sales of securities between residents and non-residents. Source: Bank for International Settlements (BIS), Annual Report 1999, April 1998-June 1999: 10.

securitized debt, before the financial crisis of 1997-8, in North America, the European Union, and Japan amounted to $46.6 trillion in 1997, while their aggregate GDP was $21.4 and global GDP was $29 trillion. Further, the value of outstanding derivatives in these same sets of countries stood at $68 trillion, which was about 146% of the size of the underlying capital markets (International Monetary Fund 1999).

In the Digital Era: More Concentration than Dispersal?

Today, after considerable deregulation in the industry, the incorporation of a growing number of national financial centers into a global market, and the sharp use of electronic trading, the actual spatial organization of the indus­try can be seen as a closer indicator of its market-driven locational dynamics than was the case in the earlier regulatory phase. This would hold especially for the international level given the earlier prevalence of highly regulated and closed national markets; but also in some cases for domestic markets, given barriers to interstate banking, for example, in the United States.

There has, indeed, been geographic decentralization of certain types of financial activities, aimed at securing business in the growing number of countries becoming integrated into the global economy. Many of the leading investment banks have operations in more countries than they had twenty years ago. The same can be said for the leading accounting, legal, and other specialized corporate services whose networks of overseas affiliates have seen explosive growth (Johnston, Taylor, and Watts 2002; Taylor et al. 2002). And it can be said for some markets: for example, in the 1980s all basic wholesale foreign exchange operations were in London. Today these are distributed among London and several other centers (even though their number is far smaller than the number of countries whose currency is being traded).

But empirically what stands out in the evidence about the global financial markets after a decade and a half of deregulation, worldwide integration, and major advances in electronic trading is the extent of locational concen­tration and the premium firms are willing to pay to be in major centers. Large shares of many financial markets are disproportionately concentrated in a few financial centers. This trend toward consolidation in a few centers also is evident within countries. Further, this pattern toward the consolidation of one leading financial center per country is a function of rapid growth in the sector, not of decay in the losing cities.

The sharp concentration in leading financial markets can be illustrated with a few facts.⁶ London, New York, Tokyo (notwithstanding a national economic recession), Paris, Frankfurt, and a few other cities regularly appear at the top and represent a large share of global transactions. This holds even after the September 11 attacks that destroyed the World Trade Center (albeit that this was not largely a financial complex) in NY and were seen by many as a wake-up call about the vulnerabilities of strong concentration in a lim­ited number of sites. Table 1.3 shows the extent to which the pre-September

11   levels of concentration in stock market capitalization in a limited number of global financial centers held after the attacks. Table 1.4 shows the foreign listings in the major markets, further indicating that location in a set of finan­cial markets is one of the features of the global capital market, rather than a reduced need for being present in multiple markets. London, Tokyo, New York, Paris (now consolidated with Amsterdam and Brussels as Euronext), Hong Kong, and Frankfurt account for a major share of worldwide stock market capitalization. London, Frankfurt, and New York account for an

Table 1.3. The Ten Biggest Stock Markets in the World by Market Capitalization (bn USD) Stock Market Market capitalization 2001 2001 Percentage of members capitalization (%) Market capitalization 2000 2000 Percentage of members capitalization (%) NYSE 11,026.6 41.4 11,534.6 37.1 NASDAQ 2,739.7 10.3 3,597.1 8.8 Tokyo 2,264.5 8.5 3,157.2 7.3 London 2,164.7 8.1 2,612.2 7.0 Euronext 1,843.5 6.9 2,271.7 5.9 Deutsche Borse 1,071.7 4.0 1,270.2 3.4 Toronto 611.5 2.3 766.2 2.0 Italy 527.5 2.0 768.3 1.7 Swiss Exchange 527.3 2.0 792.3 1.7 Hong Kong 506.1 1.9 506.1 1.6 Total for Federation Members 26,610.0 87.5 31,125.0 76.4

Note: Euronext includes Brussels, Amsterdam, and Paris; 2001 figures are year end figures. Source: Compiled from the BIS 2001 Annual Report: 92, with calculations of percentages added.

Table 1.4. Foreign Listings in Major Stock Exchanges Exchange 2000 Number of foreign listings 2000 Percentage of foreign listings (%) 2001 Number of foreign listings 2001 Percentage of foreign listings (%) NASDAQ 445 11.0 488 10.3 NYSE 461 19.2 433 17.5 London 409 17.5 448 18.9 Deutsche Borse 235 23.9 241 24.5 Euronext — — — — Swiss Exchange 149 36.2 164 39.4 Tokyo 38 1.8 41 2.0

Note: Euronext includes Brussels, Amsterdam, and Paris; 2001 figures are year end figures. Source: Compiled from the BIS 2001 Annual Report: 86, with calculations of percentages added.

enormous world share in the export of financial services. London, New York, and Tokyo account for over one-third of global institutional equity holdings, this as of the end of 1997 after a 32% decline in Tokyo’s value over 1996. London, New York, and Tokyo account for 58% of the foreign exchange market, one of the few truly global markets; together with Singapore, Hong Kong, Zurich, Geneva, Frankfurt, and Paris, they account for 85% in this, the most global of markets.

This trend toward consolidation in a few centers, even as the network of integrated financial centers expands globally, also is evident within countries. In the United States for instance, New York concentrates the leading invest­ment banks with only one other major international financial center in this enormous country, Chicago. Sydney and Toronto have equally gained power in continentally sized countries and have taken over functions and market share from what were once the major commercial centers, respectively Melbourne and Montreal. So have Sao Paulo and Mumbai, which have gained share and functions from respectively Rio de Janeiro in Brazil and New Delhi and Calcutta in India. These are all enormous countries and one might have thought that they could sustain multiple major financial centers. This pattern is evident in many countries.⁷ Consolidation of one leading financial center in each country is an integral part of the growth dynamics in the sector rather than the result of losses in the losing cities.

There is both consolidation in fewer major centers across and within coun­tries and a sharp growth in the numbers of centers that become part of the global network as countries deregulate their economies. Mumbai, for instance, became incorporated in the global financial network in the early 1990s after India (partly) deregulated its financial system. This mode of incorporation into the global network is often at the cost of losing functions which these cities may have had when they were largely national centers. Today the leading, typically foreign, financial, accounting, and legal services firms enter their markets to handle many of the new cross-border operations. Incorporation in the global market typically happens without a gain in their global share of the particular segments of the market they are in even as capitalization may increase, often sharply, and even though they add to the total volume in the global market.

Why is it that at a time of rapid growth in the network of financial centers, in overall volumes, and in electronic networks, we have such high concentra­tion of market shares in the leading global and national centers? Both global­ization and electronic trading are about expansion and dispersal beyond what had been the confined realm of national economies and floor trading. Indeed, one might well ask why financial centers matter at all.

The Continuing Utility of Spatial Agglomeration

The continuing weight of major centers is, in a way, countersensical, as is, for that matter, the existence of an expanding network of financial centers. The rapid development of electronic exchanges, the growing digitization of much financial activity, the fact that finance has become one of the leading sectors in a growing number of countries, and that it is a sector that produces a dema­terialized, hypermobile product, all suggest that location should not matter. In fact geographic dispersal would seem to be a good option given the high cost of operating in major financial centers. Further, the last ten years have seen an increased geographic mobility of financial experts and financial services firms.

There are, in my view, at least three reasons that explain the trend toward consolidation in a few centers rather than massive dispersal.

The Importance of Social Connectivity and Central Functions

First, while the new communication technologies do indeed facilitate geo­graphic dispersal of economic activities without losing system integration, they have also had the effect of strengthening the importance of central coordination and control functions for firms and, even, for markets.⁸ Indeed for firms in any sector, operating a widely dispersed network of branches and affiliates and operating in multiple markets has made central functions far more complicated. Their execution requires access to top talent, not only inside headquarters but also, more generally, to innovative milieus—in tech­nology, accounting, legal services, economic forecasting, and all sorts of other, many new, specialized corporate services. Major centers have massive concentrations of state of the art resources that allow maximization of the benefits of the new communication technologies and to govern the new con­ditions for operating globally. Even electronic markets such as NASDAQ and E-Trade rely on traders and banks which are located somewhere, with at least some in a major financial center. The question of risk and how it is handled and perceived is yet another factor which has an impact on how the industry organizes itself, where it locates operations, what markets become integrated into the global capital market, and so on.

One fact that has become increasingly evident is that to maximize the benefits of the new information technologies firms need not only the infrastructure but a complex mix of other resources. In my analysis organizational complexity is a key variable allowing firms to maximize the utility/benefits they can derive from using digital technology (Sassen 2001: 110-26). In the case of financial exchanges we could make a parallel argument. Most of the value added that these technologies produce for advanced service firms and exchanges lies in so-called externalities. And this means the material and human resources— state of the art office buildings, top talent, and the social networking infrastructure that maximizes connectivity. Any town can have fiber optic cables, but this is not sufficient for global social connectivity (Garcia 2002).

A second fact that is emerging with greater clarity concerns the meaning of ‘information’. There are two types of information. One is the datum, which may be complex yet is standard knowledge: the level at which a stock market closes, a privatization of a public utility, the bankruptcy of a bank. But there is a far more difficult type of ‘information’, akin to an interpretation/ evaluation/judgment. It entails negotiating a series of datums and a series of interpretations of a mix of datums in the hope of producing a higher order datum. Access to the first kind of information is now global and immediate from just about any place in the highly developed world thanks to the digital revolution. But it is the second type of information that requires a complicated mixture of elements—the social infrastructure for global connectivity— which gives major financial centers a leading edge.

It is possible, in principle, to reproduce the technical infrastructure anywhere. Singapore, for example, has technical connectivity matching Hong Kong’s. But does it have Hong Kong’s social connectivity? At a higher level of global social connectivity we could probably say the same for Frankfurt and London. When the more complex forms of information needed to execute major international deals cannot be gotten from existing data bases, no matter what one can pay, then one needs the social information loop and the associated de facto interpretations and inferences that come with bouncing off information among talented, informed people. It is the weight of this input that has given a whole new importance to credit rating agencies, for instance. Part of the rating has to do with interpreting and inferring. When this interpreting becomes ‘authoritative’ it becomes ‘information’ available to all. The process of making inferences/interpretations into ‘information’ takes quite a mix of talents and resources.

In brief, financial centers provide the social connectivity that allows a firm or market to maximize the benefits of its technical connectivity.

Global firms and markets in the financial industry need enormous resources, a trend which is leading to rapid mergers and acquisitions of firms and stra­tegic alliances among markets in different countries. These are happening on a scale and in combinations few would have foreseen as recently as the early 1990s. There are growing numbers of mergers among respectively financial services firms, accounting firms, law firms, insurance brokers, in brief, firms that need to provide a global service. A similar evolution is also possible for the global telecommunications industry which will have to consolidate in order to offer a state of the art, globe-spanning service to its global clients, among which are the financial firms.

I would argue that yet another kind of ‘merger’ is the consolidation of elec­tronic networks that connect a very select number of markets. There are a number of networks connecting markets that have been set up in the last few years. In 1999 NASDAQ, the second largest US stock market after the New York Stock Exchange (NYSE), set up NASDAQ Japan and in 2000 NASDAQ Canada. This gives investors in Japan and Canada direct access to the market in the United States. Europe’s more than thirty stock exchanges have been seeking to shape various alliances. Euronext (NEXT) is Europe’s largest stock exchange merger, an alliance among the Paris, Amsterdam, and Brussels Bourses. The Toronto Stock Exchange has joined an alliance with the NYSE to create a separate global trading platform. The NYSE is a found­ing member of a global trading alliance, Global Equity Market (GEM) which includes ten exchanges, among them Tokyo and NEXT. Also small exchanges are merging: in March 2001 the Tallinn Stock Exchange in Estonia and its Helsinki counterpart created an alliance. A novel pattern is hostile takeovers, not of firms, but of markets, such as the (failed) attempt by the owners of the Stockholm Stock Exchange to buy the London Stock Exchange (for a price of US$3.7 billion).

These developments may well ensure the consolidation of a stratum of select financial centers at the top of the worldwide network of thirty or forty cities through which the global financial industry operates.⁹ Taking an indi­cator such as equities under management shows a similar pattern of spread and simultaneous concentration at the top of the hierarchy. The worldwide distribution of equities under institutional management is spread among a large number of cities which have become integrated in the global equity mar­ket along with deregulation of their economies and the whole notion of ‘emerging markets’ as an attractive investment destination. In 1999 (the latest year for which data are available), institutional money managers around the world controlled approximately US$14 trillion. Thomson Financials (1999), for instance, has estimated that at the end of 1999, twenty-five cities accounted for about 80% of the world’s valuation. These twenty-five cities also accounted for roughly 48% of the total market capitalization of the

world which stood at US$24 trillion at the end of 1999. On the other hand, this global market is characterized by a disproportionate concentration in the top six or seven cities. London, New York, and Tokyo together accounted for a third of the world’s total equities under institutional management in 1999.

These developments make clear a second important trend that in many ways specifies the current global era. These various centers do not just com­pete with each other: there is collaboration and division of labor. In the inter­national system of the postwar decades, each country’s financial center, in principle, covered the universe of necessary functions to service its national companies and markets. The world of finance was, of course, much simpler than it is today. In the initial stages of deregulation in the 1980s there was a strong tendency to see the relation among the major centers as one of straight competition when it came to international transactions. New York, London, and Tokyo, then the major centers in the system, were seen as competing. But in my research in the late 1980s on these three top centers I found clear evid­ence of a division of labor already there. They remain the major centers in the system today with the addition of Frankfurt and Paris in the 1990s. What we are seeing now is an additional pattern whereby the cooperation or divi­sion of functions is somewhat institutionalized: strategic alliances not only between firms across borders but also between markets. There is competition, strategic collaboration, and hierarchy.

In brief, the need for enormous resources to handle increasingly global operations in combination with the growth of central functions described earlier, produces strong tendencies toward concentration and hence hierarchy even as the network of financial centers has expanded.

Denationalized Elites and Agendas

National attachments and identities are becoming weaker for global firms and their customers. This is particularly strong in the West, but may develop in Asia as well. Deregulation and privatization have weakened the need for national financial centers. The nationality question simply plays differently in these sectors than it did even a decade ago. Global financial products are accessible in national markets and national investors can operate in global markets. For instance, some of the major Brazilian firms now list on the NYSE, and bypass the Sao Paulo exchange, a new practice which has caused somewhat of an uproar in specialized circles in Brazil (Schiffer 2002). While it is as yet inconceivable in the Asian case, this may well change given the growing number of foreign acquisitions of major firms in several countries after the 1997-8 crisis. Another indicator of this trend is the fact that the major US and European investment banks have set up specialized offices in London to handle various aspects of their global business. Even French banks have set up some of their global specialized operations in London, inconceivable a decade ago and still not avowed in national rhetoric.

One way of describing this process is as what I call an incipient and highly specialized denationalization of particular institutional arenas (Sassen 2004). It can be argued that such denationalization is a necessary condition for eco­nomic globalization as we know it today. The sophistication of this system lies in the fact that it only needs to involve strategic institutional areas—most national systems can be left basically unaltered. China is a good example. It adopted international accounting rules in 1993, necessary to engage in inter­national transactions. To do so it did not have to change much of its domestic economy. Japanese firms operating overseas adopted such standards long before Japan’s government considered requiring them. In this regard the ‘wholesale’ side of globalization is quite different from the global consumer markets, in which success necessitates altering national tastes at a mass level. This process of denationalization has been strengthened by state policy enabling privatization and foreign acquisition. In some ways one might say that the Asian financial crisis has functioned as a mechanism to dena­tionalize, at least partly, control over key sectors of economies which, while allowing the massive entry of foreign investment, never relinquished that control.¹⁰

Major international business centers produce what we could think of as a new subculture, a move from the ‘national’ version of international activities to the ‘global’ version. The long-standing resistance in Europe to M&As, especially hostile takeovers, or to foreign ownership and control in East Asia, signal national business cultures that are somewhat incompatible with the new global economic culture. I would posit that major cities, and the variety of so-called global business meetings (such as those of the World Economic Forum in Davos and other similar occasions), contribute to denationalize corporate elites. Whether this is good or bad is a separate issue; but it is, I would argue, one of the conditions for setting in place the systems and sub-cultures necessary for a global economic system.

The Global Capital Market and the State

The explosive growth in financial markets in combination with the tight organizational structure of the industry described in the preceding section, suggest that the global capital market today contributes to a distinct political economy. The increase in volumes per se may be secondary in many regards. But when these volumes can be deployed, for instance, to overwhelm national central banks, as happened in the 1994 Mexico and the 1997 Thai crises, then the fact itself of the volume becomes a significant variable.¹¹

Further, when globally integrated electronic markets can enable investors rapidly to withdraw well over US$100 billion from a few countries in South East Asia in the 1997-8 crisis, and the foreign currency markets had the orders of magnitude to alter exchange rates radically for some of these currencies, then the fact of digitization emerges as a significant variable that goes beyond its technical features.¹²

These conditions raise a number of questions concerning the impact of this concentration of capital in markets that allow for high degrees of circu­lation in and out of countries. Does the global capital market now have the power to ‘discipline’ national governments, that is to say, to subject at least some monetary and fiscal policies to financial criteria where before this was not quite the case? How does this affect national economies and government policies more generally? Does it alter the functioning of democratic govern­ments? Does this kind of concentration of capital reshape the accountability relation that has operated through electoral politics between governments and their people? Does it affect national sovereignty? And, finally, do these changes reposition states and the interstate system in the broader world of cross-border relations? These are some of the questions raised by the particu­lar ways in which digitization interacts with other variables to produce the distinctive features of the global capital market today. The responses in the scholarly literature vary, ranging from those who find that in the end the national state still exercises the ultimate authority in these matters (Gilbert and Helleiner 1999; Andrew, Henning, and Pauly 2002) to those who see an emergent power gaining at least partial ascendance over national states (Panitch 1996).

For me these questions signal the existence of a second type of embedded­ness: the largely digitized global market for capital is embedded in a thick world of national policy and state agencies. It is so in a double sense. First, as has been widely recognized, in order to function these markets require spe­cific types of guarantees of contract and protections, and specific types of deregulation of existing frameworks (Graham and Richardson 1997; Garrett 1998; Picciotto and Mayne 1999). An enormous amount of government work has gone into the development of standards and regimes to handle the new conditions entailed by economic globalization. Much work has been done on competition policy and on the development of financial regulations, and there has been considerable willingness to innovate and to accept whole new policy concepts by governments around the world. The content and specifi­cations of much of this work is clearly shaped by the frameworks and tradi­tions evident in the North Atlantic region. This is not to deny the significant differences between the United States and the European Union for instance, or among various individual countries. But rather to emphasize that there is a clear western style that is dominant in the handling of these issues and second, that we cannot simply speak of ‘Americanization’ since in some cases Western European standards emerge as the ruling ones.

Second, in my reading, today the global financial markets are not only capable of deploying the raw power of their orders of magnitude but also of producing ‘standards’ that become integrated into national public policy and shape the criteria for what has come to be considered ‘proper’ economic policy.¹³ The operational logic of the capital market contains criteria for what leading financial interests today consider not only sound financial, but also economic policy. These criteria have been constructed as norms for important aspects of national economic policymaking going far beyond the financial sector as such.¹⁴

These dynamics have become evident in a growing number of countries as these became integrated into the global financial markets. For many of these countries, these norms have been imposed from the outside. As has often been said, some states are more sovereign than others in these matters. Some of the more familiar elements that have become norms of ‘sound economic policy’ are the new importance attached to the autonomy of central banks, anti-inflation policies, exchange rate parity and the variety of items usually referred to as ‘IMF conditionality’.¹⁵ The IMF has been an important vehicle for instituting standards that work to the advantage of global firms and markets generally, very often to the detriment of other types of economic actors (e.g. Ferleger and Mandle 2000).¹⁶

Digitization of financial markets and instruments played a crucial role in raising the orders of magnitude, the extent of cross-border integration, and hence the raw power of the global capital market. Yet this process was shaped by interests and logics that typically had little to do with digitization per se, even though the latter was crucial. This makes clear the extent to which these digitized markets are embedded in complex institutional settings. Second, while the raw power achieved by the capital markets through digitization also facilitated the institutionalizing of certain finance-dominated economic cri­teria in national policy, digitization per se could not have achieved this policy outcome.

Conclusion

The vast new economic topography implemented through the emergence and growth of electronic markets is but one element in an even vaster economic chain that is in good part embedded in non-electronic spaces. There is today no fully virtualized market, firm or economic sector. Even finance, the most digitized, dematerialized, and globalized of all sectors has a topography that weaves back and forth between actual and digital space. This essay sought to show that these features produce a double type of embeddedness in the case of today’s global and largely digitized market for capital.

One of these is that the globalization itself of the market has raised the level of complexity of this market and its dependence on multiple types of non-digital resources and conditions. Information technologies have not eliminated the importance of massive concentrations of material resources but have, rather, reconfigured the interaction of capital fixity and hypermobility. The complex management of this interaction is dependent in part on the mix of resources and talents concentrated in a network of financial centers. This has given a particular set of places, global cities, a new competitive advantage in the functioning of the global capital market at a time when the properties of the new information and communication technologies could have been expected to eliminate the advantages of agglomeration, particu­larly for leading and globalized economic sectors, and at a time when national governments have lost some authority over these markets.

In theory, the intensification of deregulation and the instituting of policies in various countries aimed at creating a supportive cross-border environment for financial market transactions, could have dramatically changed the loca­tional logic of the industry. This is especially the case because it is a digitized and globalized industry that produces dematerialized outputs. It could be argued that the one feature that could keep this industry from having a very broad range of locational options would be regulation. With deregulation that constraint should be disappearing. Other factors such as the premium paid for location in major cities should be a deterrent to locate there and with the new developments of telecommunications there should be no need for such central locations.

The second type of embeddedness is that at the same time, these new technologies have raised the orders of magnitude and capabilities of finance to thresholds that make it a sector distinct from other major sectors in the economy. The effect has been a financializing of economies and the growing weight of the operational logic of financial markets in shaping economic norms for policymaking. This is significant in two ways. No matter how globalized and electronic, finance requires specific regulatory conditions and hence depends partly on the participation of national states to produce these conditions. The other is that this participation has taken the form of intro­ducing into public policy a set of criteria that reflect the current operational logic of the global market for capital. The formation of a global capital market has come to represent a concentration of power that is capable of influencing national government economic policy, and by extension other policies.

The organizing effort in this essay was to map the locational and institu­tional embeddedness of the global capital market. In so doing, the paper also sought to signal that there might be more potential for governmental participation in the governance of the global economy than much current commentary on globalization allows for given its emphasis on hypermobility, telecommunications, and electronic markets. But the manner of this participa­tion may well be quite different from long-established forms. Indeed, we may be seeing instances where the gap between these older established conceptions and actual global dynamics—particularly in the financial markets—is making possible the emergence of a distinct zone for transactions and governance mechanisms, which although electronic and cross-border in some of its key features, is nonetheless structured and partly located in a specific geography. By emphasizing the embeddedness of the most digitized and global of all markets, the market for capital, the analysis presented here points to a broader conceptual landscape within which to understand global electronic markets today, both in theoretical and in policy terms.

Notes

1.   The foreign exchange market was the first one to globalize, in the mid-1970s. Today it is the biggest and in many ways the only truly global market. It has gone from a daily turnover rate of about US$15 billion in the 1970s, to US$60 billion in the early 1980s, and an estimated US$1.3 trillion today. In contrast, the total foreign currency reserves of the rich industrial countries amounted to about 1 trillion in 2000.

2.   Wholesale finance has historically had strong tendencies toward cross-border cir­culation, whatever the nature of the borders might have been. Venice based Jewish bankers had multiple connections with those in Frankfurt, and those in Paris with those in London; the Hawala system in the Arab world was akin to the Lombard system in western Europe. For a detailed discussion see Arrighi (1994).

3.   Switzerland’s international banking was, of course, the exception. But this was a very specific type of banking and does not represent a global capital market, par­ticularly given the fact that it was a basically closed national financial system at the time.

4.   The level of concentration is enormous among these funds, partly as a consequence of mergers and acquisitions driven by the need for firms to reach what are de facto the competitive thresholds in the global market today.

5.   While currency and interest-rates derivatives did not exist until the early 1980s and represent two of the major innovations of the current period, derivatives on com­modities, so-called futures, have existed in some version in earlier periods. Famously, Amsterdam’s stock exchange in the seventeenth century—when it was the financial capital of the world—was based almost entirely on trading in com­modity futures.

6.   Among the main sources of data for the figures cited in this section are BIS (the Bank for International Settlements in Basel); IMF national accounts data; special­ized trade publications such as Wall Street Journal’s WorldScope, MorganStanley Capital International, The Banker, data listings in the Financial Times and in The Economist and, especially for a focus on cities, the data produced by Technimetrics, Inc., now part of Thomson Financial.

7.   In France, Paris today concentrates larger shares of most financial sectors than it did ten years ago and once important stock markets like Lyon have become ‘provincial’, even though Lyon is today the hub of a thriving economic region. Milano privatized its exchange in September 1997 and electronically merged Italy’s ten regional markets. Frankfurt now concentrates a larger share of the financial market in Germany than it did in the early 1980s, and so does Zurich, which once had Basel and Geneva as significant competitors.

8.   This is one of the seven organizing hypotheses through which I specified my global city model. (For a full explanation see Sassen 2001, preface to new edition.)

9.   We now also know that a major financial center needs to have a significant share of global operations to be such. If Tokyo does not succeed in getting more of such operations, it is going to lose position in the global hierarchy notwithstanding its importance as a capital exporter. It is this same capacity for global operations that will keep New York at the top levels of the hierarchy even though it is largely fed by the resources and the demand of domestic (though state-of-the-art) investors.

10.   For instance, Lehman Brothers bought Thai residential mortgages worth half a billion dollars for a 53% discount. This was the first auction conducted by the Thai government’s Financial Restructuring Authority which conducted the sale of $21 billion of financial companies’ assets. It also acquired the Thai operations of Peregrine, the failed Hong Kong investment bank. The fall in prices and in the value of the yen has made Japanese firms and real estate attractive targets for foreign investors. Merril Lynch’s has bought thirty branches of Yamaichi Securities, Societe Generale Group 80% of Yamaichi International Capital Management, Travelers Group is now the biggest shareholder of Nikko, the third largest brokerage, and Toho Mutual Insurance Co. announced a joint venture with GE Capital. These are but some of the best known examples. Much valuable property in the Ginza—Tokyo’s high priced shopping and business district—is now being considered for acquisition by foreign investors in a twist on Mitsubishi’s acquisition of Rockefeller Center in New York City a decade earlier.

11.   The new financial landscape maximizes these impacts: the declining role of com­mercial banks and the ascendance of securities industry (with limited regulation and significant leverage), the greater technical capabilities built into the industry, and aggressive hedging activities by asset management funds. Rather than coun­teracting the excesses of the securities industries, banks added to this landscape by accepting the forecast of long-term growth in these economies (thus also adding to the capital inflow and to the fairly generalized disregard for risk and quality of investments), and then joining the outflow. Furthermore, at the center of these financial crises were institutions whose liabilities were perceived as hav­ing an implicit government guarantee, even though as institutions they were essentially unregulated, and thus subject to so-called ‘moral hazard’ problems, that is, the absence of market discipline. Anticipated protection from losses based on the IMF’s willingness to assist in bailing out international banks and failed domestic banks in Mexico encouraged excessive risk-taking. It is not the first time that financial intermediaries with substantial access to government liability guar­antees posed a serious problem of moral hazard, in the United States savings and loan crisis being an earlier instance (Brewer, Evanoff, and Jacky 2001).

12.   Global capital market integration, much praised in the 1990s for enhancing eco­nomic growth, became the problem in the East Asian financial crisis. Although the institutional structure for regulating the economy is weak in many of these countries, as has been widely documented, the fact of global capital market integ­ration played the crucial role in the East Asian crisis as it contributed to enor­mous over-leveraging and to a boom-bust attitude by investors, who rushed in at the beginning of the decade and rushed out when the crisis began even though the soundness of some of the economies involved did not warrant that fast a retreat. The magnitude of debt accumulation, only made possible by the availability of foreign capital, was a crucial factor: in 1996 the total bank debt of East Asia was $2.8 trillion, or 130% of GDP, nearly double that from a decade earlier. By 1996 leveraged debt for the median firm had reached 620% in South Korea, 340% in Thailand and averaged 150-200% across other East Asian countries. This was financed with foreign capital inflows that became massive outflows in 1997 (Bank for International Settlements 2000).

13.   I (1996: ch. 2) try to capture this normative transformation in the notion of pri­vatizing certain capacities for making norms that in the recent history of states under the rule of law were in the public domain. Now what are actually elements of a private logic emerge as public norms even though they represent particular rather than public interests. This is not a new occurrence in itself for national states under the rule of law; what is perhaps different is the extent to which the interests involved are global.

14.   This is not to deny that other economic sectors, particularly when characterized by the presence of a limited number of very large firms, have exercised specific types of influence over government policymaking (Dunning 1997).

15.   Since the Southeast Asian financial crisis there has been a revision of some of the specifics of these standards. For instance, exchange rate parity is now posited in less strict terms. The crisis in Argentina that broke in December 2001 has further raised questions about aspects of IMF conditionality. But neither crisis has elim­inated the latter.

16.   One instance here is the IMFs policy that makes it cheaper for investors to pro­vide short-term loans protected by the IMF at the expense of other types of investments. The notion behind this capital standard is that short-term loans are generally thought to have less credit risk, and as a result the Basel capital rules weigh cross-border claims on banks outside the OECD system at 20% for short­term loans—under one year, and at 100% if over a year. This encouraged short­term lending by banks in developing countries. Borrowers, given lower rates, took short-term loans. The result was the accumulation of a large volume of repay­ment coming due in any given year. Thus Basle risk weights and market risk do not interact properly as a signal. According to the Basle weight risks, it was safer to lend to a Korean bank than to a Korean conglomerate as the latter would incur a 100% weight capital charge, compared to 20% for a bank. The official position was thus to extend more loans to the banks than to the conglomerates.