Exploring the Global Financial Information Superhighway

Vol. 10: Construction Period of Offshoring and Outsourcing in the Investment Banking Industry (part three)

Consulting Fellow, RIETI

The Tokyo market improved its position by one place to ninth in the Global Financial Centres Index published in March 2008, up from 10th in the same index released in September 2007. However, Tokyo still lags far behind Hong Kong in third and Singapore in fourth place. The attitude that is central to this series is encapsulated by the question, "What can Tokyo do to recover its position as an international financial market?" As a reference for drafting a policy in answer to this question, in this volume we analyze the national strategies of Singapore, the country which the Swiss-American investment bank introduced in the previous report chose as its intra-group offshoring center around 1995.

History of Singapore

In both name and substance, Singapore has in recent years established a position as an international financial market in the Asia-Pacific that rivals that of Hong Kong. In terms of land area, this small island nation (approximately 700 square kilometers) is slightly smaller than New York City (approximately 785 square kilometers) and slightly larger than Awaji Island in Japan (approximately 592 square kilometers). It is an independent state located on the southern tip of the Malay Peninsula and surrounded by the islands of Indonesia. Its location is ideal for maritime transport, and this enabled Singapore to begin to develop as an important trading base in Southeast Asia around the 7th century. Immigrants from China formed a community around the 14th century. In January 1819, Sir Thomas Stamford Raffles arrived. Detecting the settlement's potential as a free port, Sir Raffles began to lay the foundations for modern Singapore as a British colony. Later, immigrants poured in from China, India, Malaysia, and Europe. Singapore's population ballooned from approximately 1,000 at the point of Raffles' arrival in 1819 to approximately 10,700 in 1824, just five years later. According to records, the population swelled further to around 81,000 in 1860, including some 7,000 European residents (Note 1).

Since the opening of the Suez Canal to commercial traffic in 1869, Singapore has taken advantage of its location on a maritime trade route between Europe and East Asia. Singapore has achieved solid development as one of the busiest ports of Southeast Asia, by building port facilities related to international trading and establishing socioeconomic infrastructure in areas such transportation, communications, and finance. Singapore temporarily became a British military fort following the outbreak of World War II. However, it was occupied by the Imperial Japanese Army in 1942. British forces returned to Singapore in September 1945 shortly after the end of the war. For the subsequent period exceeding 10 years, Britain controlled Singaporean defense, law enforcement, and diplomacy.

In May 1958, Britain and Singapore concluded a constitutional agreement in London. Singapore achieved universal suffrage for the first time in the following year, 1959. The People's Action Party (PAP) led by Lee Kuan Yew won 41 of 53 legislative seats in this election, and Lee took office as the first prime minister of Singapore. Singapore later sought independence from Britain as part of the Federation of Malaysia. However, consensus became difficult to achieve between Singapore, where the majority of residents were Chinese, and other regions in the Federation of Malaysia, where the majority of residents were Malay, on matters essential to national government, including the political framework, national finance, and market mechanism. The idea of withdrawing from the Federation of Malaysia and gaining independence as a separate nation emerged as a result. On August 9, 1965, Singapore declared its independence from Britain and became an independent state.

PAP has received the sustained support of Singaporean citizens as a political party, winning more than 60% of the vote in general elections held since 1968. The national leader changed from Lee, the inaugural prime minister who held the post for more than 30 years starting 1959, to his successor Goh Chok Tong in 1991. Tong in turn passed the reins to the third prime minister, Lee Hsien Loong in 2004. This political stability has paid strong dividends. It has enabled Singapore to take strategic action from both short- and long-term perspectives. After gaining independence, Singapore adopted as its primary goal the establishment of an advanced business environment, and introduced deregulation and preferential taxation in an attempt to attract foreign capital. It also kept in place strong currency protections to stabilize the Singaporean dollar, its currency. Meanwhile, the Singaporean government encouraged Singaporean citizens to save. Five major languages and 20 dialects were used in pre-independence Singapore. Since independence in 1965, the Singaporean government has been promoting education in four selected major languages - English, Malay, Chinese, and Tamil - to achieve its aim of simultaneously preserving culture and meeting international business requirements.

Singapore began attracting industrial capital, centering on manufacturing, from abroad in the late-1960s, and continued the policy in the 1970s. Acting in response to the appreciation of land prices and labor costs that started in the 1980s, the Singaporean government has narrowed its target investors to companies in high value-added industries, including finance and information technology, while maintaining a policy since the early-1990s of becoming an international business hub in the Asia-Pacific region. As a result of this refinement, low value-added departments moved from Singapore to other countries where personnel expenses were lower. The industrial structure in Singapore changed to an efficient value chain as a result of this. By the mid-1990s, more than 100 multinational corporations had built their core Asia-Pacific base in Singapore. Until the Asian currency crisis in 1997, Singapore had sustained GDP growth at a year-on-year rate of approximately 8%. When the crisis occurred, the economies of neighboring countries, including Thailand, Malaysia, and Indonesia, suffered tremendous damage. However, the fallout on the Singaporean economy was relatively minor. In 1998, the Singaporean government changed its policies again, and has since redoubled its focus on attracting multinational corporations, by offering preferential tax treatment, training personnel, and establishing the social infrastructure (Note 1,2,3,4).

Personnel training in Singapore

According to the Singapore Department of Statistics (DOS) (Note 5,6), the population of Singapore rose from 2,986,500 in 1995 to 4,017,733 in 2000 and then to 4,588,600 in 2007 (all statistics are as of June 30 of each year). Singapore is a densely populated nation, and indeed ranks second in the world in population density, surpassed only by Monaco.

Being able to support a competent workforce to foreign companies is essential to Singapore's efforts to attract foreign investors. The Singaporean authorities, centering on the Singapore Ministry of Manpower (MOM) and the Singapore Ministry of Education (MOE), are addressing this issue from two directions: improving the educational standards of Singaporean citizens and inviting highly capable businesspeople and skilled engineers from abroad. With respect to the first policy, educational institutions centering on the National University of Singapore (NUS), Nanyang Technological University (NTU), and the Singapore Management University (SMU) are producing graduates with the potential to go on to world-class accomplishments.

There are also agencies that offer aspirants schemes for receiving an overseas university education without leaving Singapore. For example, a university education agency known as the Asia Pacific Management Institute (APMI) is offering master's and other courses in important fields, including business administration, marketing, human resources management, leadership, information systems, and finance, in partnership with universities such as the University of Hull (Britain), Monash University and the University of South Australia (Australia), University College Dublin (Ireland), and Southern Illinois University (United States). The school expenses are tax deductible when working men and women study through these programs. In addition, Singapore is aggressively inviting from abroad talented businesspeople and highly skilled engineers with an impressive international track record by introducing preferential tax measures and facilitating the acquisition of permanent residency. As a result of these initiatives, university graduates as a percentage of the total population rose steadily from 4.0% to 9.5% among Singaporean citizens and from 14.2% to 32.7% among permanent residents of Singapore in just 10 years from 1990 to 2000 (Note 7).

Foreign capital introduction policy of Singapore

Singapore currently has three foreign capital introduction policies. In addition to the low corporate tax rate policy of the Ministry of Finance (MOF) that applies to all companies, there is a foreign capital introduction policy targeting manufacturers and service providers, which was introduced by the Economic Development Board (EDB) in the mid-1980s. There is a foreign capital introduction policy designed for financial business operators, which the Monetary Authority of Singapore (MAS) introduced in 2000.

In the early-1980s, the Singaporean government positioned manufacturing and service as two key drivers of economic growth. In 1986, the EDB introduced tax breaks known as Operational Headquarters (OHQ) as a specific measure for encouraging multinationals to base their main back offices in Singapore. Under the OHQ system, a reduced tax rate is applied primarily to large-scale multinational corporations that relocate the management and headquarters functions of their subsidiaries and affiliates from other countries to Singapore. The Swiss-American investment bank introduced in the previous report built an intra-group offshoring center in Singapore by taking advantage of this OHQ system.

In response to changes in business style, the system expanded in subsequent years and spawned such related systems as Business Headquarters (BHQ), Manufacturing Headquarters (MHQ), and Global Headquarters (GHQ). The EDB reviewed all tax break systems in 2003. As a result of the review, existing BHQ, MHQ, and GHQ systems were amalgamated into a system known as International Headquarters (IHQ), which applies to large-scale multinational corporations operating businesses worldwide (Note 8).

Qualifications for the Regional Headquarters (RHQ) system specify items such as capital size and changes, the number of countries served, ratio of skilled workers, number of newly hired professionals, added value per employee, average annual salary of the 10 highest paid employees, minimum annual business expenditure, and minimum cumulative business expenditure, for the three-year period of business expansion after establishing a corporation in Singapore. A reduced tax rate applies to companies when they are judged as satisfying these requirements. The IHQ is an initiative for multinationals operating businesses that exceed the specified qualifications for the RHQ. A reduced tax rate for IHQ is determined in separate consultation with the EDB (Note 9). The Board is inviting foreign companies to Singapore with numerical targets, amending laws as needed (Note 8).

The MAS has two policies for attracting foreign capital. The first is the Financial Sector Incentive Scheme (FSI) announced in 2002. The FSI is a measure aimed at inviting the front and back offices of multinational financial groups to Singapore. A reduced tax rate is applied for a fixed period when set levels are exceeded in items such as RHQ functions, trading volumes of financial products in primary and secondary markets, and corporate business scale. Meanwhile, the Approved Finance and Treasury Centre (FTC), announced in 2005, is a measure aimed at inviting to Singapore the finance departments of multinationals operating in the manufacturing and service sectors, when the departments have responsibility for managing foreign exchange risk. A reduced tax rate is applied for a fixed period on income from activities, including foreign exchange transactions, offshore investment, and financial service provision, when the multinationals relocate these departments to Singapore (Note 9).

Social infrastructure of Singapore

As explained, the policies to attract foreign capital that Singapore, a nation with limited natural resources, has pursued over the past decades can be seen as the results of close cross-departmental cooperation involving the MOF, MOM, MOE, EDB, and MAS, under sustained government stability. Thanks to the achievements of these policies, according to the Global Financial Centres Index introduced at the beginning of this volume, Singapore is currently ranked number four among the world's financial markets, and number two in Asia, surpassed only by Hong Kong.

The Central Business District (CBD) of Singapore, home to such landmarks as Tanjong Pagar, City Hall, Raffles Place, and Suntec City, is lined with high-rise buildings that accommodate the offices of financial institutions and other multinationals. The MAS and the Singapore Monetary Exchange (SME) are also located in the CBD. A large number of high-rise public apartment buildings in Singapore are supplied by the Housing and Development Board (HDB), a public housing corporation. More than 80% of Singaporean citizens live in these buildings. In addition to a subway network known as the Mass Rapid Transit (MRT) and a bus service network called the Singapore Bus Service (SBS), toll-free expressways such as the Central Expressway (CTE), Ayer Rajah Expressway (AYE), and Pan Island Expressway (PIE) exist in Singapore, making the country's transportation networks complete. Pension plans that form the foundations of the daily lives of Singaporean citizens have been consolidated into a system known as the Central Provident Fund (CPF). The CPF appears to be a system that enables Singaporean citizens to look upon retirement with a degree of equanimity.

Straying somewhat from the topic, this report has introduced a significant number of three-letter acronyms that Singaporeans use daily, including PAP, MRT, CPF, HDB, NUS, MAS, and SME. Understanding these acronyms will help the reader develop a deeper insight into Singapore and also facilitate communications when talking with Singaporeans. The National Day Parade (NDP) held every year on August 9, Singapore's Independence Day, at the National Stadium and other venues also offers a glimpse of Singapore today. The NDP is simultaneously broadcast on the Internet to an audience that consists primarily of Singaporeans living abroad. Themes for this grand parade have changed from "My Singapore, My Home" from 1992 to 1996, to "Our Singapore, Our Future" in 1997 and 1998, to "Together We Make The Difference" from 1999 to 2001, to "Together, A New Singapore" from 2002 to 2004, to "The Future is Ours to Make" in 2005, the 40th anniversary of the nation's independence, to "Our Global City" in 2006, and then to "City of Possibilities" in 2007. The NDP theme for this year, 2008, is "Celebrating the Singapore Spirit (Note 10)."

In the next volume, we will look at the changes that occurred in the financial markets in the Asia-Pacific region over the same period.

June 3, 2008
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June 3, 2008

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