Speech by Chairman

London Stock Exchange
25 October 2000

                                                               

                         Capital market efficiency -

                    the role of the London Stock Exchange





Don Cruickshank, chairman of the London Stock Exchange, today addressed a
Securities Institute seminar at the e-Financial Show at the Barbican Centre.
The meeting was organised to raise funds for the charity, One World Action.

In a speech examining the key issues currently facing stock exchanges -
including the London Stock Exchange - as they respond to market pressure for
rationalisation and further globalisation, Don Cruickshank discussed:

  * The competitive position of exchanges in Europe, where the single market
    in financial services is far from complete.
  * The fragmentation of clearing and settlement services and the potential
    for cost saving.
  * Implementation and enforcement of regulation with high standards of
    transparency worldwide.
  * Lack of reciprocity between the US and Europe on equity market access
    arrangements.
  * Stamp duty - its effect on capital productivity in the UK; on London's
    long-term position as an international financial centre; and the cost
    imposed on individuals investing to provide for their retirement.

Don Cruickshank said: 'Together we should focus on campaigning for the
liberalisation of securities trading, for effective application of competition
law across the EU, for getting rid of productivity stifling tax in the UK, and
for the writing of objective based directives followed by fierce
implementation.

'In this operating environment, a stronger London Stock Exchange will thrive
to the benefit of everyone in the UK, and foster the development of a single
capital market in Europe and efficient globalisation. That's what is at stake
through supporting the London Stock Exchange as it plays its part in improving
the efficiency of capital markets.'

The full text of Don Cruickshank's speech is attached.



Note to Editors:

One World Action works in Europe and with partner organisations in poor
countries to defeat poverty and to promote democracy and respect for human
rights. Call 020 7833 4075. Website www.oneworldaction.org.uk



For further information contact:

London Stock Exchange

Kay Dixon             020 7797 1222

Jeremy Hughes

Brunswick

Derek Bainbridge      020 7404 5959

David Brewerton

Schroder Salomon Smith Barney, which is regulated in the United Kingdom by The
Securities and Futures Authority Limited, is acting for London Stock Exchange
plc and no one else in connection with the offer by OM and will not be
responsible to anyone other than London Stock Exchange plc for providing the
protections afforded to its customers or for providing advice in relation to
the offer by OM.



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                      Speech to the Securities Institute

                               Don Cruickshank

                               25 October 2000



I was asked to talk about the future of the London Stock Exchange - a long
time ago!

Many of you will have heard my present articulation of where we are. No harm
in repeating it. However, this evening it may be helpful if I tackle some of
the key issues which affect our industry generally and the implications for
exchange rationalisation.

But before I do that, let me touch on the here and now, the immediate future
of the London Stock Exchange.

First, the future is not as a subsidiary of OM or, as far as I can judge, as
the subsidiary of any other organisation. As I have said, the London Stock
Exchange is not up for sale.

Second, whatever the longer-term strategy, there are a lot of things we can do
better. There are strengths the London Stock Exchange can develop.

We owe it to our customers and shareholders to become more commercial -
remember we were an industry service-providing mutual until March this year.
The better the financial performance, the better will be our position in
negotiating our role in European rationalisation and globalisation - something
most of our customers want.

So, as set out in our most recent Defence Document, and already under way, we
are building on our existing strong business in several ways: by developing a
pan-European market by admitting the leading European equities to trade on our
existing systems. By repositioning techMARK and AIM as international markets.
By enhancing our strong competitive position through further investment in our
trading systems, including the introduction of a central counterparty service
in February 2001. By developing new initiatives specifically to support
private client brokers. And by developing a range of competitively-priced
information products to meet the needs of our customers.

Add to that:

Management structure. New CEO certainly (I'm not going to continue - the roles
need to be split), but also a management structure focused on our three main
revenue and profit-generating activities: broker services; issuer services;
information services; supported by two core business areas of market
supervision and systems plus the usual central services.

New board structure - governance a la combined code.

And better consultation procedures, the Exchange Markets Group and its
supporting specialist working groups - so that we're better equipped both to
deal with immediate market and customer needs, and to plan and implement the
next steps.

So, to the meat of tonight's lecture, the next steps - the longer-term
structure of the exchange industry, and the London Stock Exchange's position
within it.

First, to disappoint you. I'm not going to talk about a corporate deal with X
or Y or a technology partnership with A or B. It's inappropriate even to
speculate before some big strategic issues are sorted out, and the true degree
of practicability and value of such transactions are much clearer. And a word
en passant to those who say 'you haven't got a strategy' because a corporate
deal hasn't been done. Not so. That view represents signs of very narrow
thinking on a very broad subject. And also - importantly - a view borne of
misunderstanding of the real strategic issues in this market.

So, what are these strategic issues we are faced with?

First, is the absence of a single market in the trading of financial products
within the EU. The single market is absent in other segments of the European
financial services market too - my recent review of banking services for
retail and business customers demonstrated that. The segment I've called '
trading of financial products' is not out of step, and some of the issues are
common to the whole financial services market. But why start with this?

Because the London Stock Exchange is a commercial company - in due course a
listed company - subject to the ordinary commercial disciplines of the market
economy. Or rather it is in the UK. Competitor entry is easy - there are five
competitors in cash equities trading alone, many more in other financial
products. There are no public interest or national strategic objectives that
the London Stock Exchange in particular has to meet. It has no special public
policy regulatory role. It can be taken over, and the regulatory terms for any
new owner are clear, relatively easy to meet - as the OM offer illustrates. We
are the most open economy in the world on these counts.

The market for trading in financial products in the rest of Europe is not
fully open, nor subject to market economy disciplines (neither is the market
in the US - which I'll come to in a minute). Those who demand that we 'take
the initiative' should realise this. Just to run through them:

  * We can't become a shareholder in Deutsche Borse without the approval of
    the Board. But Deutsche Borse could certainly buy up 4.9% of the LSE at
    any time.
  * Euronext has a typically continental poison pill device that could
    automatically create enough new shares held by a mysterious foundation to
    block any takeover.
  * The exchanges in Spain and Italy remain mutuals. Even OM, who present
    themselves as the very modern capitalist, have the Swedish state and
    others on the board with a combined 40% holding.

The ownership and control of each of these companies can be effectively
controlled by their boards not - unlike the London Stock Exchange -
shareholders.

Further, for competition law purposes, the definition of the relevant economic
market is likely still to be national. Exchange organisations - not unlike
ourselves - are typically nationally dominant. But almost all the others are
not subject to effective price competition and, it follows, are reporting
profits that are subject neither to normal competition nor price regulation.

All in all, this is not very fruitful negotiating territory for the London
Stock Exchange: no - or little - market disciplines on other exchanges; fuzzy
governance everywhere; and no firm basis for comparative valuation. Some, if
not all of this has to change if an LSE/European exchange (or exchanges)
merger were to be part of the way forward.

I am struck - are you not? - by the irony of all of this: that exchanges which
are at the heart of the market economy, the very place where capital and ideas
come together, representing the most visible representation of the healthy
disciplines of the market, are themselves sheltered from these disciplines. I
think we all have to think long and hard about how London copes with this
irony and whether outside intervention is required to break up these cosy
arrangements.

The second strategic issue is that mergers of exchanges alone are not enough
to deliver the lower costs and better service that customers want. Trading
customers of exchanges across Europe actually see the product as the execution
and completion of the transaction, that is secure possession of the security
and certainty of payment. The London Stock Exchange alone doesn't deliver that
product to our trading customers.

This is not going to be a plea for vertical integration in common ownership.
Far from it. In an internet, electronically networked world this is not
necessary, as long as the network interfaces are not too complex - which
they're not - nor multiply too much - which they need not.

No, clearing and settlement can be owned and managed independently of
exchanges. Indeed many market participants talk of them as 'utilities'. But
they do so rather innocently, as the basis for justifying: (1) no vertical
integration and (2) mutual ownership. Yes, again no exposure to market
disciplines!

However, they are instinctively right in the use of the word utility. Clearing
and settlement activity does tend to natural monopoly with significant
economies of scale. And this would conventionally raise public interest
questions of price regulation and terms of access. I'll pass over whether
mutual ownership is a valid form of price regulation. It may be. But it's
unlikely. For this evening, I want to focus on access. The major European
clearing and settlement organisations exhibit the economic features of
utilities, each is dominant in their own national market. The required public
policy intervention is fair, reasonable and non discriminatory access. OK,
they'll all say, 'Anyone who wants to be a member can be. The terms are fair'.
Maybe they are, although I doubt whether new entrants always think that.
However, I'm talking about wholesale access, that is, the obligation to
provide services to competitors - in this case, exchanges and other clearing
and settlement organisations from other member states. In practical terms, in
order to serve customers from across Europe, the London Stock Exchange should
directly, or through its agents - London Clearing House and Crest - have the
right on fair terms to access, say, Clearstream or Euroclear.

This analysis reinforces the problem of valuations. Lack of competition, fuzzy
governance and direct government intervention serve to enable organisations
engaged in the trading of financial products to operate without economies of
scale, yet report healthy profits. They say they are 'worth a billion this, or
two billion that'. May I make two observations. First, they are not 'worth'
anything in particular if there is no market in them. Second, many people
estimate that as much as 2 billion euro can to be stripped out of the cost
base of the market in trading financial products across Europe. This
represents a substantial amount of value. Somewhere revenues and margins have
to drop. Where is this surplus value? It's difficult to judge. But little of
it is at the trading platform level - and none of it is in the London Stock
Exchange's market cap. The development of a central counterparty is a very
valuable asset - so not much there then. So it's in settlement organisations
where revenues, margins and value are most overstated and unsustainable.

Let me be blunt. This would clearly pose a dilemma for any organisation
entering into merger negotiations if it had to throw its open market value
into the pot with the inflated values of organisations that are not subject to
competition and market regulation.

What would happen if Europe's national clearing and settlement agencies
thought increased access on a utility basis might be imposed? It seems likely
that access would be volunteered and the real economics would show through,
leading to a rapid reduction in the number of systems, to harmonisation of
procedures and rules and to the swift reduction in the cost base that trading
customers want.

And on the back of this, would London Stock Exchange need to merge with other
trading platforms? I wonder?

The third strategic issue, is that if we did again attempt some form of
European merger, then the regulation of listing and admission to trading,
standards of transparency in trade reporting and publication, and governance
would loom as major hurdles as they did - through no-one's fault - in the
proposed merger with DBAG. Our customers in the UK, this time including
companies and investing institutions - not just intermediaries - want to see
systematic implementation of directives into law, harmonisation of the
interpretation of the law in public policy regulation, a common rule book
being applied to trading, and common, UK, standards of trade reporting and
publication.

If our UK customers continue to set these admirable objectives as conditions
to be attached to any merger between the LSE and other member state exchanges,
we should realise that these are very high hurdles and, unless the position
changes substantially, the realistic prospect of merger is in doubt.

I believe this is a harsh test that may not be in the interests of
shareholders and these same customers. However, the crunch may not come, since
the Lamfalussy Group of Seven Wise Men is tackling these very issues, and,
pleasingly, not getting bogged down in the 'Europe SEC' debate.

Our preferred option for moving these issues forward is to give the Commission
a greater role both in reviewing implementation and monitoring enforcement.
What we would like to see is a restatement of Directives in the form of
objectives together with associated obligations on member states and
regulatory agencies. What is then required is efficient monitoring by the
Financial Services and Competition Directorates in order to provide effective
delivery of objectives and to prevent distortions to competition.

When I explain some of these European issues there is a common response: 'Do a
deal with the US (they usually mention Nasdaq). It'll help with
rationalisation in Europe when it comes'. This response suffers from the 'a
strategy must include a deal' flaw, and runs straight into the next strategic
issue - my fourth ...

... which is that my first, second and - to a lesser degree - my third
strategic issues are replicated in the US. Actually, in some respects it's
worse. At least in the EU, the LSE has the opportunity to sell remote access
and recruit members to trade into its UK-regulated market. I can't do that in
the US. There's a trade in services issue here and a lack of reciprocity.
Nasdaq, using its SEC approval, could set up in Europe, become an RIE in the
UK and its stocks can be traded here. The LSE cannot offer direct remote
access to London from the US in the same way, as the SEC would require it to
become a fully-regulated US exchange and to trade companies whose accounts
comply with US GAAP. It is only the Commodities and Futures Trading Commission
that has taken a more enlightened view, allowing foreign futures exchanges to
provide remote access into the US, as LIFFE and Eurex do.

I also predict that a US tie up or merger would raise another difficult issue,
extraterritoriality - a horrible word meaning the demand by the US authorities
- the SEC and Government combined - that their writ should run over all the
markets run by the new entity, especially if US citizens were to have direct
access to a market in a member state of the EU.

These are not bogey-men, fictions of my imagination. They are, from my media
and telecomms experience, the inevitable response from the US to any opening
up of trade in services - in this case trading of financial products. And
those of us - including NASDAQ - who want to see further globalisation of
capital markets will need to work together to face these issues before the
detailed proposals of any deal could be considered.

And even if the two issues of access and extra territoriality could be solved
or ignored, then both the obvious US candidates for a merger or deal, have
fuzzy governance, pose valuation problems and bring different market
structures.

So there's just four strategic issues to be resolved or ignored in considering
any merger - we could always ignore some of them blindly - before I even get
to the terms of a deal, technology choices, social issues - who's going to be
chief executive, composition of the board etc - and the toughest question of
all: 'Why should this merger work for London Stock Exchange shareholders given
the poor record of mergers, especially cross border, between markets that are
not open to the same market disciplines?'

And at home, I also have a major strategic problem - stamp duty. It has a huge
bearing on the growth and profit prospects of the London Stock Exchange.

Let me talk from a UK economy perspective first, however.

The UK equity market lies at the heart of the Government's productivity and
competition agenda.

A tax on equity trading is a tax on:


    Companies wishing to raise capital from UK and overseas investors. It adds
    to the cost of raising capital in the UK, with the real threat that as
    European capital markets converge, new entrants will seek to raise capital
    in financial centres that do not suffer such a tax. The level of stamp
    duty is 150 times the US equivalent. Nonetheless, it is viewed by everyone
    there as a drag on liquidity, capital raising and personal savings.

    It is indeed a tax on investors wishing to save for their futures by
    directly or indirectly buying shares. It hits ordinary people saving for
    their old age through pension funds by over £3 a week.

More parochially, the impact on the London Stock Exchange is very, very,
substantial. We are already seeing a proliferation of avoidance measures such
as spread betting - is this really what the Government wants to encourage -
high risk with no benefits whatsoever to the balance sheets of UK companies?
We estimate the total loss of trading by 2003 at around £1 trillion -
equivalent to 70% of the 1999 value of UK equity trading.

The UK is the only major financial market with such a tax - great care should
be taken not to take for granted the UK equity market's ability to cope with
the extra cost. Patience is not inexhaustible and it is essential to remember
that once markets are lost, they are almost impossible to recapture.

There are other issues facing the London Stock Exchange but five will do for
this evening.

Let me finish with a plea to these who commentate and opine on our affairs -
especially those who, I believe, share the view that liberal market economics
offer the best way forward for markets, economies and people. Let's together
raise the debate on the future of the London Stock Exchange beyond merely
reporting the conflicting views from our market and beyond the fascination
with corporate deals. Let's focus on how to campaign for changes in trade
negotiation briefs, for effective application of competition law across the
EU, for getting rid of productivity stifling tax in the UK and for the writing
of objective based directives followed by fierce implementation. With all that
as the operating environment, a stronger London Stock Exchange will thrive and
foster to the benefit of everyone in the UK, to the hastening of a single
market in Europe and even, who knows, to efficient globalisation. That's what
is at stake through supporting the London Stock Exchange play its part in
improving the efficiency of capital markets.

Thank you.



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