US, UK, and Cross-Border BusinessChristopher Wakem

Though emerging markets now account for over half the world’s GDP at purchasing-power parity, and trade between them is booming, just two developed countries retain a stranglehold on cross-border finance, investment, mergers and acquisitions.

Just as America benefits from issuing the world’s reserve currency, America and its former colonial master, Britain, enjoy the exorbitant privilege of issuing the world’s “reserve law”. A recent survey of general counsels and legal-department heads found that 40% most frequently did business using English law and another 22% American, generally the law of New York state. No other country’s law got a significant share.

America and Britain reap large rewards from their legal dominance. Of the world’s 100 highest-grossing law firms, 91 have their headquarters in one of the two. America’s legal sector is bigger than the GDP of Peru; though much of that is because of Americans’ litigiousness, a good chunk comes from foreign work. The New York offices of American firms earn around $1.8 billion annually from international-dispute resolution. Almost two-thirds of litigants in English commercial courts are foreign. At 1.5%, the legal sector’s share of British GDP is nearly double that in other big European countries.

Other bits of both countries’ economies feel the ripples, too. Foreigners visiting for legal hearings stay in hotels and eat in restaurants. Aspiring lawyers from around the world pay to attend their universities and spread goodwill when they go home. Dependence on American and British law firms makes it harder for dealmakers to move from New York and London to Hong Kong or Frankfurt. Britain’s government describes lawyers as “central to the export of other professional services” such as accounting, asset management and banking.

The competition is often weak: much of China’s commercial law was written by Communist Party officials and is riddled with errors; and though India adopted much of English common law, its courts are notoriously slow. But the incumbents’ biggest advantage is that they have common-law systems with centuries of binding precedent. In civil-law countries such as France, Portugal and Spain, and their ex-colonies, judges have wide latitude to interpret statutes, increasing the risk of nasty legal surprises. Common law also permits almost any terms in a contract. Civil systems place more restrictions on acceptable clauses, and often consider the interests of third parties, such as workers or consumers.

Many other countries would like to break this duopoly. But even those with good laws on paper would take decades to train enough lawyers and judges to make them stick. The immediate threat to American and British law comes from a trend that dispenses with courts altogether.

Parties to a cross-border deal must decide not only which country’s law governs it but how disputes should be resolved. Firms are increasingly opting for private arbitration, which promises confidentiality, speed and lower costs than going to court—and here London and New York are less dominant. The Paris-based International Chamber of Commerce is among the world’s biggest centres, and Stockholm was a popular venue during the cold war.

More recently, new entrants have made inroads. Among the most successful is Singapore, whose dedicated arbitration venue, SIAC, opened in 1991. Singapore’s government exempts arbitrators from income tax and expedites entry for participants in hearings. SIAC’s caseload has quadrupled in the past decade, with Indian firms particularly keen. Last year they were parties to a third of its 259 new cases.

In the long run, developing countries may be bigger losers. Local arbitration may facilitate deals and bolster short-term growth. But if it reduces the pressure from multinationals and local firms for simpler laws, better courts and less political corruption, it may delay attempts to establish legal systems that work not just for businesses but for everyone else too.