An issue rumbling away in the business sections for the past few months, and likely to rumble on in the New Year, are the activities of what are called “sovereign wealth funds,” enormous funds, usually accumulated from government oil revenues and run by countries such as Norway. They are now major buyers of assets such as chunks of shares of banks like Citi, the US bank that has taken massive write-downs connected to the US sub-prime mortgage crisis. The question that comes up, especially when these funds are run by Middle Eastern governments or the Chinese, is whether their control of large parts of western firms poses some sort of “problem”. At this stage, I do not see it being a problem. As Sylvia Pfeiffer points out, these funds ultimately want what any intelligent investor wants: maximumum possible returns. I suppose that conspiracy theorists might wonder whether the Chinese, say, will deliberately run their acquisitions into the ground as part of some grand dastardly Blofeld-like plan to take over the world, but this strikes me as a bit unlikely. Perhaps more significant are issues such as protection of intellectual property rights and whether the companies that get taken over are as open about their accounts and profits as before. But again, it strikes me that as long as these new funds do not breach any regular laws against fraud or force, I do not see their activities as a problem.
The truth is, emerging economies in Asia, coupled with the petro-dollar wealth of the MidEast, parts of Asia, Russia and even Africa, is giving these funds a degree of market muscle that has taken some investment observers by surprise, but it should not do so. We are living through a major period of change in the economic clout of non-western states. We might as well learn to profit from it.
I tend to agree with Johnathans assesment. If the new owners/investors seek to use their new assets to damage the West then the assets themselves will be damaged. Hardly sensible investment behaviour, is it?
In fact, in the long run, I don’t believe these funds will survive. The idea is that they are investment vehicles designed to store funds funds from natural resource sales, in order to ensure a continuing income after the (oil, copper, birdshit) runs out. However, in one way or another they will eventually be subject to home country political pressure and they will either die, or, at best, fail to grow at even the average market rate. For an extreme example of what will happen to them all, long term, look at Nauru.
As an exception to the natural resource based funds, Singapore, lacking everything bar an energetic labour force and excellent port facilities, has established one financed from general tax revenue. Recently, using this as a model, the loopier members of the journalistic left here in Oz whined about the Howard government reducing taxes rather than establishing such a fund here. Just another example of the left fantasising that government is better able to dispose of the taxpayers dollar than is the taxpayer. This time in financial investments as opposed to the current standards of health, education and transport.
Idiots.
All this is, is just another form of nationalisation. Nationalising financial investment, as opposed to whatever else governments have fantasised they could run in the past.
If these funds do happen to be successful long term, their success will lead to their failure. They will be like resource revenue, acting to free governments from having account to their paymasters, the taxpayer, guaranteeing both incompetence and corruption, guaranteeing again, the eventual failure of the funds. Again, I refer to Nauru.
In the meantime, we sell the assets to them, get the money, create more assets with it, and who knows, later on we may be able to buy the original assets back at a knock down price – not that that matters.
These funds will be no issue to anyone but ignorant nationalists.
Given how an SWF can comprise of not just state ‘assets’ but also a nation’s foreign currency reserves, SDR’s, IMF reserve positions and, not least of all, that country’s gold reserves (no problem for Britian there, at least) I wonder how much potential for damage there might by from some unpleasant character like Chavez who could use his oil muscle to buy into these funds, not for investment purposes but with the intent of creating damage to that nation, via its fund.
Also what is the potential impact upon asset markets from an SWF in terms of strategic control? Surely someone like Putin (no shirking violet when it comes to stealing others’ assets for his own use) could be a genuine danger buying into an SWF of any country.
Surely someone like Putin … could be a genuine danger buying into an SWF of any country
wot? A SWF, by definition, has the state as the single shareholder. Putin, Chavez et al can’t buy into another countries fund. All they can do is buy foreign assets and and run them down. And if they do? So what? Buying Citibank and then shafting it is just an opportunity for Bank of America. Chavez/Putin will have lost billions, and the original investors will still have the cash in their pockets.
It just doesn’t make sense.
Re Oz, In fact, forgot, we already got one. Howard set up a ‘Future Fund’ in order to fund the previously unfunded civil service pension liabilities. Good idea on paper I guess, but, in order to confirm my expectations, the new PM Rudd campaigned on a promise of raiding it of a billion or so in order to fund a national broadband network.
If this could be profitable it would be done via private capital.
So much for funding civil service pensions.
Like so many things and entities that get gathered together under a single label by the Make Believe Media, the possible adverse effects of various SWFs are a case of “it all depends.”
It all depends on who determines and controls their formation and operations, who sets their objectives; and by whom and how those objectives are sought to be reached.
There is a vast range between the Sultan of Brunei, absolute owner of the petro wealth and long a SWF continuing both his own great and his subjects adequate prosperity; thence to Singapore whose wealth has been derived from labor, but accumulated by politicians rather than fully (or at least more proportionately) shared with the sources of that labor.
But, “wealth,” whether “Sovereign” or private, represented by monetary balances, basically credit, is only a call on future goods and services (including power to discharge one’s prior obligations). It may be more “dangerous” to retain it within the “Sovereign Entity” than to disperse (and disburse) it to functions in other economic perimeters.
R. Richard Schweitzer – USA
When this issue came up at the LA Conference, it struck me as odd that so many audience members, normally sound on the horrors of government and the tyranny of socialism, opposed SWFs on the basis of ‘national interest,’ an essentially collectivist defence which, in all other spheres, is brushed away without further thought. If the government is to regulate the ownership of private property to prevent some ill-intentioned foreign governmental investor from destroying their own assets, the same mechanism should apply to private foreign citizens and to domestic transfers of property. Indeed, Saudi princes or Russian oligarchs could perfectly well acquire property in their private capacity as foreign investors and pose the same ‘threat to national interest’ as through a Sovereign Wealth Fund.
The principle of governmental determination of property ownership is equivalent to the nationalisation of all property, as countingcats points out. For those who associate with collectivist nationalism, this may be tolerable; for libertarians, it is – or certainly should be – anathema.
These opinions are because such behavior is outside of the meta-context of the people expressing them. The 20th century was chock full of nations doing things that are utterly irrational by our individualist, comfort obsessed, short sighted ‘western’ ways.
Julian Taylor was right about the possibilities if not the means. The way these work would allow a nationally controlled fund to use its fund balances in lieu of military or foreign aid expenditures as a tool for international ‘diplomacy’. This can actually be a very rational and economically efficient way of achieving specific objectives. Would the fund lose value in exchange for these other things of value? Of course, that is the nature of trade. Would the citizens lose their share of the funds value to the machinations of their government? Oh my! You don’t think a government would use this means to steal yet more money from their citizens, do you? Duh. Of course they would.
OTOH, countries like Norway have a different problem. They have been (to my thinking) spectacularly short sighted. Norway used to have substantial gold stockpiles (didn’t we all). They now have 7 bars (I think) to show to tour groups. They have converted the rest of their oil revenue into dollar based investments and furthermore, have changed the fund rules to prohibit investing in Norwegian companies. They are for the most part completely dependent on the dollar. There are times this may have been sound money management. I don’t think now is one of them.
Years ago, before Saddam Hussein invaded Kuwait and before Sovereign Wealth Funds became a topic of conversation, an arm of the Kuwait government bought a large shareholding in British Petroleum. Displaying their usual business acumen, the management of BP saw this shareholding as a threat rather than an opportunity in a changing world. BP went crying to the British government, who eventually arm-twisted the Kuwaitis into selling off a large part of their stock holding — at a profit. No fools, those Kuwaitis.
It would not be surprising to see that pattern repeated. SWFs have lots of money to invest. Why not use some of it to make short term profits off of the backwardness of western governments. Look for Russia to buy up a major shareholding in Airbus parent EADS — and then sell it back to European governments in exchange for a big payout and profitable manufacturing sub-contracts.
allow a nationally controlled fund to use its fund balances in lieu of military or foreign aid expenditures as a tool for international ‘diplomacy’
Mid,
Absolutely, I can see this happening, and if a fund is structured so as to allow home country politicians to do this then they will be able to do all sorts of other things as well, and they will.
Any action like this will indicate a long term lack of viability of the fund in question.
I gotta say tho, I go along with Alice, she is absolutely right. In her proposed scenario the idiocy will lie with the host country, not with the fund.
I don’t think the two scenarios are mutually exclusive. Norway is demonstrating what (at least at this place in the market cycle) looks to me like bad long term fund management.
Alice’s Russia/Airbus scenario is equally plausible.
There is a third scenario that gets derided but I give a lot of likelihood to. If a SWF holding country has massive production capacity combined with massive savings, and they believe they can use that fund to take down the world economy and with it, nations that have both production capacity and very high debt (ie US), or natural resources and savings (oil states), and come out the other side with no fund but little competition either, then it is ‘rational’ to do that.
In effect they would be causing a ‘new deal’, destroying the legacy powers and replacing them with the presently productive powers. Depending on what their assessment is of their own and other nations’ productive powers, they could easily see reason to this approach.
Good insight, Mid. Troubling insight, too.
When Germany in the 1930s took its Sovereign Wealth, invested in a slew of weapons & ammunition, and then blasted the whole lot off at those they saw as enemies, Germany inevitably destroyed a whole lot of its wealth in the process. And that would have been the case even if Germany had succeeded in securing victory.
If a country today took its Sovereign Wealth and used it (say) to drive the Euro or the Dollar into extinction, much of the country’s wealth would also inevitably be lost. But the country could have accomplished what it perceived to be a necessary victory.
It is reminiscent of the old saying — guns don’t kill people; people kill people. Lots of different things could be used as weapons — even wealth.
The answer to seeing Germany rearm in the 1930s was (belatedly) for the potential targets also to rearm — thereby consuming part of their own wealth. If one were concerned about the potential future misuse of SWFs, what would be the modern analog for rearmament?
The nature of all of those T-bills, etc is that the debt is pre-monetized. The US dollar is preloaded with hyperinflation because the US gov can longer fully control the money supply. Almost 2.3 trillion dollars of uncirculating dollars is held by foreign governments (like these SWFs). Total treasuries outstanding is close to 10 trillion dollars of uncirculating dollars. They are beyond the control of the US government and are ultimately at the mercy the market. Just for reference, currency in actual circulation is probably around 1.5 trillion. The total market capitalization of all stock markets combined is probably less than 50 trillion dollars. Imagine if a run happens and there is 20% the total capitalization of all stock markets, ~6 times the amount of cash in circulation, suddenly chasing around the market. These reclaimed dollars can (and will) hit the market as fast as the treasuries expire in a run. Unexpired treasuries will probably be trading at pennies on the dollar.
In the event of a run, the US gov needs to print even more dollars to pay off non-renewed paper, or they need to default via mandatory renewal or some other fraud. Either way and in any case I think the dollar is irretrievably toast as far as being a reserve currency goes. No matter how things shake out, the US will not much longer be the banker in a world banks game of Monopoly™, with the US unilaterally writing its own banking rules.
If the dollar slides slowly enough, that is to say hostile powers don’t deliberately trigger a run, then the loss of value will help the US rebuild domestic production capacity and reduce reliance on imports. People who believe other powers will seek to maximize their own worth as measured in dollars probably anticipate that we will be allowed to do this by altruistic foreign and domestic treasury holders. But remember, in a run ‘last out, most lost’. They’ll have to be either altruists or not real bright.
It is a given (as far as I am concerned) that at some point the US will further monetize the debt (print paper money to meet T-bill and spending obligations). I would really like to see reliable M3 figures for the period since they stopped releasing them. If the dollar slides slowly, we’ll survive. If there is a run, well, it reminds me of your description of a “come as you are” event. We could be caught in the middle of a collapsing national government and currency while not-friendly nations are looking for opportunities to expand their influence and power.
All the more reason for a return to the more resilient federalist system instead of the monolithic nationalist system we have that will soon collapse under its own debt.
Fred ’08 and fingers crossed. 🙂
Sigh. It’s Christmas Eve. I think I’ll watch It’s a Wonderful Life. Something with a financial happily ever after.
Thanks for the infomration, Mid. Seems that almost everywhere we look, the message is the same == things cannot continue along this trajectory for ever.
The appropriate personal response is, I think, simple. Eat, drink, be merry, plant a tree, enjoy a moon-rise. Life is good, right now. Enjoy it, and don’t let forebodings about the hard times to come detract from the simple pleasures of being alive.
Merry Christmas!
How can a large SWF can be harmless? CALPERS sneezes and the Boards of Directors at billion-dollar companies across America say “bless you.” Imagine CALPERS but bigger. The point is not whether these SWF will damage the west — of course they won’t — but whether they will attempt to control and/or influence them, either financially or politically; and more importantly, whether their pressure tactics will succeed. Imagine being the President of the United States as one of these countries tells you they’ll dump ten million shares of Microsoft at market rates if they don’t get the treatment they desire.
In the U.S.A. at the present time the SWF’s are buying up parts of our largest financial institutions which are at the just starting to realize huge losses in the unfolding mortgage mess. Seems like a really bad time to buy unless they know something I don’t. If these SWF’s suffer huge losses as a result of this (although there might be some justice in that as some of them only exist because of market rigging by the OPEC cartel) how will they react when their wealth is wiped out? There is some danger in my view of less than civilized responses from some of these countries.
Why are countries “destined” to spend the surplus from SWFs as some here claim? Look at the success of the Alaska Permanent Dividend Fund in growing assets and returning earnings to citizens to spend as they see fit.
CalPERS would reply – I have dealt with them – that they obtain superior market returns by their corporate activism; that’s your answer: these people want to make money. Of course, there is a risk that a big, socialistic fund like CalPERS could actually make some colossally bad investment judgements and hurt certain companies, but as other commenters point out, that merely opens the avenue for other competitors. That is why I am relaxed (mostly) about SWFs.