The new financial superpowers (part 2)
Sovereign wealth funds are hot. A senior JP Morgan Chase banker, quoted in Time:
“SWFs … are the new ‘it’ girl of global finance. Everyone wants a piece of them.”
Almost every investment bank is looking to sovereign wealth funds as a new source for of deals and management fees — if not for a bit of emergency funding to shore up their existing capital base. Central banks — which tend to try to minimize the fees they pay on investments in safe assets — haven’t generated half as much as much excitement.
The research arms of the world’s investment banks have quickly reached a consensus that sovereign wealth funds will get big fast, providing long-term support for at least some risky assets (Merrill’s analysis is typical)
Sovereign wealth funds manage at least $2 trillion now, and perhaps a bit more. We don’t know because the biggest fund also happens to be the most secretive. Estimates of ADIA’s size are all over the map — I personally doubt ADIA has $875b (more on that later). Plus the dividing line between central bank reserves and a sovereign wealth fund can be rather thin: Russia’s oil stabilization fund and the non-reserve assets of the Saudi Monetary Agency are often counted as sovereign wealth funds even though they have fairly conservative portfolios. The Saudis have some equities, but far less than most investment funds. Russia’s oil stabilization fund is managed far more conservatively than say Switzerland’s reserves!
But even if sovereign wealth funds will end 2007 managing a sum that is closer to $3 trillion than $2 trillion, they won’t grow to $8 trillion by 2011 — as Merrill now estimates (“By 2011, assets under management at SWFs worldwide are projected to grow almost fourfold to nearly $8 trillion“)– without getting close to a trillion a year in new assets to manage.
Such an increase isn’t entirely implausible. Central banks are on track to add at least $1 trillion to their reserves this year, and perhaps substantially more. Sovereign wealth funds will likely be given an additional $150-250b to manage this year, depending on whether China’s Finance Ministry uses the funds it raised from its big bond sale to buy an additional $100b of foreign exchange from the PBoC for the China Investment Company in late 2007 or early 2008.
If the emerging world’s governments continue to accumulate foreign exchange at their current rate and a large share of their burgeoning foreign assets is managed by investment funds that pay juicy investment banking fees and relatively little is managed by cost-conscious central banks, Merrill’s forecast isn’t at all implausible.
Indeed, scarcely a week goes buy without the announcement of a big new investment by a sovereign wealth fund in a troubled financial institution — along with a rumor that China’s investment corporation will in some way support a large bid for Rio Tinto.
Yet the whole hubbub over sovereign wealth funds seems to miss what strikes me as a crucial point – namely that a key set of countries doesn’t seem nearly as likely to ramp up their overseas equity investments quite as rapidly now as seemed likely six months ago.
- Russia’s new national welfare fund will be far smaller than the budget stabilization fund, and — at least until a new President is elected and Mr. Putin changes jobs — will only invest in bonds. It plans to move cautiously. And it may end up investing more at home than abroad (though that raises another set of issues)
- The China Investment Corporation will only have about $67b to invest abroad; the majority — $133b — of its initial $200b in funds will go toward buying the Chinese state’s existing stake in Bank of China, China Construction and the Industrial and Commercial bank of China from the central bank and toward recapitalizing the Agricultural Bank of China and the China Development Bank. Those funds likely won’t start to be deployed until 2008 – and there is no guarantee that the CIC will get more funds in the near future. It first has to figure out how to keep the “wolves” from eating up its existing funds.
- The Saudis – who export significantly more oil than Kuwait, Qatar and Abu Dhabi and thus have a significantly larger ongoing “flow” of new funds – have shied away from high profile investments. Most of their oil revenues are still parked with the Saudi Arabian Monetary authority, and SAMA still seems to be managing its funds (relatively) conservatively. No doubt the Saudis have significant “private” investments as well – but so far they have flown under radar screen.
- Japan is once again considering the creation of a sovereign fund, but no decision has been taken. The most serious proposal would use the interest income on Japan’s existing reserves to finance the sovereign wealth fund. That implies a very gradual shift in Japan’s portfolio. The new fund also would likely invest quite conservatively: it would be more like Norway’s government fund than the Dubai funds.
The big splashy deals have come from the existing funds of the small gulf states, Singapore’s GIC (which is acting more like Temasek by the day — even if India considers them separate funds rather than different parts of Singapore’s government) and the Chinese banks. The Emirates and Qatar have roughly $115b a year in oil revenue (based on 3.5 mbd of exports) with oil at $90 a barrel — and, given that these countries import bill is rising fast, their aggressive funds will have something like $50 to $60b to invest in global markets in 2007 if oil stays around $90b. The Kuwaits and Norwegians will have comparable sums to invest — though they will likely be invested a bit more conservatively.
Libya — another state with few people and lots of oil — is set to join this club. The Libya investment authority will soon have $40b to invest (mostly from existing reserves). If oil stays high, it could get far more over time.
But the ultimate size of sovereign wealth funds will be limited if the far larger potential flows from Saudi Arabia and Russia are managed primarily by the central banks.
The really big oil revenue streams are not currently being handed over to aggressive sovereign wealth funds.
And the really big sums coming out of China is still being invested fairly conservatively. Say the CIC places $67b in global market next year, and the Chinese banks – who are likely to be more aggressive than the post-Blackstone CIC – do another $50b in deals. That still works out
to about $120b – or somewhere between a quarter and a fifth of a conservative estimate of the 2008 increase in China’s foreign assets.
On current trends, the true super-powers of global markets will remain the big central banks — those with $100b or more to place every year.
The central banks of China, Russia, India, Brazil and Saudi Arabia will combine to add roughly $850b to their reserves this year — far more than that the five largest sovereign wealth funds will add to their portfolio in 2007. Much of the increase in the assets of the investment will come in the fourth quarter, and likely won’t be invested until 2008. ADIA, KIA, the CIC and Norway’s government fund should all have around $50b to invest next year. That is a lot — but it doesn’t add up to anything close to $1 trillion either.
For all the attention sovereign wealth funds have attracted over the past few weeks, their investments are still a fairly small share of total official asset growth.
The Wall Street Journal reports the sovereign funds and state banks have invested about $20b in US and European financial firms this quarter:
In the fourth quarter alone, sovereign-wealth funds and banks from Asia and the Middle East invested $18.9 billion in Western financial firms, according to Morgan Stanley research.
Let’s assume that these funds have invested another $10b in non-financial firms, bringing their total investment up to around $30b. That is still only about 10% of the total increase in official assets in the fourth quarter.
Unless something changes — whether a big fall in private capital flows to the emerging world or a dramatic change in the way China, Russia, India, Brazil and Saudi Arabia manage their state assets — 2008 will probably be roughly similar. Central bank reserves will grow far faster than the funds managed by sovereign wealth funds, and decent chunk of the funds managed by sovereign wealth funds will be invested relatively conservatively.
Frankly, that is something of a relief.
I don’t think the US or Europe are ready for a world where emerging market governments do $1.2 trillion of “deals” rather than buy $1.2 trillion of bonds. $1.2 trillion is the equivalent of 3 Citi/ ADIA sized deals a week every week of the year, or two UBS/ GIC/ unnamed Middle Eastern investor deals a week. It is equal to a CNOOC-Unocal sized transaction every week of the year.
I understand the desire of many emerging market governments to hold a more diverse portfolio. Holding low-yielding bonds denominated in depreciating dollars cannot be a fun – even if such holdings are a necessary component of a development strategy based on using the central bank’s balance sheet to support exports.
I also suspect that their desire for a significantly more diverse portfolio is incompatible with a world where they are adding to their assets at their current rate.
There is one additional — and quite controversial — angle that is worth mentioning.
The majority of the growth in official assets is coming from countries that are not democratically governed. China and the Gulf combined will likely add around $700b to their “official” portfolio, broadly defined. Russia, which is a bit more transparent and a bit more democratic, will account for another $175b. Other less-than-fully democratic governments (Libya for example) will account for another $50b.
Sum it all up and the foreign assets of non-democratic governments could rise by close to a trillion dollars in 2007. That worries me.
The rise of state capitalism doesn’t just represent a shift in financial power from the market to the state, and from the US and Europe to the emerging world. It also represents a shift in financial power away from democracies.
No Responses to “The new financial superpowers (part 2)”
The “democratic” nature of the USA is highly exaggerated and furthermore it is the “democratic” USA that has infected world finance with all its toxic waste, not the “undemocratic” states you claim to fear. I laugh at the idea that the IBs and other such US financial outfits that have given the world the subprime crisis think foreign wealth funds will rush to buy their latest…dare I say “crap”? I would love to see more of western assets held by sensible wealth funds that are immune to the fads and fashions of US finance. Bring on the investors from Singapore, China, the Gulf and elsewhere and stop trying to shut them out.
Nothing like having bureaucrats making key investment decisions. Ah! I just love the invisible hand capitalism guiding our future.
hand of capitalism
Sorry for the conspiracy theory, but this rise of state capitalism may aid evangelicals’ efforts to hasten the coming of Rapture. Financial power shifts to non-democracies. Military power rises in the U.S.. U.S. starts another war with a non-democracy. If it’s with the Middle East (evangelicals, cross your fingers), it will be a religious war which ends in the end of the world, then Judgment Day. Christians will go to heaven. Everyone else… well, who cares about them? They can rot outside my hyper-serviced, heavily policed luxury compound and send their kids to lousy schools.
Nonsense, Chinese SOEs are cutting partnership deals everywhere across the planet ensuring peace and prosperity. In the last week, China-Iran finalize $2 billion contract to develop Iranian oil field. Western pundits also conveniently ignore the fact that India is co-development partner with China in energy development projects in both Sudan and Syria. Unlike the US military grab for Iraqi energy reserves, the Chinese are successfully cooperating with foreign partners on almost every continent of the world.
It should worry most Americans, although I suspect 99.9 percent have no idea that our monetary policies are effectively recapitilizing all of our enemies. If we have a recession and appear weak it would be a fantastic time for someone to make a move or begin stiring the geopolitical pot.
Tis hard for creditor countries to export “toxic waste” — to do so by definition you almost have to be a big borrower. The US is certainly guilty as charged — tho it is still isn’t clear to me how much subprime was sold to the world and how much was kept in the US/ sold to “offshore entitites” like Citi’s SIVs that are in every respect other than their legal domicile US funds (us liabilities/ US assets).
That said, i am not sure that sov. wealth funds are immune to investment fads. They all seem to be in love with private equity just when cheap debt financing for private equity deals seems to have dried up …
part of my concern though is that it seems that parts of corporate america is becoming rather fond of authoritarian governments. Fund managers love Dubai’s low taxes. Lots of firms like China’s underpriced labor and land and so forth. I-banks love the fees SWFs in the Gulf pay. It isn’t clear to me that democratic governments would be as generous — or, as willing to stash funds abroad rather than invest at home (Norway is a bit of a counter-example, but i would bet it is unique)
And it is also hard for me to see how firms owned in large part by authoritarian governments would ever support political reforms that might undermine their big shareholders. That strikes me as an important development — even in a world where the US is a bit less keen on exporting democracy than it once was.
I know this is controversial, but I wanted to put some non-economic concerns on the table.
amateur econ — you are still stuck in the 90s. right now, the really big money is to made helping bureaucrats allocate capital …
but my how the world has changed.
Its going to dawn on Americans at some point that we dont want to become a society of sharecroppers. Buffet has mentioned this many times when asked about CA deficits and trade deficits. Right now the US acts like there is simply no downside to unlimited spending and consumption, but clearly there are going to be consequences. I’m under thirty and I dont want to live in a US where many corporations are run by foreigners who may want to kill me. This is supposed to be the land of opportunity.
i doubt the foreign owners will want to kill anyone. It is bad for business. I also doubt that companies owned by states (at least in part) will want to see much political change in the states that constitute their capital base. It is the more subtle effects of state ownership that worry me.
that, and the whole notion that the US can only finance its external deficit by selling US assets to governments, including authoritarian governments, because right now private investors don’t want to invest in the us.
the second market I certainly agree with. I wont even think about 10s 30s until at least 7 percent and we are a long way away from that. If the chinese and arabs think these are great bargain be my guest.
to the best of my knowledge, central banks don’t but 30s — it isn’t within their investment guidelines. 10s are. But those are very liquid and traded actively. From the little I know, central banks are concentrated in the somewhat less liquid 8s and 9s and other off-the-run issues. The funny thing is that CBs don’t really need liquidity (unlike say us commercial banks) b/c they have so many liquid assets. But they don’t want too much risk either. So they end up in assets that yield ever so slightly more than the most liquid assets …
Merrill’s projection seems far too high.
$ 1 trillion per year would required a “flight to equity” on the part of foreign CBs and SWFs.
China tells US to fix its own economic problems
XIANGHE, China, Dec 12 (AFP) Dec 12, 2007
China told the United States Wednesday to fix its own economic problems rather than deliver lectures, as the two sides warned at top-level talks here that protectionism threatened their trade ties.
But China’s vice minister of commerce, Chen Deming, said a weakening US dollar was a bigger global economic concern than the value of the yuan.
“(The yuan) is not the key issue. Currently my focus is more on the depreciation of the US dollar and its possible impact and repercussions for the world economy,” Chen told reporters on the sidelines of the conference.
In her opening remarks to the third Sino-US Strategic Economic Dialogue, the head of China’s delegation, Vice Premier Wu Yi, also told the United States bluntly to fix its own problems rather than complain about China.
“Obviously, to resort to trade protectionism and blame another country for the structural problems in the US economy is the wrong approach which would only harm the interest of the United States itself,” Wu said.
Structural problems in the US economy include a low savings rate and a large public deficit, economists say.
if greater attention needs to be focused on how the growth of SWFs reflects growing strains in the underlying economies: “…In effect, the Central Bank’s inability to control liquidity stems in part from its unwillingness to let the ruble float more freely. If it continues to manage the exchange rate by mopping up excess dollars, the counterpart of those reserve increases is newly issued rubles. And with ruble money supply growing at close to 50 percent this year, it is hardly surprising that the inflation target is being overshot by a significant margin…” http://www.moscowtimes.ru/stories/2007/12/12/008.html
and to get anywhere with this discussion, might you consider moving beyond generalized terms such as ‘authoritarian’, ‘private’, ‘state’ etc. and on to more descriptive terminoligy such as: http://en.wikipedia.org/wiki/Kleptocracy and other forms of government: http://en.wikipedia.org/wiki/List_of_forms_of_government
how you can be sure that “foreign owners” would not “want to kill anyone” out of fear of the consequences for business, given their propensity for beheadings, executions and assassinations: http://www.bobsguide.com/guide/news/2007/Dec/7/Top_banker_found_dead_after_torture.html
I would like to read more techinical and intellectual articles in this blog, not some political nonsense.
I frankly don’t see what the point is of trying to assess what political term best describes Russia or China. The heriditary monarchies of the Gulf are marked by a very high concentration of political and economic power.
And I am not quite sure what a link to the Russian mob has to do with an post on sovereign wealth funds whose main point was that some projections for the growth of SWFs are a bit too high, and whose secondary point was that a very large share of official asset growth is concentrated in non-democratic governments of various kinds.
maybes subsequent discussion could focus on these themes — just how big will SWFs become? Am I rigfht to suggest that SWFs will likely be handed a sum that is closer to $200b than $500b or $1000b to manage next year?
And can SWFs that report to unelected governments be expected to act differently than those that do report to elected goverments? To what extent does a country’s institutional structure impact its asset allocation?
bsetser: I don’t think the US or Europe are ready for a world where emerging market governments do $1.2 trillion of “deals” rather than buy $1.2 trillion of bonds.
I don’t know about main street, but Wall Street certainly is.
bsetser: The rise of state capitalism doesn’t just represent a shift in financial power from the market to the state, and from the US and Europe to the emerging world. It also represents a shift in financial power away from democracies.
I don’t see this as necessarily a bad thing. When democracies use their financial power to achieve non-financial goals, they tend to do things that make democracy more unattractive to the third world, and idealistic motives get mixed in other more practical motives all of which tends to cause a general mess. People talk about Chinese human rights, but their main motives are jobs and money, and this obvious mismatch has done a huge amount to make American notions of human rights unpopular in China.
One thing that I believe is that power corrupts and to have good things happen you need to have balanced distributions of power. Having global financial power located in the United States and Europe is a massive imbalance of global power that causes massive resentment. Using democracy as an excuse to justify those imbalances has the effect of destroying support for democracy.
bsetser: And can SWFs that report to unelected governments be expected to act differently than those that do report to elected goverments?
Probably not. The main motivation is going to be profit and wealth maximization. This is going to be true if the fund is owned by corrupt playboy African dictator or the California Teachers retirement fund.
Now how those profits are used is a different question.
bsetser: To what extent does a country’s institutional structure impact its asset allocation?
I don’t think it does. The main worry that people have is that some country is going to use control over enterprises to control management, but I think this is rather far fetched. If China wants technology from a major US company, it’s much easier for it to just buy that technology outright then to try to buy shares.
China Wealth Fund to Make Prudent, Stable Investments, Xie Says
By Belinda Cao
Dec. 12 (Bloomberg) — China Investment Corp., which manages the nation’s $200 billion sovereign wealth fund, will make stable and prudent investments, Finance Minister Xie Xuren told reporters at a press conference.
Xie, who took part in talks with U.S. Treasury Secretary Henry Paulson outside Beijing today, said that China Investment plans to increase communications with global regulators and ensure it will abide by international laws. It will seek longterm investments and avoid short-term speculation, he said.
The sovereign wealth fund, modeled on Singapore’s Temasek Holdings Pte., was started in September to help diversify the world’s largest foreign currency holdings.
Countries should prevent protectionism in trade and investment, Xie said.
To contact the reporter for this story: Belinda Cao in Beijing at email@example.com
bsetser: amateur econ — you are still stuck in the 90s. right now, the really big money is to made helping bureaucrats allocate capital …
That’s *always* been the case. Part of the problem here is that people have these idealized notions of how markets work that is different from how they actually do work. The other thing here is that a lot of these ideals are very local. American capitalism works ***very*** differently from German or Japanese capitalism, for example.
Most investment banks are huge massively regulated bureaucracies.
Sovereign wealth funds are new, but as far as concentrations of capital go, they aren’t particularly large either individually or in bulk. Also, I doubt very much that you’ll see any coordination between SWF. China and Russia have no particularly strong reason to coordinate investment strategies.
Keep in mind that analyst reports by investment banks are mainly marketing literature. That’s not to say that they should be totally ignored, because marketing literature sometimes contains useful tidbits of information.
bsetser: part of my concern though is that it seems that parts of corporate america is becoming rather fond of authoritarian governments
The reason for this is that corporations themselves are mini-authoritarian governments. A day in the life of a middle manager in a major US corporation is more or less the same as a day in the life of a cadre in the Chinese Communist Party.
The problem with authortarian governments occurs if you try to organize all of society in a bureaucracy, but most of the authoritarian governments no longer try to do this.
bsetser: It isn’t clear to me that democratic governments would be as generous — or, as willing to stash funds abroad rather than invest at home (Norway is a bit of a counter-example, but i would bet it is unique)
There’s no particular reason why Wall Street has to be restricted to investing overseas funds. The expertise that Wall Street has in investing Chinese money in US companies can (and in fact is) being used in investing Chinese money in Chinese companies.
bsetser: And it is also hard for me to see how firms owned in large part by authoritarian governments would ever support political reforms that might undermine their big shareholders.
They wouldn’t, but they wouldn’t support political reforms that undermine their own customers either. On the other hand, this may not be a bad thing. In general, I don’t want to see corporations or the US government trying to promote democracy in China. This isn’t because I don’t support democracy, I do.
The problem is that when corporations and the US government try to promote democracy, they do it in such stupid, idiotic ways that generally make things much, much worse than if they just did nothing. If you grow up in suburbia, you are just not going to understand the local politics, the relationships, the culture, the petty and not-so-petty rivalries, the history, the social structures of another country, and if you try to impose some outside notion of how things should work, then it is going to be a total mess.
Paulson Admits China Won’t Heed Calls for Faster Yuan Gains
Dec. 12 (Bloomberg) — U.S. Treasury Secretary Henry Paulson indicated China is unlikely to move quickly to meet demands for faster currency gains to reduce its record trade surplus.
The Chinese are “going to do what they believe is in their best interests,” Paulson said today at the third round of the Strategic Economic Dialogue talks at Grand Epoch City, outside Beijing. “The issue is going to be with us for some time.”
General Electric CEO commentary on Globalization and Chinese Economic model
This question is important because globalization is “profound,” Immelt said. “It’s irrefutable and it’s irreversible. In other words, when we live in a country where basically our standard of living is being financed by the Chinese, Japanese and everybody that’s buying our debt, you know what guys? It’s here. If you’re running for president or if you’re a man on the street, we live in a global network that can’t be reversed. Jobs are spread around the world.”
In many areas of the world, GE sells primarily to government customers. “In China, the government is the customer,” he said. “When I go to China I go to a combination of the department of energy, transportation, health and human services all rolled into one. The leader sits there and says: ‘You know what, Jeff? Your train order — you know — you’ve got to be more competitive. The turbine installation you had in the north is going well.’ And he’s going down and beating me up like a purchasing manager at GM. I always leave saying, ‘God, you know, this is impressive. These guys connect the dots. The level of connection is very impressive.”
“Is America going to lead?” Immelt asked rhetorically. “What’s different today is the competitors out there. If I think about the country as a company, the competitors are better today. In 1982, when I joined GE, Japan was going to eat our lunch. Japan was going to crush us. Jack [Welch former GE CEO) sent us all to Japan to study process and we did. I learned a lot. I thank them for making me better. But you know what? Japan was always constrained by demographics, by population size. The Japanese were limited. Japan is an island. Let me tell you, China is not an island. It goes on forever. China’s got perfect infrastructure. The government creates the backdrop for success. It is a very well controlled, shrewd, centrally driven economy. I just never cease to be impressed with how well the government of China does.
DC: If I think about the country as a company, the competitors are better today.
The trouble is that countries aren’t companies. It’s not surprising that the CEO of GE thinks highly of the Chinese government since they have very similar visions of the world as far as infrastructure goes.
That doesn’t mean that they couldn’t both be wrong.
@bsetser: Can you describe some of the “more subtle effects” of state ownership? It seems to me that foreign-state-owned corporations would need to compete with domestic companies on our terms.
U.S. Trade deficit due to U.S. economic structure – China
XIANGHE, China, Dec 12 (Reuters) – America’s trade deficit reflects the structure of the U.S. economy, Chinese Vice-Commerce Minister Chen Deming said on Wednesday.
Chen’s remarks, made during a break in a two-day “strategic economic dialogue” with senior U.S. officials near Beijing, are in line with the belief of central bank governor Zhou Xiaochuan and other Chinese policy makers that exchange rate changes play only a supporting role in reducing economic imbalances.
Chen said the pace at which the currency rises should be measured. Overly rapid appreciation would be bad for the global economy, he said.
“what a link to the Russian mob” ?
any political structure has an economic component and economics governed by politics. a simple distinction between ‘elected’ and ‘unelected’, ‘democratic’ and ‘undemocratic’ is insufficient if only due to the scope for misinterpretation of those terms.
“It should worry most Americans, although I suspect 99.9 percent have no idea that our monetary policies are effectively recapitilizing all of our enemies. If we have a recession and appear weak it would be a fantastic time for someone to make a move or begin stiring the geopolitical pot.”
Perhaps this is just what the doctor ordered for the long called for rebuilidng of the US manufacturing base?
Also wonder if the events everything from currency, sovs, economy and fed policy is reminicent of the late 20s? That would bolster the above thesis that the US is increasingly coming undressed?
China’s top-down leadership dithers as economic storm clouds gather http://www.globeinvestor.com/servlet/story/GAM.20071212.IBASIA12/GIStory/
…but the rebuilding of the manufacturing base might be tough as it will be challenging to afford the iron ore necessary let alone the ink for the presses
“… China is just not that big and it will not get that big any time soon.” Even with the old numbers, China was advancing slowly – when compared with the rest of the world. Take the index that the UN uses to measure comprehensive change in living standards. The Human Development Index takes many factors beyond GDP growth into account – longevity, education, human rights. In 2001, the UN index ranked China as 87th in the world. By 2007, it had elevated China only to 81st place. In the intervening years, China scored as poorly as 104th. Even now, China’s per-capita GDP… varies significantly, depending upon which authority you use. The [IMF] puts it at $7,722, only a few dollars less than the CIA’s estimate of $7,800. At this level, China ranks 86th in the world. The University of Pennsylvania, which publishes an authoritative analysis of its own, puts the country at $5,772, pushing China down to 94th. In either case, subtract Mr. Keidel’s exaggeration factor of 40 per cent from these numbers and China slides further than it has climbed in the last few years. The IMF number becomes $5,790 and puts China in 100th place; the University of Pennsylvania number becomes $4,379 and puts China in 114th place, just above Uzbekistan. In his 1994 report on China’s GDP, Albert Keidel noted that extreme poverty in China had risen since it introduced elements of capitalism 15 years earlier…” http://www.globeinvestor.com/servlet/story/GAM.20071212.REYNOLDS12/GIStory/
cmc — i was thinking more of the impact of ADIA’s investment in Citi on the United States (now much reduced) push for more democracy in the gulf monarchies — or how various companies owned by say the CIC might not exactly want evolution in China’s political structure. Basically, firms that are partially owned by gov. investment arms could become the “financial” allies of those governments.
I will be interested to see if Citi and UBS for example are willing to push for more sovereign wealth fund transparency, or will argue that such a push will compromise market efficiency and so on.
2fish — you manage to comment more quickly than i can respond! i am quite cognizant that I-banks produce marketing literature. Part of my concern is that they are in effect lobbying countries with lots of foreign assets to shift more assets to their wealth funds to make the i-banks forecast come true, and, in the process, produce nice fees.
I though have a very different thesis than you do about how a country’s governance structure will impact its asset allocation/ investment style.
My hypothesis is, more or less, that a SWF will end up reflecting the institutional structure of the country it emerges from, and that in turn will impact its allocation.
Norway — transparent, democracy. its SWF is very transparent, and in part b/c it is transparent, it has shied away from taking large risks. It tries to minimize fees to improve returns, and as a result in “insourcing” some fund management that has previously been outsourced.
The big gulf funds are more like family offices for the ruling family than public institutions. Decision making is concentrated — and the very wealth individuals running the fund are comfortable paying top $$ for high-end in-house wealth management. The societies are not transparent. Nor are their funds.
China’s fund won’t be as transparent as Norway b/c China isn’t as transparent as Norway. China’s government doesn’t report to a parliament. On the other hand, the various parts of China’s bureaucracy all hope to influence the CIC. the CIC is also too much of a public institution to be run like a family office investing the funds of China’s ruling elite — as a result, my guess is that it will end up with a less aggressive portfolio (outside of China) than the Gulf funds.
Singapore is a strange hybrid — not really a family office, but the GIC also reports to a very small number of people/ doesn’t report to a parliament.
And so on.
re: US firms and governments abroad, i increasingly get the sense that big US firms see foreign governments as sources of capital and profits (whether from big contracts, big investments or from exploiting an undervalued XR) while they see the US government as a source of regulation and taxes. And they often seem to prefer dealing with autocracies than democracies.
I suspect that is true when it comes to raising capital as well. big SWFs in non-democratic countries can move fast — and don’t have to worry about explaining their investment to a skeptical public.
“…the top 25 Russian companies… have a total of $59-billion (U.S.) in foreign assets. That makes Russia the third-largest direct foreign investor among emerging markets, after Hong Kong and Brazil, and “reveals a dramatic transnationalization of Russian firms,”… Over the past two years, the top 25 Russian companies’ aggregate foreign assets more than doubled, growing at a faster rate than the world’s 25 leading multinational companies…” http://www.globeinvestor.com/servlet/story/GAM.20071211.IBRUSSIA11/GIStory/
“…The interesting thing about authoritarian regimes like China’s is that they find it hard to make tough decisions. Lacking democratic legitimacy, they fear the upheaval that might follow if they make a wrong step and make people angry. So, in a funny way, they are less decisive than supposedly namby-pamby democracies…” http://www.globeinvestor.com/servlet/story/GAM.20071212.IBASIA12/GIStory/
“…Life expectancy for Russian males is only 59 years, five years below what it was 40 years ago… While the numbers and health of Russia’s ethnic Slavs and Orthodox Christians continue to decline, Russia’s Muslim population is growing, rapidly transforming the ethnic makeup of Russian society… Since 1989, Russia’s Muslim population has increased by 40%…. In the Economist Intelligence Unit’s Democracy Index, Russia ranks 102nd among 167 states surveyed… Putin envisages the state not as the great renationalizer, but as the biggest shareholder in a newly privatized society…” http://www.heritage.org/Research/RussiaandEurasia/bg2084.cfm
“…After migrant construction workers rioted in Dubai over savings lost to the dollar’s slide, Suweidi said the UAE, the second largest Arab economy, was under mounting social and economic pressure to drop its peg and track a currency basket…” http://www.arabtimesonline.com/client/pagesdetails.asp?nid=8917&ccid=11
This is an interesting piece by the Chair of the Canada Pension Plan Investment Board explicitly addressing the difference between the $ 120 billion public fund and an SWF:
The risks of sovereign funds
Globe and Mail Update
December 7, 2007 at 2:21 PM EST
Recently, the Abu Dhabi Investment Authority paid $7.5-billion (U.S.) to acquire a 4.9-per-cent stake in Citigroup. This deal is the latest in a series of transactions that have seen state-controlled funds acquire large stakes or even entire companies in sensitive industries such as financial services, transportation, infrastructure and energy. As The Wall Street Journal wrote on Nov. 28: “The sensitivity of the Citi deal underscores the fraught dynamic now in play between the estimated $7-trillion of state-owned investment pools, their often high-profile targets, and the governments that regulate the investments.”
Some, including the sovereign wealth funds (SWFs), maintain that their passive, long-term investments provide liquidity and stability to the markets. Others, notably governments in the host countries of target institutions, are less sanguine. Their concern is that these government-controlled funds will use their financial clout in the pursuit of non-commercial economic, political or national security objectives.
If these fears cause countries to raise broad protectionist barriers, access to international investment opportunities could be curtailed. This would penalize return-driven national pension funds such as the CPP Investment Board, even though they exhibit none of the characteristics that are feared. At stake for the CPP Investment Board – if it is incorrectly categorized as a sovereign fund –would be its ability to compete for global investments.
We believe that policy makers can clarify the broad range of pools of capital by looking beyond the labels of “sovereign wealth funds” or “sovereign funds” to examine the underlying characteristics of each fund. This would allow public policy decisions to be based on facts, not labels.
Neither the Canada Pension Plan nor the CPP Investment Board, which manages the assets of the CPP, meet the definition of a sovereign fund. As examples, we do not manage government money, our assets are segregated from government funds, we do not receive “top-ups” through tax revenues and management reports to an independent board of directors, not governments.
The CPP Investment Board has participated in various international forums, most recently at the Organization for Economic Co-operation and Development in Paris last week, to explain why the CPP Investment Board is not a sovereign wealth fund and to discuss its governance structure – elements of which can offer important ideas in the current debate about SWFs.
The CPP Investment Board was created as part of the CPP reforms of the mid-1990s. These reforms are considered to be a remarkable achievement for Canada. In 1996, the CPP was facing a looming pension funding crisis and its collapse was inevitable. Today, CPP Fund assets total more than $120-billion (Canadian) and Canada’s Chief Actuary has projected that the Fund will be sustainable throughout the 75-year period covered by his most recent report. The foundation for this success is a governance model that strikes a careful and effective balance between an arm’s-length relationship with governments and significant accountability.
The twin principles of clarity of purpose and transparency, enshrined in the CPP Investment Board’s legislation, can offer a potential path through the protectionist thicket for those sovereign wealth funds that are able to pursue such a course.
Clarity and transparency are the means by which investments can be measured, motives can be verified, confidence can be built and trust can be earned. These constitute an important world currency, and without them, suspicion will persist and pressure for protectionism will increase.
So how does the CPP Investment Board model achieve clarity of purpose and transparency, and what measures are in place to protect this?
Investment only mandate
We have a singular, “investment only” mandate that can only be changed through a formula similar to what is required to amend Canada’s constitution.
No government involvement
No level of government is involved in any way in investment decisions, and all major decisions, including the hiring of the CEO and executive compensation, belong to the board of directors.
Directors are appointed by a nominating process that itself is a model of independent governance.
With regard to transparency, policy makers ensured that a high level of transparency was built into our legislation. The CPP Investment Board has voluntarily raised transparency to an even higher level by adopting a rigorous disclosure policy that states Canadians have the right to know how the CPP Fund is invested. The power and effectiveness of this policy has served us well.
These elements of our governance framework clearly separate us from organizations that are the focus of the SWF debate. To ensure this distinction is made, policy makers must go beyond labels to assess the objectives, governance and actions of these pools of capital when responding to pressures for protectionism.
Gail Cook-Bennett is Chair of the Canada Pension Plan Investment Board
re: “To what extent does a country’s institutional structure impact its asset allocation?”
you could also rephrase that as, to what extent does the personal enrichemont of a cadre (and its bureaucratic apparatus/administration) overlap with the “personal” enrichemonde of a country and its people? i.e. how well they fulfil development goals and raise living standards, and, of course, their ultimate accountibility in the event of failure… (which should go a long way towards establishing the basis for “legitimacy” overall)
re: “a shift in financial power away from democracies”
‘reverse’ corporatism — state (imperial?) capitalism — (in the coasian sense) as a theory of organisation mostly used to be just an interesting concept relegated to comparative (historical) political-economy — british east india (cf. anarcho-capitalism and the icelandic freestate) — and science fiction (e.g. stephenson’s burbclaves and phyles), but now that it’s ‘catching on’ (done well/better) it’s probably worth reviewing what it means to imbue ‘corporate’ entities with the powers of the state — taxation/appropriation, a monopoly on violence, and the right to make war and mint currency — and its implications for competition, ‘returns’ and that whole providing for the general welfare (common wealth) thing, esp in relation to other ‘corporate’ entities, as this is no longer an academic exercise (or
…plot device); like how do ‘western’ principles of progress/governance react when confronted with a revival of clan & caste? we’re finding out (while notions of utility, production and ‘efficiency’, not to mention measurement, are being reworked)
…and, at least on the monetary side, we’ve just seen one (temporary?) ‘new era’ institutional coalition form — basically, instead of a super-SIV, we get a super-CB discount window (w/out the penalty… so, if permanent, probably no reason ever to use the ‘old’ one again); but the key (ambiguity) is what “judged to be in generally sound financial condition by their local Reserve Bank” and “a broader range of collateral” means, which (again) could be read as ‘bailout’, albeit less expensive than recession (in the short run)
“He… called for more transparency in disclosure rules for complicated derivatives. Most famously on Bay Street, he said Canada needed to crack down harder on white-collar crime if it wanted to shake its international reputation for being a “Wild West” of financial markets…
DAVID DODGE IN QUOTES
On Having An Open Central Bank
“There’s ‘a perception that somehow, this is kind of a little bit more of a Wild West up here”
On A Single Regulator
“We, in Canada, increasingly look as if we are stuck in the middle of the 20th century”
A facinating topic, SWFs. Their investments will either make economic sense or strategic sense; possibly both. You’d expect them to do what they figure is best for their country, regardless of their political structure, but individual fringe benefits will always play some part.
It’s also probable that SWF will be most durable from the net oil exporting countries, as I think it is clear that oil prices will continue to rise sharply. This will hurt the US economy most, but everyone will feel the pain, China included. I wouldn’t be surprised if oil quadruples within a couple of years, at least measured in $
Anonymous: Neither the Canada Pension Plan nor the CPP Investment Board, which manages the assets of the CPP, meet the definition of a sovereign fund. As examples, we do not manage government money, our assets are segregated from government funds, we do not receive “top-ups” through tax revenues and management reports to an independent board of directors, not governments.
The same is true for Temasek Holdings and the China Investment Corporation. There is an important balance here. Basically what the CPPIB is saying is that they are proud of the fact that they have a board that is accountable to nobody. The thing that CPPIB doesn’t mention is that it is created pursuant to an Act of Parliament and Parliament can change the rules if it wants to.
I also find that statement about how its a bad thing that the Chinese government basically has to take account of public opinion and fears massive upheaval to be bizarre. It’s a very, very good thing that China has developed to the point that the government has to move somewhat slowly because of public opinion. That’s what democracy is all about, and one problem I have with a lot of concepts of democracy is that they pay too much attention to the form “i.e election campaigns” and not enough about the substance (i.e. are public officials really truly concerned that something bad will happen to them if they don’t make the public happy.)
2fish — I think you have the CIC wrong. It institutionally reports to the state council, and its governance structure includes representatives of most of China’s ministries/ key agencies. it is financed with funds raised by the Finance Ministry, and it couldn’t pay the Finance ministry back, the Finance ministry is still on the hook for the funds it raised by selling bonds. I don’t know was much about temasek, but my sense is the top leadership of Singapore’s government is well represented on its board (it is certainly represented on the GIC’s board).
Actually the one criticism of Singapore’s state-owned Temasek has been that its return on investment has been rather lackluster in recent years. I recall that the total return on investment has been in the 4-6 percent range for Singapore pension holders. Like the huge Fidelity Magellan mutual fund, returns diminished as the mutual fund gew larger and larger. Since the China Investment Corporation is modeled after Temasek, more than likely it will also get mediocre returns. The sheer $200 billion size of the fund prevents a concentrated bet on a growth sector. For instance, the market capitalization of the entire world’s Gold producers is probably under $300 billion. That’s the problem with too much money to invest.
Some aspects of CPPIB governance structure:
In an era when issues of corporate governance continue to make headlines around the world, we are fortunate to be operating within a governance structure, enshrined in legislation, that was carefully designed to support our distinct mission. The CPP Investment Board is a professional investment management organization, operating in the private sector world of financial markets, with strong public sector accountability.
Our governance structure has received international acclaim as a model for national pension plans. We operate independently of the Canada Pension Plan and at arm’s length from the federal and provincial governments that are jointly responsible for the CPP.
Oversight of the CPP Investment Board is provided by an independent board of directors. This board, not governments, approves investment policies and makes critical operational decisions, such as the hiring of the president and chief executive officer and the setting of executive compensation.
The board hires the president and CEO who, in turn, hires and leads the management team. These investment professionals make portfolio decisions within policies agreed to by the board of directors.
Changing the legislation governing the CPP Investment Board requires the cooperation of the stewards–the federal and provincial finance ministers who oversee the CPP. This process mirrors the constitutional amending formula and requires agreement among the federal government and two-thirds of the provinces representing two-thirds of the population.
While the CPP Investment Board operates at arm’s length from governments, we are subject to very rigorous accountability requirements. Accountability is deeply ingrained in the CPP Investment Board’s legislation, governance and in the policies and practices of the board, officers and employees.
Specific examples of the ways we are by law, accountable to the stewards and the public include:
Our annual report is tabled in Parliament by the federal minister of finance
We have annual audits by an independent external audit firm
There is a review of the CPP and the CPP Investment Board by the federal and provincial finance ministers every three years
We are subject to a special examination of our records, systems and practices every six years.
If deemed necessary, the finance minister also has the power to appoint a firm of accountants to conduct an audit at any time
We hold public meetings in each participating province every two years
We provide regular and timely information on our website helping interested Canadians monitor the activities and investment performance of the CPP Investment Board.
i do think there is a meaningful difference between the Canadian pension fund and most sov. wealth funds — tho the differences between norway and Canada (while real) are less pronounced than the line between the CIC and Canada’s public pension fund.
If all funds were as transparent, I wouldn’t worry very much … apart from the questions posed by their rapid growth.
DC — Temasek still has some big concentrated bets, last I checked. and given how much it must have made on its stake in China’s state banks (and how fast its foreign assets are growing) i would be surprised if its returns were quite that lackluster.
bsetser: It institutionally reports to the state council, and its governance structure includes representatives of most of China’s ministries/ key agencies.
True, but the management doesn’t report to the State Council, and the Canadian pensions document was only talking about management reporting and not board reporting (and the CPP investment board reports to the Ministry of Finance).
bsetser: it is financed with funds raised by the Finance Ministry, and it couldn’t pay the Finance ministry back, the Finance ministry is still on the hook for the funds it raised by selling bonds.
True. But the “why we are not a sovereign fund document” just talked about tax revenue, and as a matter of policy, the Chinese government doesn’t put tax money into state owned enterprises.
The thing that I wanted to point out is that the language in the Canadian pensions defining what they think an SWF was very carefully worded and spun in a way that CIC passes. CIC management doesn’t report to the state council but rather to a board that at least is formally independent. CIC also doesn’t receive tax money.
Don’t get me wrong, I think that the Canadian Pension system is a very well run sovereign wealth fund, and Canada and Norway are the benchmarks by which CIC should be run, but they are still sovereign wealth funds.
I should point out that one reason that SWF usually need to be structured as entities separate from the government is that if you are a government official, you get government pay which is much less than that of the private sector. This looks like it was a huge problem in Florida, where is seems that state investment fund made bad investments because I think, they couldn’t afford anyone competent. You can farm out portfolio management to Wall Street, but then the term fox guarding henhouse comes to mind.
I think though that the discussion should put people at easy against the idea of sovereign wealth funds taking over the world. It’s pretty obvious that each fund has different goals, and it’s hard for me to see a situation in which Canada, Norway, China, Singapore and the Gulf States would agree to cooperate to do something nefarious.
Temasek purchase of BOC was $3 billion in a portfolio of $100 billion. With $100 billion under management, you just can’t have spectacular returns and even getting mediocre ones is a major challenge.
So it may be that the expansive war in Iraq has stabilized dictatorships by giving more money to them (e.g. in Saudi Arabia, Kuweit, Russia, Iran,…), instead of bringing more democracy.
The reason Norway is the only democratic country with an SWF is mostly that countries with big oil reserves tend not to become democratic BECAUSE the have oil reserves.
Let pension funds out of the game the Chinese CIC seems to me to be the only SWF based not on natural resources. But that I don’t really understand. The trade surplus is generated by private companies, therefore the Renminbi should appreciate. As far as I understand it, the private companies are then forced to change their $ into RMB at the PBoC. So the PBoC has high debt in RMB?
But then it has a serious problem if their activa, the $s go down, or not?
Or is the PBoC printing these RMB simply? But then one would expect run away inflation to eat up the competitive advantage. Can somebody explain or link an explaination how the Chinese surplus converts into reserves and SWF?
Many EU countries e.g. have as well surpluses, but their Gouvernments are poor despite that and private people hold the money.
guest — Chinese exports sell $ to the state banks for rmb, the state banks then sell the $ to the PBoC for RMB.
the PBoC gets the $.
It sterilizes the increase by selling s-term debt (or raising reserve requirements) to take some of the rmb is sold to the banks for $ out of circulation.
the CIC is financed by bonds sold by the finance ministry. Those bonds are in principle sold to the banks, tho for now most have been sold to the cnetral bank (that is where things get complicated) the finance ministry uses the rmb it raises from selling bonds to buy $ from the PBoC. the CIC then manages the $.
and yes, someone will take losses when the $ depreciates v the rmb.
2fish — aren’t most of the Canadian pension funds assets domestic? Just a guess — i need to look at it more closely. you could argue tho the same applies to the CIC.
Latest CPP quarterly report:
$ 121 billion in assets
including $ 62 billion in equities !
of which $ 46 billion in foreign equities !!!
Also, CPP has been involved in bidding for Auckland airport recently:
As well, lots of foreign exposure in the domestic firms – mining, oil, food processors:
“Saputo Inc. shares fell more than 6% on the Toronto Stock Exchange Wednesday after published reports of allegations linking the company founder to the Italian organized crime…” http://www.globeinvestor.com/servlet/story/RTGAM.20071212.wsaputo1212/GIStory/
“Canada’s third largest oil and gas company, Petro-Canada, signed a $7 billion deal Monday with Libya’s state-run National Oil Corp…” http://ap.google.com/article/ALeqM5iqy1eT1SNcjq72IaypsA1QSxNbAQD8TES5K80
many of which, of course in turn, are majority owned by U.S. entities:
“An executive with Exxon Mobil Corp.’s refining business has been named president of Imperial Oil Ltd., Canada’s oldest energy company. Imperial Oil, of which Irving, Tex.,-based Exxon owns about 70%…” http://www.financialpost.com/story.html?id=161266
which, in turn, also have a great deal of their own ‘foreign’ exposure.
By the way, did CCP have the prescience to sell its income trusts before Flaherty’s October surprise? I can’t remember hearing anything about that…
sorry! – CPP!!! – Freudian slip
Temasek has always been seen as being a lot more aggressive than GIC and yes, the government is well represented, the singapore public (if you listen to opposition rhetoric) has been interested in the performance of both for a long time , who wouldn’t? But the pension fund returns (by which I assume you’re talking about CPF ) do not necessarily correlate to temasek’s returns, it’ll be ghastly if they did, why would they be paying big $ to top bankers for if that were the case.
Sure there’re political implications should SWFs take big stakes in organisations in democracies but whether it’s because so many if them are from autocratic/non-democratic systems of government is debatable. Japan, despite its lack of an obvious SWF, has long practiced “aid” diplomacy, and one suspects that its biggest corporations aren’t exactly staying clear of politics (be it lobbyists or interest groups). $, conflicts of interest and politics are rarely loners.
Investment banks, hedge funds and other financial institutions are not exactly the most democratic of institutions in themselves, how accountable senior executives are in the end is questionable, examples of CEOs being rewarded for terrible management aren’t lacking in recent months . Transparency is the favourite quality these days only because of its absence in recent years, it’ll be interesting if the crisis produces the obligatory congressional hearings, how many people will be pleading the fifth will be a measure of what demoractic systems produce.
I agree with the fact that SWFs need more transparency since they’ll be making more impact in the economic world but to say that they might adversely affect the political structure of the world may be another face of prejudices stemming from nationalistic feelings, even in a democracy.
I think you may have missed my point. Your argument actually reinforces mine. The US will use military power to grab whatever it wants. China uses diplomacy – economic diplomacy – makes deals – to get what it wants. (I prefer China’s method, even if it’s with characters (Iran, Sudan, Syria) too unsavory for the conservative, right-wing, evangelicals of America to consider engaging economically or diplomatically). When the world polarizes between non-democracies and democracies – which in the mind of evangelicals is really ‘god-fearing christians’ vs ‘heathens’ – an evangelical-controlled US will step in to slay the non-democracies and restore a rightful (Christian) order.