Sovereign-wealth funds too big to ignore

WASHINGTON (MarketWatch) -- The government-run investment pools known as sovereign wealth funds aren't new, but they're growing fast, causing heartburn for politicians and policymakers and leading to calls for the funds and their government masters to clarify their practices and intentions.

The concerns were pushed into the headlines Friday when finance ministers from the Group of Seven industrialized nations sat down with representatives of some of the biggest funds to urge them to increase transparency and adopt a set of "best practices."

Ex-Fed Chief Alan Greenspan says there's no reason why the adjustment in the current account deficit should have a major impact on the real economy and employment.

U.S. Treasury Secretary Henry Paulson said Saturday the G7 wants the International Monetary Fund to develop guidelines for the funds and argued that a set of best practices would help tamp down the potential for a protectionist backlash in countries where the funds invest.

"Best practices would provide multilateral guidance to new funds on how to make sound decisions on how to structure themselves, mitigate any potential systemic risk, and help demonstrate to critics that SWFs can be constructive, responsible participants in the international financial system," Paulson said. See full story on Paulson.
Why the attention now?

Rapid growth

Buoyed largely by growing oil profits and foreign exchange reserves, funds controlled by governments in the Middle East and Asia have grown rapidly in recent years.
Merrill Lynch, in a recent research paper, estimated sovereign funds now control around $1.9 trillion in assets. And they're growing fast, with the potential to surge to about $7.9 trillion by 2011, according to the report. Morgan Stanley estimated earlier this year that the funds could swell to $12 trillion by 2015.

Their current size exceeds the scope of the world's hedge funds, which are estimated to hold around $1.5 trillion in assets.

No doubt, part of the nervousness surrounding the sovereign funds in the developed world stems from the potential for a political backlash against foreign-government ownership of major companies.

Nasser Al Shaali, CEO of the Dubai International Financial Center, acknowledged that the growing influence of sovereign funds from the developing world is "a bit unnerving for the powers that be."

But any effort to establish best practices shouldn't single out the sovereign funds, he said in a panel discussion Saturday hosted by the Institute of International Finance, but should apply to all forms of cross-border investment. Focusing only on the funds merely stirs up unfounded concerns about intent, Shaali said.

Some U.S. politicians squawked when China's recently launched State Foreign Exchange Investment Corp. bought non-controlling shares in private-equity giant Blackstone, and also quailed at government-owned Dubai Borse's acquisition of a stake in the Nasdaq stock market.

Profits or politics?

European Union officials had raised warning flags ahead of the G7 meeting, saying they fear some funds may aim to pursue political objectives rather than profits.
Such concerns were further underlined by former U.S. Treasury Secretary Larry Summers in a Financial Times op-ed earlier this year that questioned whether some funds would act in the same interests of traditional shareholders.

"The logic of the capitalist system depends on shareholders causing companies to act so as to maximize the value of their shares," Summers wrote. "It is far from obvious that this will, over time, be the only motivation of governments as shareholders. They may want to see their national companies compete effectively, or to extract technology or to achieve influence."

Others say worries are overblown.

Some of the biggest funds, including the Norwegian fund and Singapore's Temasek Holdings, routinely purchase non-controlling shares in enterprises -- a method that could serve as a solid model for some of the newer funds that have been stoking worries, said Roger Kubarych, chief economist at UniCredit.
At the same time, some large funds, including a Kuwaiti fund, often do take controlling shares and have shown themselves to be responsible stewards, he said.


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