Some light on wealth funds

Some light on wealth funds
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First Published: Mon, Mar 24 2008. 01 13 AM IST

Illustration: Malay Karmakar / Mint
Illustration: Malay Karmakar / Mint
Updated: Tue, Mar 25 2008. 01 31 AM IST
We are finally seeing the first tentative attempts to get a rule book for sovereign wealth funds (SWFs). Last Thursday, the US Treasury said it had reached an “agreement” with two SWFs, those of Abu Dhabi and Singapore, for investments in the US. This comes a week after Abu Dhabi officials sent a letter outlining nine “principles” that guide its investment to finance ministers of seven Western countries. The International Monetary Fund has said that it will also put together a set of guidelines for SWFs on governance and risk management, just as it earlier pushed through norms on fiscal transparency and foreign exchange reserves management.
Illustration: Malay Karmakar / Mint
Such global norms have the attributes of a “public good”. SWFs often raise regulatory and security flags in host countries, especially Western industrial democracies. These responses could lead to a round of protectionism and curbs on capital flows.
The fear SWFs evoke is primarily due to low levels of transparency in these funds. Their pattern of investment and its causes are an object of suspicion. It does not help matters that these funds are owned by countries that are not democracies (Norway’s fund is an exception). The gigantic amount of assets under their control adds to these concerns (the five big SWFs in oil-rich West Asia alone have some $875 billion to $1,270 billion under their belt).
Separation of the ownership and managerial functions in a firm is considered a part of good corporate governance. SWFs do not meet this criterion in a strict sense. These funds realize that this is part of the problem that SWFs face while making investments. Some sort of governance structure, where managers have the freedom to make investments on economic grounds such as maximizing risk-adjusted returns, expected future returns etc., is a must.
Once such structures are in place, ownership is likely to become less of an issue, even if it will not disappear entirely. With managerial autonomy, the chances that investments are being made for strategic or political reasons will be less. At the moment, any investment by these funds in energy and resource assets is problematic. Most of the countries controlling these funds themselves sit on a tidy pile of resources ranging from oil and gas to minerals. There is little reason for them to invest more in these resources elsewhere.
Once a regulatory framework is in place, these issues are likely to be sorted out.
How should SWFs be regulated? Write to us at views@livemint.com
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First Published: Mon, Mar 24 2008. 01 13 AM IST