2 min read.Updated: 10 Oct 2019, 10:52 PM ISTHARSH GUPTA
Mint probes whether the country really needs a sovereign wealth fund
An external sovereign wealth fund (SWF) could convert some of India’s reserves into global equities, real estate and corporate debt through liquid index funds. Mint probes whether the country really needs an SWF.
Doesn’t India already have an SWF?
Yes, but the National Investment and Infrastructure Fund (NIIF) is domestically focused. India also needs an “external" focused SWF. NIIF is a combination of alternative investment funds and fund-of-funds for investing and co-investing with foreign partners in India’s infrastructure story, hence giving the economy a boost while also generating returns. The National Highways Authority of India could be going down this path through the infrastructure investment trusts, which would create and monetize highway assets. One of the foreign investors in NIIF is another SWF, the Abu Dhabi Investment Authority.
How can an ’external’ SWF boost exports?
Depending too much on resource exports can lead to the Dutch disease, whereby the rest of the economy becomes uncompetitive as the currency appreciates. Thus, convert some of the wealth into foreign currencies and invest outside. India is non-existent in the export of most commodities, but a thin layer of elite services exports may be making our manufacturing uncompetitive, along with other factors. We need to buy dollars, euros and yens to slightly weaken the rupee, but US treasuries have low returns and German/Japanese bonds are negative yielding. We need foreign equity-like investments as well.
Could SWF investments become corrupt?
Considering India’s state capacity, which is better than that of several emerging economies but less effective than that of Norway, cronyism is a risk. However, there are several ways to mitigate the danger. One way is to focus more on public markets and less on unlisted equity, venture capital and other “real assets".
India’s total reserves have been hovering around 15% of GDP for the last five years. To slow down the real appreciation of the rupee, boost exports, accelerate the path towards capital account convertibility, we need to push it closer to 20%. There are many other factors as well, but the reserves-to-GDP ratio peaked around 25% in 2008. For India, assuming a GDP of $5 trillion in 2025, it needs $1 trillion in reserves. Around a quarter of that, or $250 billion, can go into our “external" SWF.
What are the other implications?
Weakening the currency can lead to higher inflation through costlier imports and domestic money creation. But inflation has been in the 3-4% range for the last year and is likely to remain in the 2-6% mandated range for the next few years. So the macro adverse effects of slightly accelerated foreign exchange reserves should be limited. The carrot of an open capital account in India may be a lucrative one, even if we reach there after some time.
Harsh Gupta is chief investment officer of Ashika Group.