Unocal, Global Crossing, P&O...the list of American firms that have been prohibited from being owned by foreign investors supposedly for security reasons runs long. Two recent features have made me think about this issue once again. As you know, America keeps on piling on debt, yet expects foreigners to remain content with buying relatively low-yielding US bonds instead of equity stakes in American companies. However, the recent trend of bigtime reserve accumulators creating "sovereign wealth funds" (SWFs) to invest these proceeds in equities is bound to again rouse, shall we say, protectionist passions in America. Let us begin with Sebastian Mallaby of the Washington Post on the next battleground over globalization--you guessed it, sovereign wealth funds:The next globalization battle lurks over the horizon, but you can already guess its contours. It will be shaped by two revolutions in finance and business: the growth of vast government-controlled investment funds abroad and the muddled progress toward shareholder democracy in this country. Taken together, these changes will give foreign governments a say in how corporate America is run. Lou Dobbs is going to love this one.
The rise of government investment funds suddenly preoccupies financiers. Treasury officials who never before gave a thought to these outfits now want them on their speed dials. Five years ago, governments were sitting on $1.9 trillion in foreign currency reserves, which was roughly what they needed to stave off financial crises. Now they have $5.4 trillion, way beyond their prudential needs and more than triple the amount in the world's hedge funds. Increasingly, this cash is being moved into "sovereign wealth funds," which have come from obscurity to manage assets worth an additional $1.6 trillion.
These reserves are likely to keep growing. A big chunk of the expansion has occurred in energy-exporting states, and the prices of oil and natural gas show no signs of falling. High energy prices explain why Russia's government, which had negative assets at the time of its default in 1998, now has reserves worth $315 billion, plus an investment fund worth $90 billion. They explain why Nigeria, which pleaded poverty and secured debt relief as recently as 2006, is now sitting on reserves of $80 billion. The Kuwait Investment Office is rumored to manage $500 billion, and the United Arab Emirates has an investment fund worth perhaps $1 trillion (the Arabs won't disclose the real numbers).
The second motor behind sovereign funds is the global trade imbalance. East Asia's exporters rake in dollars that they convert into domestic currency, and the dollars wind up in the region's central banks: China has accumulated an astonishing $1.2 trillion in foreign currency reserves and Japan around $900 billion. Even though the U.S. trade deficit is starting to shrink, it remains huge by historical standards. The flip side is that East Asia's trade surpluses will persist, and the region's central banks will bulge with yet more money.
When central banks amass reserves, they park them in U.S. Treasury bills and risk-free bonds issued by other rich governments. But the buzz about sovereign wealth funds signals that this is changing. The newly wealthy governments are following forebears that grew rich a generation back -- the Gulf states, Singapore, Norway. They want a better return on their savings than they can get from Treasury bills, so they are going to invest in companies.
This need not be sinister. As former Treasury secretary Lawrence Summers argues in the new book "Sovereign Wealth Management," a government that fails to invest excess reserves in corporate assets is irresponsible. Sovereign wealth funds can professionalize the management of national wealth, argues the book's editor, Jennifer Johnson-Calari of the World Bank. A generation ago, the government of Sao Tome might have hidden its oil revenue in Swiss accounts. Today it is consulting the state government of Alaska about sound and transparent management.
But the political backlash is already beginning. China just bought a $3 billion stake in Blackstone Group, the American private-equity firm that sold a chunk of itself to outside investors last week. Blackstone's IPO was controversial even without the China connection -- private-equity firms are already viewed as the engines of ruthlessly competitive global capital, and now they are allied with the engine of ruthlessly competitive global labor. Sen. Jim Webb (D-Va.) raised the predictable red flag. Blackstone may own firms with sensitive national-security information, the senator maintained; therefore, the Chinese investment in Blackstone should have been delayed by regulators.
Imagine Webb's protests if the Chinese do what they say they will do: emulate one of Singapore's national wealth funds, Temasek Holdings, which buys direct stakes in foreign companies without going through a middleman such as Blackstone. Chunks of corporate America could be bought by Beijing's government -- or, for that matter, by the Kremlin. Given the Chinese and Russian tendency to treat corporations as tools of government policy, you don't have to be paranoid to ask whether these would be purely commercial holdings.
If you will recall, I recently posed the question of whether the IMF is America's lackey after the Fund announced that it will monitor "misaligned" currencies more hawkishly. Perhaps this next article from the Financial Times will convince you that the affirmative is the right answer. Echoing the US, the IMF is now voicing its concern over the governance of these SWFs...
The International Monetary Fund has joined calls for greater scrutiny of state- controlled sovereign wealth funds, which it said lacked transparency and could pose risks to financial stability.
Simon Johnson, the IMF’s chief economist, expressed concern that “increasing numbers of financial flows are going through black boxes”, such as sovereign wealth funds. “We don’t know what happens and we should worry about that.”
His comments followed last week’s public warning by the US government that the spread of sovereign wealth funds could create new risks for the international financial system.
Clay Lowery, acting under-secretary for international affairs at the US Treasury, called on the IMF and the World Bank to develop a set of best-practice guidelines for such state-owned funds, which invest excess foreign exchange reserves.
Speaking in Frankfurt on Tuesday, Mr Johnson said the IMF was still at the early stages of its investigations but that the concerns were comparable to those expressed over the rapid growth of hedge funds.
“I think that what the US is calling for is a similar debate on sovereign wealth funds,” he said.
Morgan Stanley has estimated the total assets of Chinese, Russian and Middle Eastern state-controlled funds at $2,500bn (€1,858bn, £1,252bn).
Mr Johnson said his initial impression was that sovereign funds followed conservative strategies. But the degree to which they were leveraging investments to boost returns was unclear. He argued that the best model for such funds was to save resources for future generations, especially if wealth was being generated by the sale of a country’s non-renewable natural resources...
Mr Lowery of the US Treasury had warned in the US that the size of sovereign wealth funds could “fuel financial protectionism.”
Financial market stability could be hit as “little is known about their investment policies, so that minor comment or rumours will increasingly cause volatility [in markets]”.
Keep in mind that tensions are already running high over the accumulation of reserves that enable the creation of these SWFs in the first place. In the US-China trade war, for instance, the IMF is caught in between and is accused of (with good justification, IMHO) serving as a tool for American interests. This dispute rolls on...
When two elephants fight, a senior International Monetary Fund official once told the Financial Times, the grass gets trampled.
The official was referring to the danger that the fund could get caught in the midst of a struggle between the dominant economic power – the US – and the most important rising power – China – over exchange rates and who is to blame for giant trade imbalances.
That prospect moved closer recently when the IMF board, made up of representatives of governments that are the lender’s shareholders, adopted a new mandate for international surveillance in the face of outright opposition from China. The old framework, which dated back to 1977, needed modernisation.
But there was no hiding the international political context. The US hailed the decision as a sign that the IMF was finally heeding its call to get tough on exchange rates. Hank Paulson, the Treasury secretary, said: “The reform will permit firmer surveillance in areas such as insufficiently flexible exchange rates”.
Mr Paulson, who has to date tried to deal with China largely through bilateral channels, said IMF surveillance “has the potential to be a strong complement to bilateral diplomacy”. The US vowed to press the fund to implement the new surveillance regime firmly. “The key issue is enforcement,” said Morris Goldstein, a former IMF official now at the Peterson Institute, a Washington based think-tank.
Beijing immediately pushed back. A critical statement by the People’s Bank of China, the central bank, was followed by the publication in the official press of comments by Ge Huayong, China’s representative at the IMF.
“Supervision under the new rules will put more pressure on emerging market countries especially, but will have little impact on developed countries. This is unfair,” Mr Ge said.
He said China’s stance “received support and understanding from some developing countries, but, due to the push by a tiny number of developed countries with major voting power in the IMF, the decision still passed”. This was “regrettable”.
Ha Jiming, a former IMF economist now with China International Capital Corporation, the largest domestic investment bank, said: “The new ruling has largely been influenced by the US...”
He Fan, an economist with the Chinese Academy of Social Sciences, said many officials were now worried that it would be used to put pressure on China over its exchange rate.
IMF officials insist that the new framework, which was ultimately supported by most developing countries, is not intended to target China [yeah, sure, and you can call me "Chuck Woolery"].
...the official admitted there was no escaping the fact that China presented the IMF with a unique challenge. “China is such an important country, its exchange rate policy is so important, this decision cannot not be about China,” he said. “How to make clear to the Chinese what their obligations are has been part of this whole process.”Furthermore, while the IMF will look at exchange rate and other policies, its new mandate is far more detailed on exchange rates. With more objective metrics for judging currency policy, the official said, “logically we ought to be more explicit now in terms of whether members are actually meeting their obligations”.
That would tilt the IMF – which has always straddled the twin roles of umpire and adviser to governments – towards being more of an umpire, a long-standing US demand.
Many in and around the Fund are uncomfortable with this idea. A former senior official said the IMF “lacks the ability to declare somebody out and send him off the field”. Officials fear that if China is put in the dock it will ignore the fund and develop Asian monetary arrangements to supplant it.
The former official said the IMF had to continue to approach global imbalances as a multilateral problem with many contributing factors besides China’s exchange rate – not a problem caused by it.
“I hope we do not become a battlefield between the US and China,” one of the senior officials said.
A multilateral approach to dealing with China, he argued, would not work if the IMF was seen as doing the bidding of the US. “I hope Mr Paulson understands this.”
