Chrematophobia

Monday, September 29

The worsening of the global credit crunch and acute financial crisis over the last two weeks has highlighted the often-cited shift in financial clout from West to East. In particular, the realisation has firmly taken hold that mainly Asian and Middle Eastern sovereign wealth funds (SWFs) have become a potential provider of capital to the US and European financial systems. However, the extent to which they can realise this potential hinges partly on the level of protectionism they encounter from Western governments.

There have been several phases to the debate linking sovereign wealth funds and protectionism over the last 15-16 months, since the issue was seized upon by the media:

• 'Wake-up call'. The announcement in May 2007 of the planned launch of the Chinese SWF -- the China Investment Corporation -- and its purchase of 10% of the private equity fund Blackstone Group at its IPO, was the catalyst of the subsequent debate about SWFs.
• Activity and concern. During the second half of 2007 and early 2008, some SWFs made high-profile investments in major US and European companies. Amid growing unease about some SWFs' governance structures and investment objectives, US and European policymakers aired a mix of divergent points of view.  French President Nicolas Sarkozy made hawkish statements, as did many politicians in Germany.  The UK government took a more welcoming stance towards SWFs. The US Treasury was the most proactive, agreeing a set of investment principles with two of the largest SWFs.
• 'Wait and see'. Since early 2008, a 'wait and see' approach has been adopted by both governments and some of the SWFs themselves. Many Western governments seem to have concluded that the legislative frameworks they already had in place will be sufficient for monitoring and, if necessary, rejecting SWF investments. Meanwhile, many SWFs appear to have been waiting both for financial markets to stabilise and for clarity about Western governments' responses to SWFs, before seeking more high-profile, substantial stakes.  This phase may partly culminate with the release of the set of voluntary principles that have been drafted by the IMF, which will be presented at the IMF/World Bank Annual Meetings in Washington on October 6-13.

SAFE activity. In recent months, the foreign investment activities of China's State Administration of Foreign Exchange (SAFE), a branch of the People's Bank of China, have come to light. This is bringing an additional dimension to the global debate on SWFs:

• Potential resources. Potentially, SAFE may have access to a significant part of China's approximate 1.8 trillion dollars of foreign exchange reserves to invest in equities. It has been suggested that SAFE's equity investments abroad may already amount to close to 100 billion dollars.
• Stakes taken. SAFE has taken stakes of about 1% in some multinational companies, including BP and Total.
• Hidden investments. According to media reports, SAFE -- whose investment activities are very non-transparent -- has also been investing internationally via opaque subsidiaries.

Principles' impact. However, structurally SAFE is not a SWF, so there is a risk that the forthcoming IMF principles may not be easily applicable to it. If they are not, this will clearly diminish the principles' overall ability to catalyse change. This will also demonstrate to other SWF-owning governments that pressure for adherence to the principles can be avoided by channelling investments through vehicles other than SWFs.  Even if the IMF principles are applicable to non-SWF investment vehicles, the cultural and operational changes required for SAFE to become adherent to the principles are likely to be so significant that such changes would, at best, take a long time.