The “Generally Accepted Principles and Practices” for SWFs are quite clear in their description of appropriate SWF investment behaviors; they say that SWFs should maximize risk-adjusted financial returns based on economic and financial grounds. Specifically, they say SWFs should…
“…pursue investment decisions and investment operations free of political influence…” and “…publication of the GAPP should help improve understanding of SWFs as economically and financially oriented entities in both the home and recipient countries.”
You all know this story. And, you probably also know that it was Western fears about politically motivated SWF investments that drove the international community to (attempt to) de-politicize what is inherently a political and governmental entity (i.e., to make SWFs something they are not). Fair enough. It was that or face protectionism.
But setting the bar for de-politicization this high actually raises a pretty big question for resource-poor countries with large and growing stockpiles of foreign exchange reserves (i.e., Asian countries): should governments ignore the intent of the GAPP and use their SWFs to further national welfare and bolster energy security? Or should they stick to the GAPP and focus only on financial objectives. Not surprisingly, some countries are thinking about doing both.
Over the past year, India and Japan have talked candidly about using a SWF to advance strategic national interests in the energy space. In addition, the CIO of Korea’s SWF has made reference to his fund’s strategic objectives:
“KIC is planning strategic investments based on a so-called barbel approach, investing in areas where there’s a ‘structural deficit’ in Korea’s economy such as natural resources, as well as industries that may have synergies in areas such as clean technology.”
And, yesterday, we learned that the China Investment Corporation is increasing its presence in Canada to bolster its investments in natural resources, in particular in Alberta. Moreover, I just came across an interesting paper by You Miao and Han Liyan of Beijing’s Beihang University entitled, “Sovereign Wealth Funds in China: The Perspective of National Energy Strategy.” The authors argue that a strategically oriented SWF can dramatically increase national welfare. Now, that’s pretty interesting, but, for me, the most interesting thing about this paper is to see the Chinese government funding research that attempts to quantify and legitimate strategically oriented SWF investments. Now that’s interesting.
So, what does all this mean? It means that, despite what the GAPP says, some SWFs may in fact be investing for the benefit of the nation state as well as for the benefit of the fund. Should we be surprised by this? Probably not. After all, even the US government has allocated considerable resources to the issue of energy security, building the strategic petroleum reserve (which is the single largest emergency supply of oil in the world and is valued at over $100 billion).
What will the reaction be in investment receiving countries? Apparently, in some quarters, this isn’t news at all. In fact, Alberta’s Energy Minister is well aware of the potentially strategic motivations of the Chinese SWF’s investments in his domain. He said yesterday,
“You’ll continue to see them strategically invest in minority stakes in companies in order to have some skin in the game…to learn and, in their mind, provide them with some long-term security.”
Interestingly, a strategic SWF in his backyard doesn’t seem to bother him. Why not? As I said back in January, these strategic investments may serve the interests of the target country more than the investing country. After all, a politically motivated SWF will ascribe a higher value to an investment than it might otherwise do if it was using only cash flows for the valuation. It will be interesting to see how other policymakers and indeed countries react if SWFs continue to follow more strategic paths.
This post originally appeared on the Oxford SWF Project website.