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Socialism Today 120 - July/August 2008

Sovereign wealth funds… state-sponsored rescues…

Neo-liberal era breaking down

‘They don’t like us but they want our money’, says the head of Norway’s sovereign wealth fund. Cap in hand, cash-strapped US and European banks have been pleading for capital infusions. State-sponsored sovereign wealth funds have recently invested $60 billion in shaky banks, as well as buying property and taking over companies. This has provoked an anguished debate among big-business strategists: are they indispensable saviours or a threat to western capitalism? LYNN WALSH reports.

THE CHRYSLER BUILDING on 42nd Street, with its magnificent stainless steel spire, is one of New York’s most iconic buildings. The sovereign wealth fund of Abu Dhabi has recently been negotiating to buy a 90% stake in the building for $800 million. At the same time, Qatar’s sovereign fund and Singapore’s Temasek Holdings are considering injecting $400 billion into Barclay’s Bank to reinforce its eroded capital base. These are just two examples of increased investment activity by sovereign wealth funds in the US and Europe.

Their high profile intervention has provoked an anguished debate among capitalist policymakers. Does it represent a welcome rescue of western economies shaken to the core by the subprime crisis and the ensuing credit crunch? Or is it an invasion by potentially hostile forces that may threaten the foundations of western capitalism?

In the latter part of 2007, major investment banks like UBS, Citigroup, Morgan Stanley and Merrill Lynch turned towards the sovereign wealth funds, cap in hand, pleading for funds to save them from bankruptcy. Since then, sovereign funds have poured over $60 billion into US and European banks, and no doubt there will be more. They have also bought substantial stakes in private equity companies such as Carlyle and Blackstone. Sovereign wealth funds have purchased an estimated $85 billion of US equities since the beginning of 2007, as well as taking big stakes in both the London Stock Exchange and Sweden’s OMX exchange.

There is no doubt that, alongside the US Federal Reserve, sovereign wealth funds have played a major role in preventing – at least so far – a collapse of the global financial system. The relief at being rescued by sovereign funds, at least in financial circles, contrasts with the hostile attitude of US big business previously displayed towards them.

In 2005, for instance, a move by one of China’s state oil companies, CNOOC, to buy a small US oil company, Unocal, was blocked by the US Congress, even though Unocal was a relatively small company mainly operating in east Asia. The takeover by Dubai Ports World (DPW) of an international corporation that included six US ports provoked a furore in the US. Even though the Dubai regime is a loyal ally of US imperialism, Arab ownership of several major US ports was seen as a threat to US national security. As a result, DPW was forced to resell the US ports (probably at a loss).

Investors of last resort?

BUT THINGS HAVE changed now. Since the onset of the credit crunch, sections of finance capital have come to see the sovereign wealth funds as "indispensible investors of last resort".

One investment banker, Peter Weinberg, comments: "After the Fed’s provision of support to JP Morgan Chase in the Bear Stearns situation, sovereign wealth funds may well have been the next most critical player in having helped avoid a worldwide market crisis". They have a ‘longer investment horizon’ than most banks and hedge funds (more and more driven by short-term profit). Moreover, they tend to invest their own cash rather than rely on massive ‘leverage’ – ie debt borrowed from short-term money markets (which have now dried up). Contrary to those who argue that sovereign funds should remain purely passive investors, Weinberg argues that the they should be represented on the boards of companies in which they invest. He sees American and European aversion to sovereign wealth funds as "a troubling movement… that threatens to set back globalisation…"

"Corporate leaders, market participants and politicians should resist the temptation to adopt a bunker mentality just because the security, financial and political systems are stressed. It is because of these stresses that we need them". (Sovereign Funds Offer a Wealth of Benefits to the West, Financial Times, 23 May 2008)

Another speculator, Stephen Schwarzman, the chief executive of Blackstone private equity company (in which China Investment Corporation bought a 9.4% stake last year), decries the mounting political opposition to sovereign wealth fund investments. "It is difficult to think how much worse off we would be in the current financial crisis without sovereign wealth funds… Using sovereign wealth funds to recycle the holdings of countries with large surpluses in the west, which needs the capital, rather than keeping that money at home, is a huge benefit to us all". (Reject Sovereign Wealth Funds at Your Peril, Financial Times, 19 June 2008)

Schwarzman warns that "the US is the world’s largest debtor nation and we are now in an uneasy relationship with our creditors". In other words, US capitalism depends on the surplus countries’ economies to invest in the US, both in government bonds to finance US government debt and in the economy generally. The sovereign wealth funds, he warns, "have other options", and will invest elsewhere if they are not made welcome in the US. He raises the spectre of the surplus countries, especially China, selling their dollars, US government bonds, and other dollar-denominated financial assets, which would mean a slump in the value of the dollar and an inevitable downturn in the US economy.

Investment protectionism?

NOT ALL SECTIONS of big business, however, share this open-armed approach to the sovereign wealth funds. One financial journalist summed up the mixed feelings of some bankers: "Do we want the communists [China?] to own the banks or the terrorists [Abu Dhabi, Qatar?]? I’ll take any of it, I guess, because we’re so desperate". (Jim Cramer, CNBC Finance News Network, New York Times, 20 January 2008) The head of Norway’s sovereign wealth fund (second only to Abu Dhabi’s, with $322 billion of assets) said: "They don’t like us but they want our money".

Last year, the US Congress strengthened the powers of the Committee on Foreign Investment in the US (CFIUS), the body that blocked sovereign wealth funds from buying six US ports and the oil company, Unocal.

Big-business politicians in the US, reflecting protectionist pressures, have called for greater ‘transparency’ and ‘responsibility’ on the part of sovereign wealth funds. This is a call for stricter government regulation of sovereign fund investment, in reality, for restrictions on their active involvement in private-sector companies. Many US politicians reflect the widespread hostility to sovereign wealth fund investment in the US. "Public Strategies, a research and consulting firm, said in February that 55% of all Americans… think that investment by foreign governments harms US national interests". (Financial Times, 23 May 2008) No doubt, this reflects in part the hostility to Arab regimes and general Islamophobia whipped up by the Bush regime since 9/11. But more deeply, it reflects the dire effects on workers – job losses, wage cuts, and eroded living standards – resulting from globalisation, ultra-free market policies, and the stripping away of all restraints on finance capital.

‘Responsibility’ is really a coded demand that sovereign wealth funds should not take an active part in the management of companies in which they buy assets, a position they are hardly likely to be satisfied with in the future. Many of the leaders of US capitalism fear that the sovereign funds may increasingly switch from purely financial aims to political or strategic goals, or from being passive investors to active involvement in company policymaking.

Writing recently in the journal, Foreign Affairs (Jan/Feb 2008), under the title, Public Footprints in Private Markets, a deputy secretary to the US Treasury, Robert Kimmitt, voiced the fears of sections of the US ruling class. He disavowed any support for investment protectionism. National security grounds were, he claimed, the main justification for increased scrutiny of sovereign wealth fund investment. At the same time, however, "There are also non-national-security issues associated with the potential increase in foreign public ownership of private firms. First, the US economy is built on the belief that private firms allocate capital more efficiently than governments. Second, foreign governments could conceivably employ large pools of capital in non-commercially driven ways that are politically sensitive even if they do not have a direct impact on national security. Examples would include investment decisions made to promote a given foreign or social policy. Third, there is the potential for perceived or actual unfair competitive advantages relative to the private sector. For instance, a government could use its intelligence or security services to gather information that is not available to a commercial investor. With a sovereign guarantee, a sovereign wealth fund could also obtain or extend financing (if needed) at interest rates that a commercial investor could not. It is also possible for a sovereign wealth fund to take an indirect approach by channeling foreign exchange through domestic state-owned enterprises, which in turn invest abroad". (pp123-124)

While opposing investment protectionism, Kimmitt nevertheless provides plenty of ammunition for those who advocate more restrictions on the role of sovereign wealth funds in the US. He also raises (without answering) an important underlying question: Is "sovereign wealth fund asset accumulation… appropriate in the first place?… the underlying macroeconomic policies creating resources for sovereign wealth funds should be under constant review to see that they, too, remain appropriate, both for the countries with sovereign wealth funds and the international financial system".

Isn’t it a bit late for Kimmitt to be questioning the legitimacy of "sovereign wealth fund asset accumulation"? The massive current account surpluses that fuel the sovereign wealth funds are the counterpart of US imperialism’s massive current account deficit, currently an unsustainable 7% of GDP. This is the product of the US’s debt-driven growth, the driving force of the unbalanced global growth that is now encountering serious limits. A ‘review’ is already underway, not simply a forced reassessment of government policy but the beginning of a painful correction dictated by events. In the US, the severe credit crunch is already braking debt-driven growth, with the development of a recession which will force a reduction of US domestic and external deficits. Later, the slowdown of world growth will lead to a fall in oil, gas and other commodity prices, reducing the surpluses of the exporting countries. Many of the regimes that now rely on oil revenues for their stability will face a period of social and political crisis.

The end of an era

THE GROWING INTERVENTION of sovereign wealth funds in western economies and the debate over their role indicate the growing contradictions within world capitalism in a period of deepening crisis. There will inevitably be conflict between the west and the surplus countries sponsoring sovereign wealth funds, which have diverging economic and strategic interests. The massive surpluses of the oil producers and Asian exporters such as China are a symptom of the unbalanced growth of the past period. The phase of accelerated globalisation that developed after the mid-1990s is breaking down under its own internal contradictions. As a result of the subprime crisis and the credit crunch, there is now the beginning of a reversal of the ultra-free market trends that were unleashed over the last two decades.

Since the 1980s, privatisation has been the ideological talisman of the bourgeoisie. Now it has been forced to turn to sovereign wealth funds, effectively state-run institutions, to rescue the crippled finance system. In Britain, the Labour government was reluctantly forced to nationalise the bankrupt Northern Rock building society. In the US, the Federal Reserve paid JP Morgan $30 billion in order to rescue Bear Stearns, in effect, a backdoor state-sponsored rescue. As a result of a series of business scandals and frauds, there is massive pressure in the US, Europe and elsewhere for a return to regulation, a curbing of the free-market fundamentalism of the predatory finance sector.

Fearful of the political backlash from the subprime crisis, which has devastated many thousands of working-class families, Bush was compelled to sponsor a $150 billion stimulus package, a return to Keynesian measures – however limited – a heresy for neo-liberals.

The crisis that erupted in 2007 marks the end of an era. The economic relations underlying the period of accelerated globalisation are unravelling, and the economic policy tools of bourgeois leaders are becoming increasingly ineffective.

This is demonstrated by their contradictory position on sovereign wealth funds. Take French president, Nicolas Sarkozy, for example. On a visit to Saudi Arabia in January, he said: "France will always be open to sovereign funds whose intentions are unambiguous, whose governance is transparent, and who offer reciprocal treatment to foreign capital". To a French audience at home, he said: "France would not remain passive in the face of rising hedge funds and sovereign wealth funds whose strategy has no economic rationale". (Quoted by Ibrahim Warde, Sovereign Wealth Funds to the Rescue: Saviours, Predators, or Dupes? Le Monde Diplomatique, English Ed, May 2008)

The rise of sovereign wealth funds

SOVEREIGN WEALTH Fund is a recent term that has come to the fore in the last few years as sovereign wealth funds have increased their assets and begun to multiply. State-owned capital funds, however, have existed since the 1950s. Early examples included the Kuwait International Oil Board (1953), set up to invest surplus oil revenue on behalf of the Kuwaiti ruling class (now with $250 billion assets), and the Government of Singapore Investment Corporation and the Singapore Temasek Holdings, which use foreign exchange (FX) earnings to bolster the city state as a global financial centre.

Sovereign wealth funds are investment funds under the broad control of governments, but usually outside the official government finance apparatus. Their assets are derived from FX assets (and managed separately from official currency reserves), revenues from oil and other commodities, or from a combination of both. Assets are usually invested in the private sector overseas to secure a higher rate of return than from government bonds.

There are now over 40 funds, the top ‘Super Seven’ managing assets of over $100 billion each. Twelve new sovereign wealth funds have started since 2005.

Sovereign wealth funds have proliferated because of the growth of FX reserves and oil revenues in some exporting countries. After the 1997-98 east Asian currency crisis, some governments (including China, which was not seriously affected by the 1997 turmoil) decided that they would accumulate much bigger reserves to guard against any future runs on their currencies. Now they have FX reserves far in excess of any likely requirements relating to managing their external balances and currencies (though large surpluses reflect an inability or unwillingness to develop their domestic economies). They have therefore transferred them into sovereign wealth funds.

At the same time, the growing demand for oil and the surge in oil prices have increased the income of Middle East and other oil producers. Faced with low interest rates, and a reduced return on US government bonds (accentuated by the decline in the dollar), they have increasingly put their surplus reserves into investment funds for long-term private-sector investment abroad. Apart from government bonds, sovereign wealth funds have been buying company shares, derivatives (financial instruments of various kinds), property, and whole companies. While FX reserves have to be held in liquid assets that can rapidly be drawn on, sovereign wealth funds aim at long-term investment.

The City think-tank, IFSL (International Financial Services London) estimates that SWF assets increased 18% in 2007 to reach $3.3 trillion. (Sovereign Wealth Funds 2008, Most of this growth came from an increase in FX reserves in some Asian countries and rising revenues from oil exports, particularly from Middle Eastern producers.

Apart from sovereign wealth funds, there are other sovereign investment vehicles, such as pension reserve funds, development funds and state-owned corporations. The IFSL estimates that these now hold $6.1 trillion. At the same time, official FX reserves not held by other investment vehicles amount to $5.3 trillion.

The IFSL estimates that sovereign wealth funds will increase to $5 trillion in 2010 and to over $10 trillion in 2015. "Around 45% of sovereign wealth funds came from oil rich countries in the Middle East at the end of 2007. Asia followed with over a quarter of the total with most funds there originating from excess foreign exchange reserves. Europe, predominantly Norway, accounted for most of the remaining funds". (IFSL Research)

Sovereign wealth funds have bigger assets than hedge funds and private equity companies combined, but are still small compared with the estimated $75 trillion assets held by institutional investors, that is, pension funds, mutual funds and insurance companies. (John Willman, Financial Times, 31 March 2008) However, their more active investment in the advanced capitalist countries, especially in the financial sector and property, has brought increased scrutiny.

In the past, sovereign wealth funds were mainly ‘passive’ investors, quietly buying shares in big corporations and property without getting involved in management. However, as sovereign wealth funds are investing more, there are fears among western leaders that they will become more active, demanding seats on boards of directors. Cross-border takeover deals by sovereign wealth funds totalled $49 billion in 2007, a 165% increase from 2006, when the total was $19 billion. In the first three months of 2008, another $24 billion has already been invested in takeovers. Alarm bells are ringing through the corridors of power.


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