The US, Abu Dhabi and Singapore Get in a Room…

Rachel Ziemba

This post is by Rachel Ziemba filling in for Brad Setser.

The move towards a voluntary code of conduct for sovereign wealth funds took on new momentum today (see the previous developments). The Treasury Department just released policy principles for sovereign wealth funds agreed to in a meeting with representatives of the governments of Abu Dhabi and Singapore and the leaders of their sovereign wealth funds.

On all sides this seems like an attempt to show that they are serious about what is at stake. The treasury likely wants to avoid protectionist responses from Congress but still attract investment when it is needed. For Abu Dhabi and Singapore, they want to show themselves as responsible actors and play some role in setting those rules. It may a fire under the IMF discussions about good practices for sovereign investment. Recent discussions in the US and EU were clearly intended to make sure that some usable outcome came out of the IMF discussions.

There’s not much too contentious in here - funds should make explicit their non-political motivations, more disclosure is good and can reduce uncertainty as is risk management. and funds should abide by the regulations where they invest.

But even these funds have made no promises about disclosure. They only agree that disclosure may build trust and aid in assessment of systemic risks. This won’t go far enough for some. 

In return, recipient countries should avoid protectionism, have proportionate responses to any national security concerns and strive to build as predictable an investment regime as possible. Furthermore, similar institutions should be treated similarly.

But it may not really change much. yet. The bigger issue is in whether sovereign funds will continue to (return to) investing or whether they might sit on the sidelines with cash for the duration.

But the devil is in the details and how it is implemented.

There’s clearly still a lot of discussion to be had both internally within govts and sovereign funds on how much to disclose. The IMF paper being discussed this week is reported to have information on the tradeoffs of different levels of disclosure, governance structures etc. Though rumors (WSJ) indicated that the IMF suggests that disclosure of currency composition might not be such a good thing - in part because the information might exacerbate fx swings. That seems strange though. such disclosure might in the short term have such effect, but further information ought to make the environment more predictable for all in the near term.

How will other funds respond? the UAE and Singapore manage the two largest funds - bar Norway which is even more transparent than any voluntary code might require. But Chinese, Russian, Kuwaiti responses will be interesting to watch. Russia already is relatively transparent -and we know something about the domestic reporting process in both China and Kuwait. Furthermore at present, we actually know a lot more about the structure of China’s assets than we do about Abu Dhabi’s. As a late joiner, China did not have the luxury of opacity. What we don’t know though is who calls the shots in investment decisions.

What is perhaps most interesting is that there is no mention of size or strategy. Those who suggested that SWFs be limited to a non-controlling stake might be disappointed. However, that is an issue for the recipient countries not the funds themselves. If funds disclosure their stakes, strategy and governance, it will be easier to assess deals on a case by case basis as existing regimes do in many countries.

The second half of the policy principles cover the investment recipients and urge a predictable, proportionate response to sovereign investment. Similarly it suggests that like-situated investors be treated fairly.

Recipient countries should respect investor decisions by being as unintrusive as possible, rather than seeking to direct SWF investment.

That probably rules out the new idea of allocating a share of the runup on oil revenues to a ’save US banks Fund’. After all it doesn’t seem exactly fair to ask for funds to be commercial and then to direct their investment. But that proposal posed a bigger issue. Why - if one wants to avoid nationalization of key financial institutions would foreign government money be the only response? Also, it requires a willingness for sovereign funds to return to financial institutions at a time when all the liabilities might be unknown.

After all, responding to the credit crunch is not just about capital - the Fed has been providing that, even if its still not reaching those who need it. its about confidence and trust in a market where many assets may still be mispriced. In the case of Bear Stearns once it was decided that the company should not fail, there needed to be a process that would keep its transactions running. And Sovereign funds are not the best placed for that. Sovereign funds are now occupied with the challenging task of figuring out where to put money in the current uncertain market.

Many of these principles might also apply to other parts of sovereign business. In fact SOEs and quasi-state companies might be even more grateful for a predictable investment review since they are even more likely to seek significant shares.

For a closer look at where oil revenues are going, check back here tomorrow.