Sovereign Wealth Funds and the China Challenge

Efforts to get a better handle on the activities of sovereign wealth funds face a number of challenges, notably from China, according to Oxford Analytica.

“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,” OxAn says in SWFs are likely to remain opaque.

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.

OxAn says 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.

However, the foreign investment activities of China’s State Administration of Foreign Exchange (SAFE), a branch of the People’s Bank of China, are bringing an additional dimension to the global debate on SWFs:

• 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.
• SAFE has taken stakes of about 1% in some multinational companies, including BP and Total.
• According to media reports, SAFE — whose investment activities are very non-transparent — has also been investing internationally via opaque subsidiaries.

However, structurally SAFE is not a SWF, so there is a risk that the forthcoming IMF principles may not be easily applicable to it, OxAn says. 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.