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Sovereign Economic Development Funds ….

by Brad Setser
May 12, 2008

Sovereign funds argue that they are only interested in financial returns.

And to be sure, they do care about financial returns. Losing money generally isn’t good for a sovereign fund’s long-term health. But many are also expected to at least try to invest in ways that contribute to the economic development of their home country. This is often quite explicitly part of the fund’s mandate. Qatar’s investment fund indicates that its investment criteria include “economic synergies or benefits for Qatar and its people.”

Gerald Lyons of Standard Chartered has recognized that sovereign investments are sometimes motivated by concerns that go a bit beyond risk-adjusted return. Stephen Foley reported a while back:

Gerard Lyons, chief economist at Standard Chartered bank and a leading expert on SWFs, said in a recent panel discussion in Washington that funds’ behavior is likely to be a mixture of commercial consideration and “state capitalism”, where investments are likely to reinforce particular government goals, such as spurring the development of natural resources in Africa – already a key area of Chinese government investment.

Finding investments with positive spillovers and synergies is often hard — see Reuter’s Alan Wheatley for an excellent discussion of the constraints sovereign funds face. The most obvious way to promote domestic economic development would be to invest at home rather than to invest abroad. But if a fund exists to manage surplus foreign exchange accumulated to resist pressure for appreciation, it has to invest abroad.

Or at least appear to invest abroad. An investment abroad that triggers a reciprocal domestic investment doesn’t produce a net outflow.

Examples of investments that seemed geared toward promoting the home country’s own economic development are not hard to find.

Mubadala’s investment in Ferrari likely contributed to Ferrari’s decision to build a theme part in Abu Dhabi.

Dubai’s interest in the NASDAQ stemmed from its desire to cement its position as a regional financial center.

Dubai now seems to intend to use its sovereign fund – DIC – to raise the profile of the Dubai International Financial Center. DIFC has had trouble attracting listings. No problem. Firms that the DIC invests in will be encouraged to list on the DIFC. Roula Kalaf in the FT, last week:

DIC is putting $500m into the $1bn fund, set up with Hong Kong-based First Eastern Investment Group, and designed to invest in small and medium-sized companies with the hope of bringing some of them public on the Dubai International Financial Exchange.

While expressing his disappointment with the performance of the DIFX to date – it still has few companies trading and one expected initial public offering was pulled last week – Mr Ansari insisted that the exchange was headed for “revolutionary change” once its tie-up with Nasdaq is implemented.

The new Saudi fund — which thinks of itself as an investment fund rather than wealth fund — also seems to have a mandate that is focused as much on domestic economic development rather than increasing the returns on the Saudis investment abroad. The Saudi finance minister, quoted in Reuters:

“The focus at the beginning may be on the technology sectors, especially in the fields that could attract technology to the kingdom in alliance with global companies,” Ibrahim al-Assaf told Al Arabiya television. The focus would be on investments inside the world’s largest oil exporter, where opportunities abound, Assaf said, adding foreign investment was not ruled out.

Countries have long required that companies wanting to do business with their government show their bona fides by buying locally made parts. Airline orders are an example. Seeking to use the state’s buying power to spur economic development isn’t new.

However, the scale of the funds now at the disposal of many emerging market governments is something that is new. The Gulf’s city-states efforts to use their foreign investments to bolster their efforts to transform themselves into regional financial centers hardly seem to threaten US or European interests – or jobs. Europe, though, has been far more worried by the purchases of a stake in EADS by a Russia’s state bank. And it does seem — based on the Wall Street Journal’s reporting — that Russia’s government hoped that VTB’s stake in EADS would prompt EADS to do more to support Russia’s aerospace industry. MORE FOLLOWS

Gregory White, Bob Davis and Marcus Walker of the Wall Street Journal:

Russian state-controlled bank OAO Bank VTB, where Mr. Kudrin is chairman of the board, revealed in September 2006 that it had accumulated a 5% stake in aerospace giant European Aeronautic Defence & Space Co., which owns airplane maker Airbus.

VTB executives said they were investing simply to make money, but senior government officials made clear broader Kremlin goals were also at play. Days after the bank’s stake became public, Mr. Putin’s top foreign-policy adviser, Sergei Prikhodko, said Russia might raise its stake to over 25% — enough to block major decisions. If it were armed with such a bargaining chip, Russia could then push for cooperation between EADS and Russia’s ailing aerospace industry, Mr. Prikhodko said.

This bear hug went too far for France and Germany, the countries with the biggest ownership stakes in EADS. Paris and Berlin see EADS as a sensitive strategic company, not least because it supplies military technology, including the ballistic missiles for France’s nuclear submarines. Falling partly under Moscow’s sway would threaten EADS’s cherished aim of winning more business in the U.S., the world’s largest defense market.

At a meeting in France with Mr. Putin in late September 2006, French President Jacques Chirac and German Chancellor Angela Merkel told him they didn’t want another partner for their prized aerospace company. They said EADS’s inner circle of controlling shareholders, which include the French government and Germany’s Daimler AG, wouldn’t allow anyone else in.

France and Germany didn’t object to foreign governments making purely financial investments in EADS. In 2007, the government of Dubai would buy a 3% stake in EADS, arousing no major fears. But the Kremlin, many West European officials believed, might use its investments to strong-arm its partners.

Kremlin officials sought to ease the controversy during a private dinner with German business leaders at Berlin’s luxurious Hotel Adlon early last year. Russian presidential aide Igor Shuvalov said the purchase had been a gesture of support for the Franco-German company, and he was surprised at the ferocity of the response, participants say. But he only deepened suspicions of Moscow’s motives when he added that Russia might dump its stake if EADS wasn’t more forthcoming about cooperation projects with Russia’s aerospace industry.

Concerns about Chinese investment in Australia’s resource sector are also mounting, in part because many in Australia are still trying to figure out Chinalco’s motives for buying into Rio.

Despite briefings by chairman Xiao Yaqing in Britain and Australia, we still don’t know why Chinalco borrowed so much for the venture. To earn a fat profit by realising its holding as BHP is forced to up its bid? To reap increased earnings by backing negotiations for a higher price for the ore Rio sells? To please China Inc by blocking the BHP bid for Rio, and to slash the price for Rio’s ore? Simply to make BHP’s bid harder?

While some investment moves are transparently obvious, similar questions may be asked of other would-be deals in the sector. Oddly, despite China’s reputation for being a long-term player, its business sector sometimes suffers from the reverse, rushing to meet politically driven short-term timetables.

And I wonder how various African and Latin countries will respond to China’s reported plans to secure its supply of agricultural imports by investing abroad.

It sounds though like China — or at least is China’s agricultural ministry– wants its own sovereign agricultural development fund. The state soybean fund? I suspect most parts of China’s bureaucracy have their own idea for how to make better use of China’s external assets …

36 Comments

  • Posted by Rachel

    What do you think about the new Chinese attempt to build airplanes? http://www.ft.com/cms/s/0/78959cea-1f76-11dd-9216-000077b07658.html<br><br><br><br>Seems like it could be another example of "rushing to meet politically driven short-term timetables." <br><br>

  • Posted by Guest

    in (political) theory, and i’m sure this is something that CFR has researched — or they should consult moldbug — the nation, except for vestigial expedience, probably doesn’t make the most sense as a unit of political organisation anymore; e.g. back in the last era of globalisation, the east (and west) india company provided alternative templates that cut across previous (arbitrary) ways to carve out political identities…

    altho nominally the commercial arms of the dutch/british empires and, thus considered, instruments of "state capitalism" and, not to mention, colonialism, one starts to see parallels with more non-territorial, per se, modes of cultural (re)production and preservation, say, like catholicism…

    this is a roundabout way of framing what the goals of SWFs might be to accomplish, but i think helps to illustrate the post-modern state (literally) that the world (and finance) finds itself in…

    when you have the EU superstate, or where the "top 250 companies in the world have sales equal to about a third of global GDP,"* harvard is an investment bank,** and non-state actors threaten world civilisation as-we-know-it,*** you kinda have to wonder…

    what if, hypothetically speaking, everyone — and i mean everyone (harvard, the world bank, calpers, china’s SS fund, etc.) — gave all their money to PIMCO to manage; they seem like a bunch of wise, experienced men (and women) who seem to know what’s what and How Things Work… why not let them manage it all?

    what’s wrong with this thought exercise? does not PIMCO have everyone’s best interests at heart as their ‘clients’? are they beholden to allianz? or are they just using you for their own personal enrichment or other nefarious purposes? maybe it is just not prudent to put all your eggs in one basket? they may have a pretty good track record but perhaps you know someone else with an investment philosophy closer to your own that could potentially provide better returns, but of course you wouldn’t know for sure…

    so you split it up, you have such a large capital surplus — http://bigpicture.typepad.com/comments/2008/05/cognitive-surpl.html — more than you know what to do with: "Because if people knew what to do with a surplus with reference to the existing social institutions, then it wouldn’t be a surplus, would it? It’s precisely when no one has any idea how to deploy something that people have to start experimenting with it, in order for the surplus to get integrated, and the course of that integration can transform society.

    "The early phase for taking advantage of this [capital] surplus, the phase I think we’re still in, is all special cases. The physics of participation is much more like the physics of weather than it is like the physics of gravity. We know all the forces that combine to make these kinds of things work: there’s an interesting [VC] community over here, there’s an interesting [hedge fund] over there, those people are collaborating on [private equity]. But despite knowing the inputs, we can’t predict the outputs yet because there’s so much complexity.

    "The way you explore complex ecosystems is you just try lots and lots and lots of things, and you hope that everybody who fails fails informatively so that you can at least find a skull on a pikestaff near where you’re going. That’s the phase we’re in now…

    "Here’s something four-year-olds know: [An asset] that’s targeted at you but doesn’t include you may not be worth sitting still for. Those are things that make me believe that this is a one-way change…

    "We’re going to look at every place that [an investor] or [an institution] or a [fund] or [an account] has been locked out, has been served up passive or a fixed or a canned experience, and ask ourselves, ‘If we carve out a little bit of the [capital] surplus and deploy it here, could we make a good thing happen?’ And I’m betting the answer is yes."

    sorry, i know that was a bit canned itself, but i thought worth the juxtaposition, which if you find the parallels striking like i do, would mean that reserves are sort of the equivalent of a capital heat sink: "dissipating [savings] that might otherwise have built up and caused society to overheat.

    "And it’s only now, as we’re waking up from that collective bender, that we’re starting to see the [capital] surplus as an asset rather than as a crisis. We’re seeing things being designed to take advantage of that surplus, to deploy it in ways more engaging than just having [it parked in sovereign debt and agency bonds]."

    so, not to completely plagiarise shirky, both cognitive and capital surpluses are seeking new ways to mobilise ‘human capital’ more effectively, sustainably and, perhaps most importantly, meaningfully — to attract the best and the brightest; if anyone can figure out a way to utilise these resources to that purpose, well, we’d be all ears :P

    cheers!

    * http://www.washingtonpost.com/wp-dyn/content/article/2008/05/02/AR2008050203311.html

    ** http://www.portfolio.com/views/blogs/market-movers/2008/05/12/why-do-universities-have-tax-exempt-endowments

    *** http://www.ted.com/talks/view/id/68

  • Posted by Twofish

    I think it’s a bad idea to try to lump all SWF’s together and assume that they have similar goals and investment strategies. There’s no particular reason to think that Dubai is going to follow the same investment strategy as CIC, and there isn’t any particular reason to think that CIC is going to follow the same investment strategy as another Chinese fund.

    Also focusing on sovereign wealth funds, misses that likelihood that most Chinese investment in the US is likely to be outside the SWF’s. Even the investment that Chalco made in BHP seems to only be very tangental to CIC.

    setser: Despite briefings by chairman Xiao Yaqing in Britain and Australia, we still don’t know why Chinalco borrowed so much for the venture.

    Who’s we? It seems perfectly obvious to me that Xiao Yaqing is borrowing a lot of money because he thinks he can make more money.

    There does seem to be this odd bias in which state owned enterprises are subject to much higher levels of scrutiny than privately owned enterprises for no good reason that I can see. Somehow Chalco’s motives are more suspect than Alcoa’s, and I think a lot of this involves some assumptions that private companies are "purer" than state-owned ones, and I don’t see any reason why that should be the case in this particular transaction.

  • Posted by Twofish

    Also the description in the Australian on how SOE’s work is wrong. The Central Government SASAC acts as the body that actually exercises the shareholding power on behalf of the central government. Each province and municipality also has there own SASAC. SASAC and the Ministry of Finance don’t cooperate to fund SOE’s, and in fact the structure is designed so that they don’t do this.

    In the case of Chalco, about one third is owned by the state holding company which is ultimately owned by SASAC. About one third is owned by various banks which are ultimately owned by CIC. And about one third is owned by various private groups on the HK stock exchange. Alcoa being one of them until it sold its shares earlier this year. There are also major holdings by various provincial government.

    The net result of this is that ownership power is distributed among various institutions, and when ownership power is distributed that means that management power becomes quite important.

    You could point out that ultimate control of Chalco goes up to the State Council and the Communist Party. However, neither the State Council nor the Communist Party have enough bureaucrats to run Chalco much less all of the other SOE’s, so what ends up happening is that they try not to intervene except in situations where you have a major state interest, and the State Council and Communist Party is just another institutional player in the mix. (Should one point out that the Communist Party has various departments, each with their own institutional interests.)

  • Posted by Jimbo

    As Jesse Unruh said, Money is the mother’s milk of politics. Of course the heads of states are going to want to interfere in the investment decisions of SWF’s.

    In the US, we have politicians advocating that in our pension funds, non-financial factors should matter in investment decisions too.

    http://www.latimes.com/news/opinion/commentary/la-oe-candaele5-2008may05,0,4061119.story?track=rss

    But there is a very functional restraint on this behavior, when investment decisions get too politicised returns often falter. This is why state pensions are still largely administered by professional fund managers.

    But it takes a while for governments to figure out how much meddling they can safely do in investment decisions. Investing small amounts in South Central LA, won’t bankrupt Calpers and so that type of meddling occurs, but large scale meddling does not occur. Calpers isn’t divesting from China even though many members of the state legislature condemn China’s human rights record. It isn’t that California lacks the desire to meddle further, but if Calpers doesn’t have enough money to pay pension checks, then either taxes go up or benefits are cut. Its the lack of return on investments that curbs these abuses.

    With Russia, the state doesn’t have the track record having these types of funds to develop the type of institutional memory that allows a politician to figure out how much meddling he can get away with and how much is too much for the fund.

    China’s investment in Blackstone had a big influence on China’s failure to invest in Citibank. The sovereign wealth funds care deeply about returns. If you can get an adequate return on capital and can serve a political objective so much the better. But there is a very limited supply of those types of investments. Then the choice is weather you investment fund is going to persue returns or invest Hugo Chavez style. Most countries can’t afford to get poor returns on capital for too long. If the SWF’s are having too many quarters with poor returns, then the management will be replaced with investment professionals.

  • Posted by Anonymous

    Speaking of private dinners, this is only a lunch but: "Federal Reserve Chairman Ben S. Bernanke lunched on March 11 with a Who’s Who of Wall Street leaders, including JPMorgan Chase & Co.’s Jamie Dimon, three days before the central bank rescued Bear Stearns Cos. from bankruptcy. Other guests included Goldman Sachs Group Inc. Chief Executive Lloyd Blankfein, Lehman Brothers Holdings Inc. CEO Richard Fuld, Morgan Stanley President James Gorman, Citigroup Inc.’s Robert Rubin, Blackstone Group CEO Stephen Schwarzman and Merrill Lynch & Co. CEO John Thain. Alan Schwartz, the CEO of Bear Stearns, was not listed among the attendees… Bernanke also briefed Republican presidential candidate John McCain on the Bear Stearns episode over the phone…" http://www.bloomberg.com/apps/news?pid=20601109&sid=a_OXZPHcMwlA&refer=home

  • Posted by Anonymous

    May 13, 2008, NEW YORK & HONG KONG – "The Blackstone Group (NYSE: BX) today announced that Aaron Nieman will be launching Blackstone Altius Advisors, a new event-driven strategy focusing on opportunities in the Asia Pacific region… Antony Leung, Chairman, Blackstone Greater China, added, “As Blackstone continues to aggressively seek opportunities within Asia, Aaron and his team will provide additional investment capability that will bolster our presence in the region.”… The Blackstone Group L.P. is a leading ["global"] alternative asset manager…" http://www.businesswire.com/portal/site/home/news/sections/?ndmViewId=news_view&newsLang=en&newsId=20080512006607

  • Posted by bsetser

    comments please, not quotes from links. thanks.

  • Posted by Twofish

    I’d be more alarmed if the chairman of the Fed wasn’t constantly talking with the heads of the banks on a regular basis.

  • Posted by Anonymous

    might u.s. officials also be working on ways to make better use of america’s external assets in russia – if the following may be an appropriately helpful (for what greater purpose i dare not ask), albeit shorter response to your wsj article quote and live subscriber link? (tho anyone who can google would find the free link and full article at :http://online.wsj.com/article/SB121012176574672563.html?mod=googlenews_wsj )

    "…The deal, signed on President Vladimir Putin’s last full day in office, establishes the legal basis for Russian and U.S. companies to trade in nuclear materials. It could also give the United States access to Russian technology and hand Russia lucrative contracts to store spent nuclear fuel… Russian and U.S. officials lauded the agreement, signed in Moscow by U.S. Ambassador William Burns and Sergei Kiriyenko, head of the state-run nuclear corporation Rosatom. "The United States and Russia were once nuclear rivals," Burns said after the signing ceremony… "Now we are partners."…It was no coincidence that the deal was signed before President-elect Dmitry Medvedev is sworn in as president… "The two sides did not want to… leave it for another administration,"… The agreement could help Russia establish a uranium-enrichment center, which Putin has said would discourage Iran and other countries from building nuclear facilities. The pact could allow the import of spent nuclear fuel from the United States, which controls a majority of such fuel in the world. The proposal to build the uranium enrichment center has outraged Russian environmentalists." http://www.moscowtimes.ru/article/1010/42/362561.htm

  • Posted by bsetser

    How exactly does US-russian nuclear cooperation relate to whether or not sovereign funds are interested in using their external investment portfolios to support national economic development plans/ basically be used as a tool of industrial policy?

    I am interested in more reactions to 2fish’s points — that SWFs are diverse and that SOEs shouldn’t be subject to higher scrutiny than private firms.

    I don’t think the last point holds. see the WSJ story about russian state firms — which are often used as appendages of the state/ to secure state objectives. gazprom finances russian campaigns for example, and squeezed russia’s neighbours. VTB’s interest in EASDS seems linked to industrial policy goals. and chinese soes have a record of being used as policy tools, at least some of the time. SOEs are used for example by both china and india to keep gas/ oil prices below world market levels.

    I also don’t know that it will work to have separate funds with separate styles and motives. the UaE is trying this, with mubadala doing "abu dhabi economic development + some big stakes) and adia the more classic portfolio manager. but somehow i suspect that mubadala’s activities would shape how the world will view any large adia stakes, as both ultimately report to the same folks. I would argue the same applies to China, especially in a world where there are close and interlinking ties between various state financial institutions (all formally owned by the cic). I am not sure the CDB can do policy lending and investment and the CIC porfolio management without generating concerns that the CDB is basically the branch of the CIC for policy goals. Similarly i am not sure 1/2 the CIC’s portfolio can be strategic stakes domestically without creating a perception that its external investments could be strategic.

    the need to make money is a constraint. but i am not sure it is binding. remember, 2fish, i think you argued that it doesn’t matter that the cic won’t cover its rmb funding costs … and in that context, it might be able to argue, well, we didn’t make so many rmb but we did invest in ways that nonetheless helped china develop …

  • Posted by Twofish

    bsetser: I don’t think the last point holds. see the WSJ story about russian state firms — which are often used as appendages of the state/ to secure state objectives.

    And US companies don’t do this? Here is a thought experiment. It would be extremely profitable for Boeing to sell advanced fighter jets to China. It doesn’t, and that’s because the US government would be unlikely to approve this.

    Private companies in the US have as much freedom to operate as they do because they do a better job of advancing US state objectives when the government doesn’t interfere with them all of the time.

    bsetser: SOEs are used for example by both china and india to keep gas/ oil prices below world market levels.

    And the US had a very complex system of price controls for oil companies during the 1970′s. At least in China the fact that the company is state-owned is not relevant to the regulatory control that the state has on it. If Exxon-Mobil wants to sell oil in China, they have to do it at the state price. Also before you cry for Chinese oil companies, one should bear in mind that for most of the last few years, they were required to sell oil at considerably above market prices. There are banks in China that have private capital and they are subject to the same regulations as state owned enterprises.

    One of the key principles of the Chinese economy that has developed over the last decade is that state firms and private firms compete on an equal basis. Curiously some of the strongest supporters of this principle are the state owned firms that argue that they shouldn’t be subject to more restrictions than private corporations.

    bsetser: I am not sure the CDB can do policy lending and investment and the CIC porfolio management without generating concerns that the CDB is basically the branch of the CIC for policy goals.

    It can’t. Part of the deal that moved CDB over to CIC was that CDB would stop doing policy lending. The problem with policy lending is that it doesn’t make money. If it made money, there would be no reason that the bank wouldn’t do it on its own. I don’t think that the loan that CDB made to close the Rio deal could be counted as a policy loan, since CDB is going to make money off it.

    bsetser: and in that context, it might be able to argue, well, we didn’t make so many rmb but we did invest in ways that nonetheless helped china develop …

    The trouble with that argument is that it’s not going to satisfy that angry pensioner that wants to know where their monthly check is.

    The point of CIC is do make it so that they can’t make this sort of argument. Sure, it might be a good idea for the Chinese government to do strategic investments, but it needs to be done by someone other than CIC. Just because something needs to be done doesn’t mean that CIC should do it. You run the risk of making the same sorts of mess that you have when you try to make turn a bank into a welfare agency.

    One thing about pension systems is that people have had a lot of experience with compensation systems and metrics so that people have a good idea of when a pension system is doing well, and when it is doing badly. People know what a well-run pension system looks like. This isn’t true for a strategic development fund, and if you don’t have an idea of what a good development fund looks like, then it’s pretty hard to know when you have succeeded or failed.

  • Posted by Jimbo

    Why don’t you think poor investment returns in China are politically binding? As you have previously pointed out, James Fallow’s argued pretty persuasively that poor investment return on Blackstone were creating domestic political issues in China. Furthermore Henry Sender argued that same poor investment in Blackstone as well as poor returns on Morgan Stanley made the Chinese investment authorities fearful of looking dumb if they made another big bad investment.

    It seems to me, that the weight of the evidence so far is that investment returns are extremely politically binding especially on overseas investment. Is there any evidence so far that they aren’t?

    I agree Hugo Chavez doesn’t seem to care about investment returns. But unless oil prices continue to sett new records, for how much longer can he stay in power and persue his current set of political objectives? Fidel had the USSR to bankroll him. Chavez has record oil prices. But absent those type of factors, investment returns matter.

  • Posted by Anonymous

    re: "SOEs are used for example by both china and india to keep gas/ oil prices below ["world"] market levels."

    "…The Senate Democratic leadership has unveiled as part of their energy package to lower oil and gas prices two provisions that would raise the cash collateral needed to trade energy futures and establish oversight of foreign markets operating with U.S. terminals. Both the New York Mercantile Exchange (NMX) and the Intercontinental Exchange (ICE) – the two major exchanges that operate energy trading…" http://www.cattlenetwork.com/Content.asp?ContentID=220571

    "When Saudi Aramco, famed for the secrecy over its crude oil reserves, makes a plea for more transparency, traders around the world are bound to sit up and take notice. In a speech earlier this month, Adil al-Tubayyeb, vice-president of marketing, supply and joint venture co-ordination at Aramco, argued that the time had come to set up a pricing and trading mechanism to make the region a hub for buying and selling refined products such as fuel oil, gasoline and jet fuel… It is not the first bid to develop a regional futures market. The Dubai Mercantile Exchange, set up in June 2007, offers future contracts in Omani crude… However, volumes to date have been relatively small… Aramco has entered talks with several energy information firms on providing a publishing service for the hub. Jorge Montepeque, global director of market reporting at one of those firms, Platts [a division of The McGraw-Hill Companies], says there are two key conditions the Gulf needs to fulfil to bring credibility to the venture: an assurance that no single country will monopolise production, and a steady level of trading…" http://www.meed.com/features/2008/04/bringing_price_control_to_the_regions_energy.html

    "…"Most people have to remember it is not a hard price that is important, it is the transfer or ratio of Nymex shares to CME shares" that counts in the transaction, Newsome added… "Certainly, we are all disappointed that the market price has not worked with us as well as it could," Newsome said, while adding he is "confident" share prices will rise as the deal receives approval from regulatory authorities… The biggest synergies from the merger will come from combining the operations of the two clearing houses, "80 percent of whose members overlap,"… Newsome was in Dubai attending the quarterly board meeting of the Dubai Mercantile Exchange Ltd., a venture of Nymex Holdings Inc., the Dubai government and the Oman Investment Fund. The exchange, known as the DME, has been trading a futures contracts based on high-sulfur, or sour crude oil, from Oman since last June and will offer financially-settled contracts for Brent and Oman crude oil starting June 2. The Dubai exchange is close to listing a gold contract and considering contracts for "some metals and some indexes that are going to be helpful to the region…" http://www.bloomberg.com/apps/news?pid=20601103&sid=aeyi0uPdO_TE&refer=us

  • Posted by Anonymous

    question: why people use foreign debt data when net data or IIP is, in my view, much better indicator? for example, ireland has huge foreign debt but they also have huge foreign assets. U.K. same thing! is there any reason why is foreign debt as a share of GDP so widely used?

  • Posted by MMcC

    bsetser: "I also don’t know that it will work to have separate funds with separate styles and motives."

    In the short run, it probably won’t work as well as it might once there is a history of observed behaviour with which to augment judgments. I think – and I’m stressing that this is a personal view – that China’s three SWFs have a strong sense of what they will and won’t do on each other’s turf. CIC will invest in Africa for profit, for example, but won’t be a mezzanine JV investor and lender to Chinese companies setting up in Africa, which is CADFund’s job. NCSSF wants the bulk of its equity/trust investments, in time, to be domestic, unlike CIC, which doesn’t want any (ok, many). Over time, sticking to the script will educate potential investees (and their regulators) about who’s doing what.

    Similarly, consistent behaviour is likely to clear up (or at least mitigate) some of the reasonable concerns that the hodgepodge of conglomerated assets these SWFs were born with prompt. It will be years before some of these less-explicable holdings are sold off. Until then, behaviour is probably going to be a more reliable guide to intent than a scan of the balance sheets.

    Over in the SOE community, things are less clear cut. There is a continuing temptation for SOE managers to use their relatively cushy funding and connections to drive deals that perhaps wouldn’t survive a purely commercial lender’s/investor’s scrutiny. (To be fair, perhaps they would: large organisations can usually find a funder for anything. SOEs, forced to raise money commerically, would, in my view, only have to knock on more doors and accept worse terms from their lenders/investors.) Clarity of strategic intent is rarely very good among SOEs and this is particularly true in their overseas expansion plans. Certainly every policy-maker and SOE manager agrees that, in principle, everyone would be happier to see mostly-commercial companies pushed out of the government nest. No-one seems to feel particularly strongly that it should happen soon or, indeed, how it should happen…

    One theory, which I like the sound of but haven’t seen more than indirect evidence for, is that a really galvanic wave of China-driven M&A (local and global) will force SOE owners (and private ownership groups) to dilute their stakes massively – effectively using unlocked G-shares and, bluntly, anything else of value on the balance sheet as currency to build sustainably-sized, smaller-in-overall-number players in each industry. I’m not holding my breath.

    Twofish noted: "Somehow Chalco’s motives are more suspect than Alcoa’s…" and I agree that this is often the judgment made. It would, in my view, be more accurate to say that Chalco’s long-term strategic plan is less clear than Alcoa’s, nor, as a consequence, is its behaviour likely to be as predictable.

  • Posted by Twofish

    NCSSF is now part of CIC. Also CADFund was started before CDB was merged into Huijin and CIC.

    MMcC: here is a continuing temptation for SOE managers to use their relatively cushy funding and connections to drive deals that perhaps wouldn’t survive a purely commercial lender’s/investor’s scrutiny.

    On the other hand, private managers behave no better when they have cushy sources of funding. It’s very important that the sources of funding be relatively independent from the corporate management, but I’d argue that this is the fundamental principle, and not whether the shareholders are public or private.

    After the events of the last few months, it’s really hard to talk about a commercial lender’s scrutiny and keep a straight face.

    MMoC: Certainly every policy-maker and SOE manager agrees that, in principle, everyone would be happier to see mostly-commercial companies pushed out of the government nest.

    It’s not necessarily the case. Again, it is important that there be checks and balances, but you can have this sort of tension in state owned enterprises. Conversely you can also have "crony capitalism" in privately held corporations. Just because you have two people that are part of the "state" doesn’t mean that you can’t arrange the incentives so that there is institutional tension between the two.

    MMcC: would, in my view, be more accurate to say that Chalco’s long-term strategic plan is less clear than Alcoa’s, nor, as a consequence, is its behaviour likely to be as predictable.

    I don’t see any reason why this is the case. We can pull up the annual reports of the two and they don’t look that different.

  • Posted by Guest

    Twofish: "NCSSF is now part of CIC."

    Sorry, the first line rather distracted me from the rest of the post. Do you mean this metaphorically or are you suggesting that these two separate institutions have somehow merged?

  • Posted by Anonymous

    re: "I wonder how various African and Latin countries will respond to China’s reported plans to secure its supply of agricultural imports by investing abroad."

    BUENOS AIRES, Argentina, May 13, 2008 "…Calyx Agro is a newly created venture focused on the acquisition, development, rental and operation of agricultural land located in South America with an emphasis on Brazil. Calyx Agro was formed by LD Commodities, one of the world’s leading commodity merchants and processors of agricultural products. The funds raised in the equity financing are intended to expand Calyx Agro’s agricultural land portfolio and further develop its existing farming activities across a diverse range of products and regions. Calyx Agro is seeking to capitalize on South America’s growing agribusiness sector and potential for farmland appreciation… which is expected to ultimately drive a higher resale value of the land. "We are delighted to be working in partnership with AIG Investments and the rest of Calyx Agro’s investor group…" http://sev.prnewswire.com/banking-financial-services/20080513/CLTU11213052008-1.html

  • Posted by Anonymous

    Or how investment banks and dealers will respond: "With the prices of energy and other commodities hitting historic highs, companies around the world are making the hedging of their energy commodities exposures a top strategic priority. That is generating a bonanza for the relative handful of investment banks and other dealers that have made a specialty of OTC commodity derivatives… the ones benefiting the most… are the dealers that have historically dominated the market. In particular, the survey found, this dynamic continues to favour Goldman Sachs and Morgan Stanley, the two firms cited most frequently by companies in Asia, Europe and the US as active OTC derivatives trading relationships…. Barclays Capital and JPMorgan Chase… also maintain significant OTC derivatives franchises among global corporate energy users, while others that also rated highly in terms of franchise size included BP, Citigroup, Deutsche Bank, and Société Générale. Of all the competitors, though, BarCap is the only one behind Goldman and Morgan Stanley that has built a significant client base in each of the world’s major regional markets, notes Greenwich…" http://ftalphaville.ft.com/blog/2008/05/14/13038/more-than-you-may-need-to-know-about-commodities-hedging/

  • Posted by bsetser

    Anonymous — hedging energy exposure is not the topic of this post; I do not find that comments of of the genre "I wonder how "topic z" will impact all of this" contribute to the dialogue.

  • Posted by bsetser

    MMcM — I am not sure I can do your comment justice. You essentially hypothesize that the role and mission of the various institutions involved in managing Chinese foreign assets (equity investments) will become more clear over time. Institutions that seems like a crazy hodge podge of domestic and interenational investments lumped together for reasons that make bureaucratic sense but not economic sense (my view of the CIC) will become something much cleaner, with more clearly defined purposes — and the lines between activities of different institutions will be much clearer.

    Perhaps. But right now I see more signs of the opposite forces, as ambitious actors take advantage of unclear lines to tread on others turf. SAFE’s expansion into equities for example. Or even the CDB’s expansion into commercial lending (tho I am suspicious of the chinalco loan — yes, it may have made money, but it seems tied to a high level decision inside china to buy into Rio and try to shape the outcome of the rio/ BHP merger to protect China’s interest) even as it retains a policy lending function — certainly domestically and I think still in places like Africa as well. the CIC clearly isn’t the only manager of an equity portfolio for China’s state sector (see sAFE), and it isn’t quite clear how the external portfolios of the state banks match up or don’t match up with what both the CIC and SAFE plan or don’t plan to do …

    finally, the CIC’s purchase of china railways offshore equity issue seems a lot like brazil’s plan to use its SWF to buy the external debt of brazilian companies. CDB lending to Chinalco (using fx supplied by the cIC as part of the recap) has a similar feel. there clearly is demand to make the fx the state buys to manage the exchange rate available to SOEs (or ambtiious and well connected private firms) to fund their expansion abroad (that way the firm avoids the fx risk). It isn’t yet clear to me that this won’t be part of the CIC’s mission — especially if other institutions do this and get kudos and more money and the like.

    Bottom line: Right now, i see a lot of blurring rather than clarifying of key lines, and very few institutions that seem to have a clearly arms length relationship from China’s top leadership.

  • Posted by Anonymous

    re: "I wonder how various African and Latin countries will respond to China’s reported plans to secure its supply of agricultural imports by investing abroad." is a direct quote from the text written by you in the main body of your post. it is not beyond the realm of possibility that some of the money may have to be "invested" in energy and commodities hedging

  • Posted by bsetser

    anonymous — my post was about the politics of state investment abroad, not Luftahansa’s sophisticated commodity hedging program/ bank profits from OTC commodity derivatives. If you want to make the case that countries with lots of commodity exports should do more hedging to lock in current high prices, fair enough — but that is about the management of their export revenues, not investment policy. the only connection that might be made to the post is that countries that import commodities — which are in an analogous position to Lufthansa — might want to protect v commodity price shocks not by buying farmland but by locking in prices through the hedging market. But some importers may want to lock up supplies against the risk of a "we won’t export when our own people are starving/ cannot afford food" export ban, not lock up prices. and I didn’t see any such connections made in the comment.

    I repeat that my view is that posted excepts from articles that are not germane to the post interfere with the flow of conversation.

  • Posted by Twofish

    Guest: Sorry, the first line rather distracted me from the rest of the post. Do you mean this metaphorically or are you suggesting that these two separate institutions have somehow merged?

    The China Investment Corporation *is* the NCSSF. The managers of the National Council for Social Security Fund just changed their titles from NCSSF to CIC.

  • Posted by Twofish

    About NCSSF becoming CIC, at least that was the plan mid-2007, things might have changed since then…..

  • Posted by Twofish

    bsetser: Perhaps. But right now I see more signs of the opposite forces, as ambitious actors take advantage of unclear lines to tread on others turf.

    As long as you have multiple actors, this is a good thing since it means that everyone keeps everyone else inline.

  • Posted by Anonymous

    bsetser: Perhaps. But right now I see more signs of the opposite forces, as ambitious actors take advantage of unclear lines to tread on others turf. – see 2008-05-13 07:19:52, 2008-05-13 09:14:59

    Twofish: As long as you have multiple actors, this is a good thing since it means that everyone keeps everyone else inline. – if only that was true

  • Posted by RealThink

    "Examples of investments that seemed geared toward promoting the home country’s own economic development are not hard to find."

    Reading that raised some hopes, which quickly vanished with:

    "Mubadala’s investment in Ferrari likely contributed to Ferrari’s decision to build a theme part in Abu Dhabi."

    and

    "Dubai’s interest in the NASDAQ stemmed from its desire to cement its position as a regional financial center."

    The future is not about theme parks or financial centers. The future is about having food and water. They should be investing in solar water desalinization plants to allow future generations to be able to grow their own food.

  • Posted by gillies

    i wonder if anyone has the patience to follow the rumination of a simple man on why the sovereign wealth funds have so much money ?

    people on this site have hinted that the fed / united states / greenspan / bernanke / whoever – are capable of inflating their way out of trouble. i wonder if anyone still believes this ? (apart from DC of course.) i don’t.

    what is bound to happen if you print money in order to consume ? the consumers consume – or if you like, overconsume – and the people who make the stuff they consume amass dollars. can’t help it.

    in an ideal world the producers now in turn overconsume the products of the united states and trade gets balanced. but it is not an ideal world, and some nations are less walmartian and less inclined to stuffing themselves with junk than others.

    so they have a surplus of the excessive print run in the dollar factory. what happens next ?

    1 some gets invested back in u s treasuries etc. which only reinforces the process of overconsumption and surplus accumulation. some is hoarded as surplus reserves – ‘surplus’ here means surplus to what you need to counter speculative attack on your currency at times of weakness.

    2 some gets invested in commodities. these are going up – because unavoidably in a world of surplus dollars and finite resources, prices of commodities quoted in dollars, rise.

    3 so the financial geniuses of wall street (definition of a ‘financial genius’ – a short memory in a rising market ) decide to pile in, thus exacerbating whatever financial rout has been launched by the bernanke helicopter attack.

    4 meanwhile the same helicopter attack has holed the dollar below the waterline, and the dollar continues to take water. how else could it be ?

    5 thus the process of helicopter rescue is no different from what used to be called ‘debasement of the currency’ which has yielded dividends for kings and princes in the past but only until the peasants rumbled them and cut off their heads.

    6 so money printed in order to consume is not – repeat not – free money. on the contrary the long term repayments are substantial. no amount of haranguing the owners and hoarders of the surplus will change this. and among the victims facing payback time will be the very financial geniuses lauded for their investment skills on the upward journey.

    7 so emergency helicopter finance is in effect a form of nuclear stealth bombing of the global investment community – with lethal but dangerously attractive ‘ponzi bubbles’ that will continue to arise in market sectors near and far – as long as the minting of debased currency is used as a lever of policy.

    8 and when does it end ? it ends when the inflation dazzled financial geniuses are all caught off side, wrong footed, and left high and dry by the spike and deflationary collapse of a global flight out of currency. all currency.

    9 "i have a hundred trillion dollars – cash. so, how much for that bag of rice over there?"

    ‘sorry sir – we don’t quote in dollars . . ."

    10 how did we get into this ? we allowed a currency that does not hold its value to act as a reserve currency, and ‘a reserve currency that does not hold its value’ is a fundamental contradiction in terms.

    - and the way out for the surplus holders ? convey to the u s administration, quietly, that you will commence selling dollars until u s sets interest rates that give at least some hope of offsetting the cost of dollar decline, or better, stimulate a reversal in the fortunes of the dollar, so that it once again becomes a genuine store of value.

    .

  • Posted by Twofish

    gillies: i wonder if anyone has the patience to follow the rumination of a simple man on why the sovereign wealth funds have so much money ?

    When you look at things on a global scale, a trillion dollars really isn’t that much money.

  • Posted by bsetser

    2fish, the market has corrupted you too quickly. Even for a quant, a trillion dollars should be a lot of money.

    Gillies — i love the phrase Walmartian. nice allusion to martians, and the idea that americans are from mars. One small correction tho. In deflation, there is a run out of financial assets, but not necessarily a run out of cash. Because the price of goods is falling, cash becomes an attractive asset — and it gets hoarded.

  • Posted by Guest

    –When you look at things on a global scale, a trillion dollars really isn’t that much money.–

    That’s a completely meaningless comment. The thing is SWFs have a few Trillion dollars and that makes them very influential. Their decisions impact the world economy and politics in many ways.

    So who cares whether or not "you look at things on a global scale, a trillion dollars really isn’t that much money".

    It sounds like arguing for the sake of arguing.

  • Posted by MMcC

    bsetser: "Bottom line: Right now, i see a lot of blurring rather than clarifying of key lines, and very few institutions that seem to have a clearly arms length relationship from China’s top leadership."

    That’s exactly how it looks. That’s more or less how it is. These institutions’ intent (especially the SWFs – perhaps less so for the SOEs and the aggrieved, such as SAFE) doesn’t match their current holdings. My bottom line – which I hope complements, rather than argues with yours – is that holdings analysis for a large number of government-connected Chinese institutions is unlikely to give many useful clues to intent. We’re all going to have to wait for patterns of behaviour to emerge.

    Twofish: "About NCSSF becoming CIC, at least that was the plan mid-2007, things might have changed since then….."

    I think things have. NCSSF’s senior staff (especially from the exec board, fund management, research and back room operations) were raided hard to create CIC’s management backbone, which may have led to the impression that the two institutions were intended to be more closely related than is in fact the case. Local press reports, in my view, were rather more badly informed than normal, which didn’t help. I think it’s reasonable to say now that the two have a collegial relationship, are likely to link arms when policy issues affecting both arise and share research/resources when assessing fund managers. Beyond those links, they’re wholly separate.

  • Posted by Twofish

    Guest: That’s a completely meaningless comment. The thing is SWFs have a few Trillion dollars and that makes them very influential. Their decisions impact the world economy and politics in many ways.

    Not as influential as people think.

    First of all, the typical size of an SWF is in the few hundred billion range. That’s about the size of your large multinational corporation. WalMart makes over $100 billion/year. The mortgage market in the US is about $10 trillion, and both Fannie and Freddie each have about $1.5 trillion in securities outstanding.

    A single mega-bank has holdings of about a trillion dollars and there are several of those around the world. You have eye-popping numbers for the size of SWF’s, but that needs to be compared with the size of the banks, mutual funds, and multi-national corporations that already exist. Seen from this angle, the SWF’s are certain going to be large players, but they aren’t going to dominate the world.

    Which brings up the question of why SWF’s need to undergo more financial scrutiny and transparency than Berkshire-Hathaway or Citigroup. We need to pay special attention to SWF’s because ????

    (In the case of CIC, the answer I’d give is that because the foreign exchange is the people’s money so they have a right to know that it is being managed wisely. However that answer gives you a different mix of policies than you’d get if you fill in the blank with other things.

    The one answers I don’t think are valid is "because sovereign wealth funds are more prone to cause financial crises than private capital," "because publicly run corporations are inherently badly run and private run corporations are inherently well run" or "I just don’t trust *them* with large amounts of money."

  • Posted by Twofish

    MMcC: is that holdings analysis for a large number of government-connected Chinese institutions is unlikely to give many useful clues to intent. We’re all going to have to wait for patterns of behavior to emerge.

    One reason it may be difficult to figure out the Chinese government’s "real intentions" is that the Chinese government has yet to figure out what they are, and it can change its mind. Part of it is that the Chinese government consists of a lot of people with a lot of different opinions on what should be done, and people’s minds may change. By the time there is a consensus, things have changed so that things are muddled again.

    Looking back, I’d have to say that it seemed pretty clearly the intention in mid-2007 that CIC take over NCSSF, but after the Blackstone debacle, the plans probably changed. I can imagine the meeting in which the head of the NCSSF looks at CIC and says "they want to tell us how to manage our portfolio?"

    One thing that has changed a lot in the last six months is that at one time, you could answer the question of "why should the Chinese government keep an arms length relationship from business" with "that’s what the United States does and it works great." After Bear, I don’t think that you can argue anymore that the US government doesn’t intervene massively in the financial system or that non-intervention obviously "works great."

    The other arguments that you can try to put against the Chinese government intervening in the financial system are "because its a bad thing that the Chinese government has extra ability to intervene in the global economic system in ways it thinks will benefit China" or "because Americans get worried when the Chinese government gets too powerful" seem awfully American-centric. I suspect that "concentrated Chinese state economic power makes Americans nervous" would be seen by most Chinese as a good thing rather than a bad one.