Sovereign Wealth Funds: Their Role in the Future
Sovereign wealth funds, or investment vehicles owned by nation-states, have become increasingly popular economic and foreign policy tools for emerging market countries. These funds often both invest overseas to hedge against domestic calamities and fund foreign social and economic development. In the case of many states, sovereign wealth funds manage trillions of dollars in assets and pursue investments in real estate, hedge funds, bonds, precious metals, and more. As sovereign wealth funds continue to diversify their investment activities, however, they should adopt a renewed focus on transparency and governance in order to pursue investment opportunities in countries—like the United States—that have a review process for deals involving the foreign control of domestic companies.
Sovereign wealth funds are not without some well-founded criticisms. Many critics point to an alarming lack of transparency on how these funds are managed. Specifically, the Linaburg-Maduell Transparency Index notes that only 28 out of 54 sovereign wealth funds rated by the Sovereign Wealth Fund Institute in 2016 met an adequate level of transparency, e.g., eight points on the Index. The decisions and actions of a sovereign wealth fund can also potentially have colossal impacts on financial markets without much advance warning. Recently, sovereign wealth funds and their management became a topic of intense discussion after the United States Department of Justice filed civil forfeiture complaints asserting that billions of dollars were misappropriated from Malaysia’s sovereign wealth fund.
Depending on restrictions on the types of investments a fund may undertake, some sovereign wealth funds have increasingly eyed different types of investments, such as tech ventures, as it becomes obvious that states require strategies diversified from energy exports following the flatlining of oil prices. For example, in 2016, Saudi Arabia’s Public Investment Fund said it invested $3.5 billion in Uber.
As a result, sovereign wealth funds—and especially the Chinese fund—may be gearing up for protracted battles in the United States on deals subject to review by the Committee on Foreign Investment in the United States (CFIUS). CFIUS is responsible for determining how a transaction resulting in foreign control of a U.S. company would affect U.S. national security. CFIUS can impose conditions on the transaction parties or recommend that the president suspend or prohibit the transaction. However, CFIUS also runs the risk of being politicized, as key players seek to alter the Committee’s mission. Some believe that the CFIUS process should create diplomatic and economic leverage against state actors, like China, as a strategy for pushing action on North Korea. Some, like U.S. Senator John Cornyn (R-TX), are moving forward with legislation designed to enact sweeping changes to CFIUS review, including the expansion of CFIUS’ jurisdiction to encompass non-control transactions that result in access to U.S. technology. Conversely, some believe the scope of its review should actually be restricted further in order to attract outside investment in U.S. sectors like infrastructure.
As more countries create sovereign wealth funds, others realign existing funds to invest in sectors outside of traditional investments like real estate, and others begin to use sovereign wealth funds as policy tools, it becomes critically important to examine how exactly countries would ensure appropriate transparency, governance, and regulation of these funds. Self-policing through voluntary organizations, such as the International Forum of Sovereign Wealth Funds, and non-binding principles, like the Santiago Principles, are certainly a start, but the international financial and regulatory community should be more proactive in exploring ways to creatively ensure the incorporation of transparency and good governance structures. Increased transparency on the part of the fund, as well as further engagement with regulatory bodies, offer the opportunity to reduce “investment friction” and provide citizens more clarity on the role of their country’s sovereign wealth fund.