THE FUTURE ROLE OF SOVEREIGN WEALTH FUNDS

SOVEREIGN WEALTH FOCUSEdinburgh Dialogue

June 15, 2010

Edwin M. TrumanSenior Fellow

INTRODUCTION1. Sovereign Wealth Funds and the International

Financial System

2. Updated SWF Scoreboard

3. The Santiago Principles

4. Conclusions: The Role of SWFs

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SOVEREIGN WEALTH FUNDS and theINTERNATIONAL FINANCIAL SYSTEM

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SWFs and the IFS (1)SWFs are pools of government-owned or government-

controlled assets – often including international assets

Five years ago, no one knew what a SWF was – the descriptive term had just been coined

SWFs are diverse in their origins, objectives, and investment strategies

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SWFs and the IFS (2)Because of their diversity, it is inappropriate to

generalize in great detail about the role of SWFs1. They are governmental vehicles2. They are part of the saving and investment process,

transferring wealth from year to year or generation to generation

3. Their financial results are most important to their home countries

4. They should be responsible investors

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SWFs and the IFS (3)Two Tensions

1. Dramatic redistribution of international wealth2. Much of the new wealth is controlled by governments

Five Concerns1. Mismanagement of investments and corruption2. Pursuit of non-economic or economic-power objectives3. Financial protectionism4. Financial market instability5. Conflicts of interest

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SWFs and the IFS (4)These tensions and concerns are shared by many other

government investment vehicles: government-owned or government-controlled financial or non-financial institutions, pension funds, and foreign exchange reserves

Including pension funds, SWFs are small with somewhat more than $6 trillion in total assets and $4 trillion in international assets

But they quadrupled in size from 2002 to 2007, before setbacks in 2008-09, and they are back in the news

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SWFs and the IFS (5)Since 2007, SWFs have matured under the glare of

international attentionThe rules of the game surrounding their activities have

been codified in the Santiago PrinciplesSWFs now can expect to be held to high standards of

accountability and transparency, at home as well as abroad

SWFs expect a degree of reciprocal responsibility from the countries in which they invest – another topic

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SWF SCOREBOARD

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SWF SCOREBOARD (1)In 2007, I developed a scoreboard for SWFsThe scoreboard focuses on SWFs’ Structure,

Governance, Accountability and Transparency, and Behavior

The latest edition includes 33 elements grouped into these four categories for 53 funds of 37 countries

• Based on systematic, regularly available, public information• At least one fund “scores” on each element

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2009 SWF Scoreboard (2)No fund scores

a perfect 100%

Average is 59Three broad

groups of SWFs

Pension SWFs in RED

2009 SWF Scoreboard (3)

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Compared with 2007

Average increase of 12% pts

More gains in middle group

Significant by GIC, Mubadala, Trinidad and Tobago, CIC, KIC & Alaska

THE SANTIAGO PRINCIPLES

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The Santiago Principles (1)

The International Working Group (IWG) of SWFs in September 2008 agreed and published a set of Generally Accepted Principles and Practices (GAPP) for SWFs.

• Contains 24 principles with several sub-principles for a total of 30 items

• It is a good piece of work – the IMF deserves credit for its facilitation role

• The GAPP also has some positive features that I have incorporated into my 2009 Scoreboard

• Essentially all the large SWFs participated

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The Santiago Principles (2)I have “scored” the GAPP

The GAPP itself receives a score of 76• This implies that full performance on the GAPP would put an

SWF near the top of the middle group on the SWF Scoreboard• The biggest weaknesses are with respect to accountability and

associated transparency• 25 of my 33 elements overlap with the 30 GAPP items• How do the 53 SWFs do on the intersection of the GAPP with

my Scoreboard?

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The Santiago Principles (3)Correlation =

0.99Average for

IWG SWFs 67%

Average “gain” is 3% pts versus total on Scoreboard

Lots of room to improve

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The Santiago Principles (4)Middle group

of funds “gains” more

Distribution of gains among other groups is more varied

A few declinesThe GAPP

raises the bar

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The Santiago Principles (5)

The IWG participants established the International Forum of Sovereign Wealth Funds (IFSWF)

The IFSWF aims to promote the “application” of the Santiago Principles and interaction with recipient countries to help ameliorate their concerns

The Santiago Principles (6)BAD NEWS:

(1) Potential for Regulatory Arbitrage(2) Membership in the IFSWF is static(3) Actions by host countries less than impressive

GOOD NEWS: GIC: 9 (2007), 41 (2008), 65 (2009), 78 (GAAP) ADIA: 4 (2007), 11 (2009), 12 (GAAP-2009), 58 (March 2010), 71 (GAAP-2010)

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THE ROLE OF SWFs

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ConclusionSWFs are here to stay, they are part of the IFS

landscape, and the world now is safer for themAccountability is the key, and reciprocal

responsibility should guide policiesWe have seen that multilateral approaches are

preferable to unilateral remediesThree tests:

1. Implement and improve the Santiago Principles2. Guard against Financial Protectionism 3. Worry about Regulatory Arbitrage