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Proposed New Sovereign Wealth Funds

January 24, 2017

Amidst economic challenges like low investment rates and low saving rates, governments and institutions are asking fundamental questions about their futures. Many are looking for sustained political, social, and financial commitment in approaching long-term, ingrained problems. Specifically, one of the avenues for change being suggested is the creation of new sovereign wealth funds. Such major undertakings would be intended to address deep-seated impediments and long-standing economic issues which, if left unchecked, can create more challenges in the long run. 

The U.K.’s Proposed Sovereign Wealth Fund

One of the overall problems with the U.K.’s economy is a failure to plan and invest for the long run. Currently, the U.K. is currently facing near-crisis conditions in many respects, especially after the Brexit vote.

Financial analysts such as Thomas Aubrey, director of the Centre for Progressive Capitalism,  have suggested various approaches to tackling the U.K.’s financial woes. For instance, in a report, he points to a poor infrastructure investment as a major shortcoming, as it in turn limits new home building and property development. He suggests amending a 1961 act so that the public rather than landowners would reap the main benefits from land designated for transport or housing. This would allow for additional investment on infrastructure for the next 20 years. Currently, landowners are guaranteed any uplift in land values if, for instance, an industrial site is designated for housing.  

This in itself would be a challenge to accomplish, and its effects would be felt only after some period of time. An even more expansive approach has been suggested by many: to launch a sovereign wealth fund (SWF). Spearheading this line of thought is John Penrose, the Conservative MP for Weston-super-Mare. Penrose sees the need for such a fund in order to help fund liabilities in the pensions and benefits system, as well as to address pressures regarding infrastructure.

Details of the Proposed Fund
The SWF would be funded through a National Charge Debt (NDC), which would be carved from income tax in order to pay for the interest on the national debt. The NDC would be set up as a percentage of GDP; any surpluses would be used to pay off the national debt and the aforementioned liabilities in various pension and benefits systems. 

This would necessarily be a very large wealth fund, possibly worth two times the current size of Britain’s economy. Obviously, the fund would take a very long time to build up; Penrose concedes that this would likely span several generations. 

Other proposed features of the SWF include:

  • A target date by when the build-up process must be complete
  • An annual letter published by the Bank of England, confirming whether the National Debt Charge is set at the appropriate level to reach the target goal
  • The Fund would be managed by an independent, standalone National Insurance Trust, and would be subject to the same rules as private-sector pensions or insurance firms regarding prudent investing and transparent reporting

Penrose also postulates that the Fund would address the growing problem of intergenerational fairness. At the moment, younger generations may be getting burdened with the costs of pay-as-you-go pension and welfare systems, which are likely to rise over time. Thus, the SWF would have the dual benefits of ensuring more stability for future generations while also rejuvenating infrastructure investment and spending for the U.K. 

Proposed Sovereign Wealth Fund for India

On the other hand, discussions regarding the creation of a sovereign wealth fund in India revolve around distinctly different issues (though the main goal of long-term stability is similar).

India has previously ventured into the world of SWFs, as it has already set up its National Investment and Infrastructure Fund (NIIF). However, this is often seen as more of a special purpose vehicle that will use a small portion of the foreign exchange reserves to aid infrastructure projects, rather than a more traditional commodities-based SWF. Recently, discussions regarding a more expansive and dynamic fund for India are beginning to emerge.

Many analysts feel that despite significant inflation, India’s external account is stable enough to consider the creation of a sovereign wealth fund. Unlike the U.K.’s proposed sovereign wealth fund, which is focused on inter-generational considerations, India’s proposal focuses more on the augmenting of resources and achieving of strategic global objectives. This is very much along the lines of countries such as China and Singapore, which have used their sovereign wealth funds for a variety of purposes, including:

  • Meeting commodity import requirements
  • Promoting the expansion of domestic companies overseas
  • Attracting foreign direct investment
  • Increasing government revenues

These types of aims indicate that sovereign wealth funds are not simply just vehicles for investing surpluses from crude oil and other similar investments. Specifically, India’s SWF would be formed with specific economic and political objectives in mind. For instance:

  • The SWF would purchase stakes in overseas companies, namely crude oil and gold manufacturers. These commodities have together accounted for 30 percent of India’s merchandise import bill for the fiscal 2016 year. It is imperative for India to acquire stakes strategically in oil and gold companies while prices remain low.
  • The SWF’s earnings would allow GoI’s revenues to diversify while at the same time augmenting foreign exchange reserves.
  • Lastly, with the SWF acquiring strategic stakes in foreign manufacturing companies, India in turn would be able to forge the strategic partnerships that are necessary to strengthen the country’s manufacturing sector.

India’s SWF might be funded through means such as:

  • Issuing long-dated retail bonds in an era of softening domestic interest rates
  • Cracking down on black money
  • Investment by retirement corpus of GoI’s Employment Provident Fund Organization, as well as assets from government-owned banks

Thus, the U.K.’s SWF and overall economic policy discussion tend to be insulative in nature, giving the U.K. a buffer to allow itself to grow internally. In comparison, India’s SWF discussions appears to be more outward-facing in nature — the creation of an SWF would allow India greater participation in the global scene. In both cases, significant political willpower and swift action would be needed to launch such proposed projects. 

Both of these proposals illustrate the versatility and complexity of sovereign wealth funds, and the need for careful planning and strategizing when it comes to investment policies. Sovereign wealth funds can be powerful vehicles to accomplish very specific aims. As SWFs continue to evolve outside of traditional commodity-based models, they become more complex and multifaceted in nature. 

If you have any questions, legal issues, or disputes regarding sovereign wealth funds and other large institutional investors, contact us today at Kessler Topaz. We work closely with sovereign wealth funds and institutional investors around the world, and provide assistance with important issues like financial security and fiduciary obligations.