Opacity Threat to SWF Legitimacy

Ashby Monk

Adrian Orr, CEO of the New Zealand Superannuation Fund, has an interesting interview on the SWF Institute website.

I think Orr’s comments on legitimacy are spot on:

“…the Global Financial Crisis is just the latest example of how perceived or actual opacity can damage the reputation of financial institutions. This in turn damages the perceived domestic and international legitimacy of these institutions, and ultimately their ability to operate…We believe that an important step toward establishing and then preserving legitimacy is for a financial institution to make it easy for its stakeholders to understand why it exists, what it does, and how.”

I couldn’t have said it better myself…and I’ve tried.

6 Responses to “Opacity Threat to SWF Legitimacy”


  1. 1 rien huizer November 5, 2009 at 8:28 am

    For some reason, OECD countries tend to have gvt debt (accumulated gvt deficits) and quite a few non OECD countries have gvt wealth (negative debt). One thing that puzzles me is that gvts have both debt and a SWF (by definition a fund without defined non-gvt claims). I think that legitimacy starts with having popular support for the existence of a fund (rather than debt repayment in an OECD country or redirecting gvt revenue to the private sector, for instance by lowering taxes) opacity does not really matter in many SWF owning non-OECD countries and in the OECD countries there is usually a decent amount of transparency around public finance. In the non-OECD countries that have non-renewable sources of revenue, the information provided on the resource (for instance oil reserves) is not particularly helpful either, and in most cases the value of the resource in the ground dwarfs the SWF.

    As to popular support, there may be many reasons why enough people would prefer a “future fund” (that is within the overall allocation of public funds) to a very small tax benefit (that may not even get to most people), the same reasons why people want overengineered bridges etc. Also, OECD gvts tend to have very stable spending flows and much more cyclical revenue flows. Some smoothing makes sense an debt does not have to be the only instrument, although these countries tend to have a core of public sector long term financial obligations (debt, leases, unfunded pensions etc)that should make it virtually impossible to arrive at a “wealth” level during periods of rapid growth. And govt spending generally includes quite a bit of fixed assets, so that all that debt would not have been used to pay for current expenditure.

    The thing about transparency&legitimacy is of course that state bureaucrats, even in investment management garb, are risk averse and a large portion of the public does not expect the gvt to tkae the people’s money to a financial casino, even if their pension fund manager does the same and offers quite a bit of disclosure.

    All in all, SWFs should only be used for very good, and non-partisan reasons and then their domestic transparency should be at the same level as the country’s public finance in general. International transparency is another matter of course. There the fund has to balance domestic requirements against possible limitations to its investment activities imposed by the host country in that country’s public interest…

    • 2 Ashby Monk November 5, 2009 at 2:23 pm

      What about SWFs offering OECD countries a classic financial arbitrage: they can issue debt at a lower interest rate then they can earn (over the long-term) in their SWFs. So, prefunding the pension obligation with a SWF may actually be a way to save money…we see this type of behavior in the US with POBs.

  2. 3 Tom Karol November 5, 2009 at 12:31 pm

    While everyone agrees that clarity is a positive, the actual disclosure under the Santiago Principles remains a problem. Consider the New Zealand response:
    http://www.nzsuperfund.co.nz/files/Implementation%20of%20the%20Santiago%20Principles%20Sept%202009.pdf

    GAPP 19.1 Subprinciple If investment decisions are subject to other than economic and financial considerations, these should be clearly set out in the investment policy and be publicly disclosed.

    RESPONSE – Our mandate requires us to invest the New Zealand Superannuation Fund (Fund) on a prudent, commercial basis and, in doing so, to manage and administer the Fund in a manner consistent with: (a) Best-practice portfolio management; (b) Maximising return without undue risk to the Fund as a whole; and (c) Avoiding prejudice to New Zealand’s reputation as a responsible member of the world community.

    The Fund mandate is described in rather general, but the question of whether the Fund investment decisions are subject to considerations other than economic and financial considerations is implied, but not directly answered. This response, while admirable, simply does not make clear whether the fund will or will not consider factors other than economic or financial considerations. For example, is may be permissible for the fund to engage in purely political investing that provides only minimal risk to the fund or which makes the Fund appear more responsible. This may seem like splitting hairs, but if there is any doubt of politically motivated investing, then general or vague inferences will not dissuade such doubts.

    It could be argued that the Fund response is not vague and that the Fund has clearly stated that it does not have other investment considerations. Perhaps, but there is evidence to the contrary. The Santiago Principles themselves, the drafting of which included the Fund, indicated that the Fundhas other consideration. The Explanation and commentary of GAPP 19.1. Subprinciple provides that “Some SWFs may exclude certain investments for various reasons, including legally binding international sanctions and social, ethical, or religious reasons (e.g., Kuwait, New Zealand, and Norway).”

    In addition, the Fund is one of the two sovereign funds that are signatories of the United Nations Principles for Responsible Investment, in which the fund has agreed to “incorporate environmental, social, and corporate governance (“ESG”) issues into investment analysis and decision-making processes, be active owners and incorporate ESG issues into our ownership policies and practices, seek appropriate disclosure on ESG issues by the entities in which we invest, align investment mandates, monitoring procedures, performance indicators and incentive structures accordingly, communicate ESG expectations to investment service providers, and report on our activities and progress towards implementing the Principles.
    http://www.unpri.org/signatories/

    Clearly, the Fund response was carefully crafted language by legal and diplomatic experts under many levels of review to provide the most complete and accurate response that still afforded the fund the latitude needed to comply with present and future operational, financial and political requirements. The problem is that the Fund response was carefully crafted language by legal and diplomatic experts under many levels of review to provide the most complete and accurate response that still afforded the fund the latitude needed to comply with present and future operational, financial and political requirements. Not exactly a model of transparency and clarity.

    Consider further that the Fund response was a written response in relatively clear English, with terms that have well accepted meanings in operations and law such as: “prudent”, “commercial basis”, “best-practice”, “portfolio management”, and “undue risk”. Then consider the potential interpretation issues and nuances of a submission that may be made in the home languages of other sovereign investment funds that have less defined and understood terminology and legal definitions. Think about responses made in Chinese or Farsi. Consider how legal terms long accepted under Russian law or UEA regulations will be read globally.

    It is critical to note here that the Fund is widely recognized as one of the “good guys”. There are few, if any, sovereign funds that enjoy the wide respect and admiration that the Fund has earned for their operations, disclosures and commitments to practical investment. But when the responses of the “good guys” leave real questions unresolved, reasonable people will certainly grow more concerned about the possible responses by other funds with less history, experience and concern for global opinion.

  3. 4 Ashby Monk November 5, 2009 at 2:25 pm

    Interesting points.

  4. 5 rien huizer November 6, 2009 at 2:59 pm

    Ashby, your “arbitrage” suggestion is perverse. No decent country would behave like this without a good excuse, eg the US during the current crisis (look at Fed profitability)….But an interesting point nevertheless.

  5. 6 Ashby Monk November 6, 2009 at 3:06 pm

    Oh I agree that it’s risky; pension obligation bonds look like a very bad idea in 2009 (though in 2007 they probably looked quite smart). It’s interesting, actuaries in the US are convinced that over the long term a 8-8.5 percent asset return assumption for pensions is reasonable. If they are convinced of this, isn’t issuing debt at 5 percent and investing it in the fund compelling? I don’t want my government doing it, but I can see how some might…

    The “excuse” we see in the US with respect to POBs is plain: financial stress.


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This website is a project of Professor Gordon L. Clark and Dr. Ashby Monk of the School of Geography and the Environment at the University of Oxford. Their research on sovereign wealth funds is funded by the Leverhulme Trust and The Rotman International Centre for Pension Management.

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