THE ECONOMICS OF MONEY,BANKING, AND FINANCIAL MARKETS 336

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PA R T I I I

FYI

Financial Institutions

Sovereign Wealth Funds: Are They a Danger?

Sovereign wealth funds have been around a
long time: The first, the Kuwait Investment
Authority, was established in 1953. When
governments accumulate a substantial
amount of foreign exchange earnings, as has
happened in oil-rich countries, they often
recognize that these earnings would be better put into investments in foreign countries
rather than kept at home. The largest sovereign wealth funds are the Abu Dhabi
Investment Authority, Government Pension
Fund of Norway, Government of Singapore
Investment Corporation, Kuwait Investment
Authority, China Investment Corporation, the
Stabilization Fund of the Russian Federation,
and Singapore s Temasek Holdings. Canada s
Alberta Heritage Savings Trust Fund, established in 1976, is a small fund with about
$20 billion of assets under management. In
2007, there were about 40 sovereign wealth
funds with estimated assets under management between $2.5 trillion and $3.5 trillion,
representing about 2.5% of global assets.*
Up until recently these funds have been
relatively uncontroversial because they were

comparatively small and primarily invested
in government bonds issued by industrialized countries. In recent years, however, they
have grown in size they now hold over
$3 trillion in assets and, in the search for
higher returns, invest in a much broader set
of assets. This shift in size and focus has led
to serious concerns about them in industrialized countries.

One concern is that as the size of these
funds increases, they may play a more
important role in asset markets, and since
some of them are very large (the Abu Dhabi
fund has close to $1 trillion of assets) the
decision of one fund to pull out of a particular asset market could cause market instability. Sovereign wealth funds also raise
national security issues, because they might
use their investments for political purposes.
They might buy up strategically important
industries or use their clout to get political
concessions. This is a particular concern,
because the governments of Russia, China,
and Arab countries control many of the
largest of these funds. A third concern is that
many of these funds, with the exception of
the Norwegian fund, provide very little information about their operations and the assets
in which they invest.
Although sovereign wealth funds do pose
some dangers, they are probably overplayed.
Xenophobia often plays well in politics, and
foreign purchase of domestic assets is often
prevented under the banner of national security in order to protect domestic companies

from unwanted takeovers. The lack of transparency for some of these large funds is a
serious problem, however. This is why organizations like the International Monetary
Fund (IMF) and the Organisation for
Economic Co-operation and Development
(OECD) proposed rules to increase the
amount of information these funds disclose
to the markets.

*For more details on sovereign wealth funds see Tamara Gomes, The Impact of Sovereign Wealth Funds on the
International Financial System, Bank of Canada Financial System Review (June 2008): 41 44.

The industry also has a national association, the Investment Funds Institute of
Canada (IFIC). The IFIC, however, has no regulatory role; its main function is to
reflect the industry s concerns and to distribute information regarding the industry.
The Investment Dealers Association of Canada (IDA), the Mutual Funds Dealers
Association of Canada (MFDA), established in 2000, and the stock exchanges are the
self-regulatory organizations for the distribution end of the mutual funds industry.