With the rapid rise of private equity and sovereign wealth funds as large-scale investors, the world economy looks very different now than it did even a few years ago. The former, consisting of non-publicly traded holdings, has a slightly longer history and has crept into unusual places. Sovereign wealth funds, state-owned funds managed for profit, are enjoying a meteoric rise, and have recently aroused controversies such as the attempted acquisition of American port security by Dubai Ports World. Both play a vital role in bankrolling American and European growth, often propping up and revitalizing the biggest players in these economies. In recent years, private equity firms have bought out giants like Hilton Hotels and Chrysler. Last November, Abu Dhabi’s investment fund injected $7.5 billion into struggling Citigroup. Both private equity and sovereign wealth funds provoke unease, partially because of their very newness; however, closer examination reveals differences between their paths and a much more complex picture than that of monolithic, power hungry institutions. Governments do not appear ready to lash out against these golden geese, nor do these financial institutions appear poised to exert dramatic global influence.

The New Colossi
For private equity, global movement is mainly from America outward, and fewer players exist overseas. In an interview with HPR, Professor Viral Acharya of the London Business School said that, in the future, “The move will be towards Europe and towards emerging markets from the U.S. and U.K.” Private equity firms have been painted as super-wealthy potentates playing games of speculation with the economy. One of the charges leveled against these funds is that they simply flip firms, making quick profits without regard to the long run. But private equity funds often invest much longer than the average shareholder, who doesn’t hold that long, lasting between a year and eighteen months on average, according to Acharya. Other fears in the media portray private equity as overrunning public companies en masse. But much of private investment is concerned with private firms. “There’s a misconception in the popular press that most private equity is about public companies, but it’s not,” said Acharya, noting that, for example in the United Kingdom, “it’s about 20 percent of the market.” One of the more inchoate worries is that private equity is accelerating a concentration of wealth and power, but the number of investors is increasing, and the types of investors are broadening, with even pension funds starting to look into private equity, said Acharya.

The new kids on the block, in terms of economic might, are sovereign wealth funds. Clouding their speedy rise are questions raised by Western media and governments about their management and purposes. Do they pose a threat to political stability? “That’s the three-trillion dollar question,” said Douglas Rediker, Co-Director of the Global Strategic Finance Initiative at the New America Foundation, in an interview with HPR. Sovereign wealth funds have never been this big before, or grown at such a pace. The International Monetary Fund has estimated that sovereign wealth funds could account for $12 trillion dollars by 2012.One problem that belies handy analysis of sovereign wealth funds, however, is their sheer diversity. Countries from Norway to Botswana operate sovereign wealth funds, and generalization about their aims or activities is difficult. But uncertainties about the motives of these funds are growing.

Many of these fears are compounded by a general opacity that prevents much analysis, as Brad Setser, Fellow for Geoeconomics at the Council for Foreign Relations, told the HPR. “The potential to use this finance as a political tool exists,” said Rediker. There are also questions to be raised about the motives of several nations in heavily promoting their sovereign wealth funds. “There’s nothing intrinsic about the growth and rise and financial wealth of the emerging world that implies that [those] markets would be financing the U.S. and Europe,” said Setser. And while the United States oversees certain investments by sovereign wealth funds, most notably through the Committee on Foreign Investment in the United States, its scope is arguably quite narrow, as its mandate is to protect issues of “national security,” while other nations reserve the right to reject deals against “national interest.” When Kuwait’s sovereign wealth fund made a huge purchase in British Petroleum in 1987, the British government ordered it to sell. Such action could not be taken in the U.S. under present rules.

Realistic Reappraisal
However, the opacity of sovereign wealth funds does not equal a sinister history. Indeed, while sovereign wealth funds have a history dating back to 1950s, the evidence for fears is virtually nonexistent. “There have been few if any instances where you can point to political influence having been part of an investment decision,” said Rediker. And it’s difficult to single out sovereign wealth funds for reform, for an important practical reason. Rediker noted that they disclose just as much information as private equity or hedge funds, and since giving up information can mean giving up market advantages, sovereign wealth funds are not keen on it. A second charge against sovereign wealth funds is that they could become political weapons of foreign governments. “Business is war,” goes the Japanese motto. But the political possibilities of sovereign wealth funds are not as clear as brinkmanship between states. Indeed, one of the most directly political sovereign wealth funds is that of Norway, though not in a way one might expect. Norwegians decided not to invest in companies they felt were morally deficient, which included arms manufacturers, tobacco companies, and Wal-Mart. So “political investing” can take many forms.

Mistrust of private equity and sovereign wealth funds will never go away, due in part to the misunderstandings, complexity, and obscurity involved. What is true is that there is always a price to be paid for growth, and the fact is that the world relies on financial foundations different from the old model of unipolar American power. Private equity and sovereign wealth funds inject some doubt into the equation. But at the moment, the benefits are outweighing the fears Western governments may have. Private equity funds in particular are becoming accepted as major players. And while America and Europe may be unused to being financed by the “developing world,” the lack of evidence of sovereign wealth’s political ambitions and the injection of capital into Western economies makes the practice unlikely to stop. These new forces of capitalism may finance the leaders of the next century, but they are unlikely to topple them. ]]>http://hprsite.squarespace.com/golden-geese-042008/rss-comments-entry-1780681.xml