A Fistful of Dinars

For a nation reeling from the subprime crisis, sovereign wealth funds can be more a blessing than a curse—but only if we make the right moves now.

Last November, as many American banks suffered through the subprime lending crisis, an unlikely savior emerged for Citigroup. One of the largest financial companies in the world and one of the hardest-hit institutions in the mortgage meltdown, the bank was in desperate need of cash. As recently as a year ago, that savior would likely have been a private equity fund, if not the federal government itself. This time, though, the savior hailed not from Wall Street or Washington, but the Persian Gulf. The Abu Dhabi Investment Authority, a fund controlled by a tiny city-state in the United Arab Emirates, agreed to provide the banking giant with a much-needed capital infusion–to the tune of $7.5 billion.

The Abu Dhabi investment was just a start. A fund run by the Chinese government recently purchased 10 percent of Blackstone, one of the most prominent American investment management firms. Kuwait’s fund took a stake in the European Aeronautic Defense and Space company, an air and space (and military) giant, while in 2007 Dubai bought both luxury retailer Barney’s and a 19.9 percent stake in the Nasdaq stock market. According to Morgan Stanley, funds run by individual governments invested over $40 billion in global financial institutions between April and December 2007 alone. Among other deals, in December Singapore’s $100 billion fund bought a 9 percent stake of giant Swiss bank UBS for almost $10 billion, purchased a stake of Merrill Lynch, and announced it would invest some $1 billion in a new private equity fund created by Goldman Sachs. In October, a Dubai fund purchased 10 percent of Och-Ziff Capital Management, a leading American hedge fund. In September, Qatar’s fund acquired 20 percent of the London Stock Exchange, and that same month Abu Dhabi’s investment arm bought a $1.35 billion share of Carlyle Group, another leading private equity firm known for its political connections, counting at times George H.W. Bush, John Major, and James Baker III as senior advisers.

These sovereign wealth funds (SWFs)–state-owned investment corporations that buy up financial assets like companies, stocks, bonds, and property, often using funds from national reserves–have been around for decades. But over the past five years they have mushroomed in size and exploded onto global markets, making rapid-fire purchases around the globe and spawning imitators in nearly every country with spare wealth on its hands. Many of the SWFs hail from oil producers, whose reserves are skyrocketing as the price of petroleum rises; other SWFs come from leading exporters like China and Singapore, which enjoy massive trade surpluses. Today, roughly two dozen nations have SWFs, and they hold as much as $3 trillion in international investments; by comparison, the much-vaunted hedge fund sector controls approximately $2.5 trillion. Abu Dhabi’s fund, the biggest in the world, alone controls an estimated $1.3 trillion in assets, and eight other SWFs hold over $100 billion. And SWFs will only become more powerful: According to a study by Morgan Stanley, they could control some $12 trillion by 2015 and nearly $30 trillion by 2022, which would make them among the biggest financial players in the world. And, as the almost-daily headlines attest, U.S. banks and other institutions are happy to take their money. As financial historian Charles Geisst told the Financial Times in January, “Not since before World War I have companies gone looking for foreign capital as much as they are now.”

Abu Dhabi’s investment in Citigroup immediately sparked fierce debate in Congress and the media. Some charged that Citigroup was selling a stake in the nation’s financial stability to an opaque fund from a nation, the UAE, which has at times been a fickle American ally. A few even called for tighter restrictions on how much foreign entities could invest in American financial institutions. On the eve of Kuwait’s massive new investment, New York Senator Chuck Schumer, a senior member of the Senate Banking Committee, said: “Because sovereign wealth funds, by definition, are potentially susceptible to non-economic interests, the closer they come to exercising control and influence, the greater concerns we have,” and he hinted that he may call for tighter regulation of foreign financial investments. And in January the Senate ordered the Government Accountability Office (GAO) to examine, among other questions, how much money SWFs possess and how they structure their investments. Indeed, the accumulation of capital by national governments is creating concerns across the globe, sparking a possible protectionist backlash from Europe to America to Thailand. In January, French President Nicolas Sarkozy publicly warned that Paris would protect French assets from “extremely aggressive sovereign funds.” And even Undersecretary of the Treasury David McCormick, a high-ranking official in a remarkably pro-market administration, told the Financial Times in January, “The growth of these funds and increased levels of their investment does raise legitimate questions about how we can ensure that that investment continues to be commercially driven.” Such a backlash is even more worrying in an era when publics in Europe and the United States are souring on free trade and globalization, and in which the Doha round of multilateral World Trade Organization negotiations now shudders on life support.

But for all the opponents of the Abu Dhabi purchase and other deals, SWFs have their supporters, too–and not just in Beijing and Moscow. Free-market ideologues defended the Abu Dhabi deal by arguing that its Investment Authority was no different than any other private investor and that, after all, Citigroup really needed the money. “Sovereign Wealth Funds No Cause for Panic,” argued a “WebMemo” from the conservative Heritage Foundation. “Policymakers should not consider stricter investment controls in the wake of Abu Dhabi’s purchase.” The White House has also been generally supportive. In a recent article in Foreign Affairs, Deputy Treasury Secretary Robert Kimmitt argued, “Sovereign wealth funds may be considered a force for financial stability.” And undoubtedly having in mind the UK’s aggressive courting of SWF money, Treasury Secretary Henry Paulson recently declared, “We welcome foreign investment in the United States from sovereign wealth funds.”

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