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Category: Economics

Why a sovereign wealth fund could be Brexit Britain’s first imperative

Sovereign wealth funds are increasingly being seen as a prudent way for states to save and invest, but is it now too late for the UK t...

23 July 2017

Alex Matchett

Sovereign wealth funds are increasingly being seen as a prudent way for states to save and invest, but is it now too late for the UK to join the party? Alex Matchett investigates the feasibility of a British sovereign wealth fund

All states are mandated to save for a rainy day. However, there are some states who have been able to save for the proverbial flood via the providence provided by their sovereign wealth funds. The world’s largest such funds includes American and Japanese pensions but it is the behemoth investment engines set up following hydrocarbon boons that have become synonymous with the term ‘sovereign wealth’.

The UK is currently not at the party. Although it has a state pension system it does not have a sovereign wealth investment fund. This is perhaps surprising given that Britain’s partner in the North Sea hydrocarbon glut, Norway, now has the world’s largest sovereign wealth fund totalling a staggering $885 billion. Regret, and no doubt jealousy, has informed a debate in recent years on whether it is still too late to create a British sovereign wealth fund, considering the hydrocarbon golden goose has flown.

“We’re not quite yet at the right time to start one, but we will in a few years’ time — once the budget is in, or close to, balance,” says John Penrose, Member of Parliament for Weston-super-Mare. “At that moment we’ll have a golden window of opportunity”.

When we get there Penrose says the UK will face a choice: “Either to go back to our bad old ways, where economists of left and right say the British economy is too dependent on consumer demand, too prone to borrowing and doesn’t invest enough in the long term. Or we vow to change our approach and start fixing this fundamental brittleness. If we make the changes institutionally and politically then we can deliver the economic changes that are necessary, and that I’m suggesting the sovereign wealth fund will deliver.”

“The moment”, as it approaches, may seem equally burdened and opportune given the historic vote to leave the EU. Penrose likens the sense of juncture to the decisions made following the Second World War which saw the establishment of Britain’s modern welfare state. “There’s a willingness to address questions now which we haven’t had to address for over forty years. And if you have a really strong balance sheet, as a country and as a government, then it equips you better to withstand the external shocks which come along every once in a while.”

Penrose mentions the potential of fracking and Cornish lithium but is unconvinced they’ll provide in the same way petrodollars have fed funds in the Middle East and Norway. “It would be lovely if there was another North Sea oil or other natural resources bonanza — but if we’re going to set up a sovereign wealth fun we’re going to have to find another way of doing it.”

One of Penrose’s colleagues in the House of Commons, Gareth Thomas, the Member of Parliament for Harrow West, believes he has identified that other way, it the form of the nation’s oldest asset: “We should turn the Crown Estates into a sovereign wealth fund,” he says. “It has a substantial asset base in the UK in terms of retail property and has clear experience in that area but is currently not allowed to invest overseas; and I cannot see why not. With that simple legal change you could see it continue to develop and grow as a sovereign wealth fund.”

Although he says Margaret Thatcher squandered Britain’s North Sea wealth Thomas believes the UK’s financial expertise puts it in good stead to utilise its nationally owned real estate that is already worth £12 billion,  and which has given the Treasury a yield of £2.4 billion over the last ten years. That interest could help with much needed expenditure he says but “the beauty of sovereign wealth funds is that they can invest in assets that create jobs in your country, or in other countries and bring a benefit as a result. Given the expertise of the Crown Estate, which lies in retail parks, there’s plenty of scope for that style of investment in Asia and in the rising countries around the world — why not allow it to get cracking?”

Thomas echoes Penrose’s belief that Brexit is a chance to asses how the state uses its assets. He says the UK has a chance to show sovereign wealth funds need not be the preserve of oil rich, low population states, mentioning the Crown Estate’s ownership of the seabed and how that can be used, not for fossil fuel extraction, but for capitalising on tidal energy and investing appropriately in new technologies.

Having put forward his proposals as chair of the Co-operative Party, Thomas is clear on the imperative that any British sovereign wealth fund would have to be ethically prudent and non- party political in its investing; another reason the Crown Estate would make a good vehicle: “it has not featured as a source of bi-partisan controversy that I can recall, which is testimony to the skill of its staff and its management”. Likewise, Penrose agrees that “sticky fingered” politicians should be kept away from the management of such funds; short term policy headlines being their antithesis.

Funds that have been subject to government intervention struggle to prove their existence is solely in the public interest. Indeed, those states interpreting “sovereign” as self-licence have become pariahs in the space: Malaysia’s “disgustingly corrupt” sovereign wealth fund is now infamous as a by-word for the crippling cost of Neronian self-interest in a developing country. “The money is used to buy superyachts, art, produce movies, bribe governments, fund cronies — anything but for actual local development,” said one source.

However, such corruption has helped inform global best practice says Scott Morris, senior fellow and director of the US Development Policy Initiative at the Centre for Global Development. Following such abuse “countries have made pretty clear commitments to professionalism and to ensure there are bright lines and clear walls between political decision making and the management of these funds”.

Norway’s hydrocarbon boom underpins its sovereign wealth fund. Photo shows an oil platform under maintenance. Bergen, Norway.

There are some though, who argue that making a sovereign wealth fund transparent and accountable shouldn’t make it politically passive. Martin Skancke, a former adviser to the Norwegian prime minister and director general of the Ministry of Finance Asset Management which oversees the Norwegian sovereign wealth fund, now advises other states seeking similar fund success. “It’s not necessarily appropriate to keep it away from politics,” he says. “The Norwegian fund represents the common assets of the people of Norway and the politicians are elected to look after the interests of the people. I think there are some issues that it’s natural for politicians to have an opinion on: for example the overall risk level of the fund, because there isn’t a right or wrong risk level. The issue isn’t how you insulate the fund from political involvement; it’s how you find the appropriate level of political involvement.”

That ability to hold political conversations should be front and centre says Skancke, especially in the UK’s case: “They must start by asking questions on what the fund is for. Is it intended to have a macro-economic role or is it more of a development fund for the country.” Either way, he says, barriers to entry must remain high, underlining the point that a state running a budget deficit, like the UK, would have to borrow even more to create a sovereign wealth fund from scratch.

Morris also has advice for any nascent fund: “It’s really about how much resources do you use now and how much do you set aside of the future. There could be a risk than by channelling too much into long-term stable investments, that’s money you’re not spending today on behalf of your citizenry. That’s not just consumption but includes things that are investments in themselves and that have payoffs, like infrastructure and education. For economies like the UK that’s a very hard decision.”

Regardless, it is hard to argue against the prudence of having an investing fund to support your economy and commit to future prosperity. As the UK marks a decade of austerity since the beginning of the financial crisis, seeks to erase the deficit and prepares for Brexit, a sovereign wealth fund could not seem more prudent.

That prudence pens a realist epilogue. Given the size of other sovereign funds, an undertone of real-politik is increasingly undeniable. The Norwegian fund currently owns 1% of all listed shares globally, 2% of those in Europe and has a formidable property portfolio, notably including a 150 year lease from the Crown Estate of much of Regent Street. Such size means the stated macro-economic approach of the fund that Skancke mentions, is partly a recognition of its own agency in the markets it invests in.

“At the end of the day these funds are owned by governments,” says Morris, pointing to the fact sovereign wealth is mandated by power seeking bodies. “Look at a country like China, which has accumulated a mass of reserves, not through a resource windfall but through policy decisions when it comes to trade with other countries and currency decisions. Obviously there are political conflicts that arise with that — like we’ve seen with the current administration in the United States.

Next year the proposed flotation of 5% of Saudi Arabia’s Aramco could raise $100 billion for the kingdom’s sovereign wealth fund. The economic gravity of state owned investment vehicles is growing, as is the political premium; whether the UK decides to launch its own fund or not, that is something it cannot ignore.


Alex Matchett is editor of Glint

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