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Academic Paper: US Sovereign Wealth Funds Fearful of Political Baggage

A new academic paper explores domestic sovereign wealth funds, with a focus on their origins, purpose, and governance, noting that such funds are wary of political maneuvering.  

(December 12, 2011) -- A recently published academic paper is asserting that political manipulation--often thought to be a tenant of foreign sovereign wealth funds--is also an issue on American shores.

The paper highlights that the rise of sovereign wealth funds in the US signals a shift in the balance of economic and financial power in the world, asserting that such funds are wary of political manipulation. While in recent years, a lot of attention has been given to the creation and use of sovereign wealth funds by fast-rising foreign powers, the paper by Paul Rose of Ohio State University’s Moritz College of Law asserts that many SWFs have existed for decades. Some of these older SWFs, therefore, are owned by US states, thus also implicating federal relations and domestic politics. “A great deal of research has focused on the international aspects of new, foreign sovereign wealth,” writes Rose, but “this article instead examines older (but much less studied) domestic sovereign wealth funds, with a focus on their origins, purpose, and governance, as well as the role they play within a federalist system of government." The paper draws attention to the danger of political uses of sovereign wealth funds, when funds lean toward the discretion of politicians over fund managers, who aim to purely maximize returns.

"US sovereign wealth funds are often hesitant to be classified as SWFs because of political baggage," Rose tells aiCIO. "The negative connotation comes from the perception among some that SWFs are often being used globally in a political way, by China, for example...Of course managers want free reign to be able to invest as they would any other aggregation of capital -- they realize they have fiduciary duties and don't want to be a political football for state legislatures," he says, noting that some while some states, such as Alaska, have been successful at maintaining that insulation, other states, such as New Mexico, have had many problems.

"New Mexico has had problems with insulating their fund from political uses, which has contributed to a pay-to play scandal," Rose says. In the report, he concludes that despite some of the concerns with state SWFs, these large pools of capital may, if properly designed, leverage political accountability through market accountability. "This is especially likely to be the case in Alaska, where an easily identified, market-related result—the annual dividend payment—encourages citizen attention to the government’s management of state resources. On the other hand, a poorly designed and poorly governed SWF is likely to increase problems with political accountability, as the SWF adds another means of rent-seeking by politicians and others," Rose writes.

The paper continues: "State SWFs also raise important concerns about state governance and state management of resource wealth. This article illuminates these issues by asking a few foundational questions: Why was the SWF created, and what role does it currently play? What are the financial, economic or equitable principles underlying its formation? Should a SWF be drawn down in times of economic distress? And how does the legal framework in which these funds operate ensure the funds achieve their stated goals?"

Click here to read an aiCIO Magazine cover story on the Alaska Permanent Fund and how the oil-rich state is leading the way toward a new method of asset allocation, bringing in some of the world’s most powerful money managers to do its bidding.