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Sovereign wealth fund: a governance issue

THE talk of the town these days is the proposed sovereign wealth fund (SWF). Briefly, the SWF will be capitalized at P250 billion and is supposed to promote economic development, strengthen the national budget and boost citizen savings. It will be allowed to invest in cash, foreign currencies, tradeable commodities, fixed-income investments, listed and unlisted equities such as stocks, financial derivatives, joint ventures, mutual funds and commercial real estate and infrastructure.

SWFs are typically created when governments have budgetary surpluses or have little or no international debt. Kuwait, for example, created its SWF in 1953 to invest substantial revenues from its oil industry. Other commodity rich funds followed. Non-commodity-based countries with vast current account surpluses got into the fray, like China, Korea, Taiwan, Hong Kong and Singapore. Initially, it was to manage their exchange rate systems, and later to reap higher returns.

According to Lee and Wang, SWFs aim to convert physical wealth (often mineral wealth) into financial wealth and preserve such wealth in a trust format for the benefit of multiple generations. They aim to manage pools of excess reserves used to support domestic currencies to ensure financial stability, as well as provide for some level of fiscal contingency.

The first two premises of SWF creation as observed worldwide need to be asked about the Philippine case. First, is our country rich with accumulated substantial foreign exchange reserves from commodity exports?  Second, are we following the model of SWFs in Asian countries which are mostly based on conventional current account surpluses derived from non-resource exports and persistent balance of payment surpluses associated with capital inflows and increasing foreign exchange reserves?

The short answer to these two salient questions is a resounding no. This column does not have enough space to elucidate on this, but it is well known how government budget deficit was a full-year P1.7 trillion in 2021 or 8.61% of GDP.  This year, it will slightly decrease but should still be way above the peso trillion mark. We have also breached the borderline 60% debt-to-GDP ratio being monitored by international and multilateral agencies, reaching 62.10% in 2Q 2022.

Granted, for the sake of argument, that we can justify a Philippine SWF, Kin-Yip Ho and Zhaoyong Zhang have raised important unresolved issues hounding the operations of existing Asian SWFs. “First, would these SWFs use their financial power and clout to advance their political ambitions. As these SWFs have operated in a rather secretive and non-transparent manner with limited disclosure on their strategies, do they have a hidden political agenda? Second, would their investments destabilize international financial markets? Third, would a conflict of interest arise between SWFs and the recipient countries where these funds are invested, since SWF investments could have macroeconomic implications for the local government? Fourth, would the aggressiveness of SWFs create backlash and encourage the rise of protectionism in recipients’ countries? Finally, would SWFs lead to state capitalism and undermine the free market system?”

Ho and Zhang highlighted the biggest issue that will pester the proposed SWF when they cited the common practice of “secretive and non-transparent” management of SWFs. I admire the forthrightness of BSP Governor Felipe Medalla who said in a Bloomberg TV interview that “Even if the current guys are okay, will the guys five years from now still be okay?  It’s a governance issue.” Medalla expressed his lukewarm attitude towards the fund and his concern that the monetary authority’s independence could be compromised. He clearly expressed doubts about its reason for creation and as a respected economist and practitioner/leader combined, Medalla’s views should be heard.

The four core principles of good governance are accountability, transparency, fairness and responsibility. Will the SWF be able to account for and explain every and all actions it takes, take ownership of risks and build trust with its stakeholders?  Will the SWF affairs be open and fully disclosed accurately and on time? Will it strive for good business ethics? Will its board and management wield their power responsibly?

The sovereign wealth fund proposal deserves closer scrutiny and evaluation.  There are so many unanswered questions.  We have not even touched on the proposal to tap SSS and GSIS pension funds, which is receiving a lot of negative reviews.  Why should these funds, already threatened in their actuarial lives, be risked for the SWF? And what types of projects will the SWF sponsor? There is no mention of sustainability objectives or the cause of environment, social and governance goals.

We can only hope the powers that decide on this proposal will cover all angles before rushing into action.  It is amazing that it passed Congressional approval in record time despite its complications. We need to subject this proposal to more intensive deliberation. The academe and serious policy wonks should be consulted. Decisions should be based on verifiable data and a review of past practices, even if elsewhere.  We should learn from lessons learned by the international community and not reinvent the wheel. Any program that is supposed to preserve our wealth as a nation deserves no less.


The views expressed herein are his own and does not necessarily reflect the opinion of his office as well as FINEX.

Benel Dela Paz Lagua was previously EVP and chief development officer at the Development Bank of the Philippines.  He is an active FINEX member and an advocate of risk-based lending for SMEs. Today, he is independent director in progressive banks and in some NGOs.

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