Europe looks at controls on state-owned investors

July 17, 2007
Singapore Democrats

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Carter Dougherty
International Herald Tribune (13 Jul 07)
16 Jul 07
http://www.iht.com/articles/2007/07/13/business/protect.php

European policy makers are considering imposing controls on state-owned funds that take stakes in flagship European companies. The deliberations that have kicked off in recent weeks are a reaction to the uncertain political intentions of China and Russia as they start investing vast new reservoirs of cash in Western markets.

So-called “sovereign wealth funds” have taken off recently as a way for emerging-market countries to earn higher returns on excess reserves, rather than squirreling them away in the usual low-yielding government securities.

Whether backed by China’s $1.2 trillion in currency reserves, or the profits that are accruing in places like Russia and the United Arab Emirates from energy sales, such funds are posing a dilemma even for politicians with strong records of supporting foreign investment: Do the state-controlled investors simply want to make money, or might they be seeking political influence as well?

“With those sovereign funds we now have a new and completely unknown elements in circulation,” the Chancellor Angela Merkel of Germany said recently. “One cannot simply react as if these are completely normal funds of privately pooled capital.”

The German government has taken the lead in Europe, with officials hoping to hash out a plan of action by the end of this yearFrance is supporting the German initiative, which could lead to restrictions, or at least careful reviews, of moves made by the varying types of state-controlled investors that have sprung up in the last few years.

“I find that our German friends are totally right to do this,” said Jean-Pierre Jouyet, the French European affairs minister. “We have to be better organized on the European level to defend our interests.”

This week, Charlie McCreevey, the European Union’s commissioner for the internal market, directed his senior officials to mount a similar exercise – although with no specific mandate. Other members of the commission, including Peter Mandelson, who handles trade policy, are also following the issue, EU officials said.

“We are trying to avoid coming at this with easy, early shots,” said Oliver Drewes, McCreevey’s spokesman. “But it is an important enough development, a new one on the European agenda, that the European Commission needs to take a look.”

The political attention the funds are drawing in Europe raises what for some are troubling questions about whether the exercise is a veiled form of protectionism. Even with the best of intentions, scrutinizing financial flows could antagonize major trading partners, like China, and squeeze the investment that Europe will need in the future.

“The most serious question is how we do this without creating a new kind of protectionism,” said Elmar Brok, a German conservative who sits in the European Parliament. “As exporting countries we cannot afford that at all.”

Some countries, like Singapore and Dubai, have long had public investment funds that invest abroad.

But the emergence of much larger players – most notably China and Russia – have drawn new attention. These new pools of wealth, fed by sales of natural resources and growing currency reserves, can operate in different forms. But what they have in common is that they are ultimately controlled by governments rather than private investors.

Stephen Jen, global head of currency research at Morgan Stanley, has estimated that emerging market countries now have about $1.5 trillion in excess reserves to invest.

China above all set the tone when it announced plans in March to invest some of its $1.2 trillion in reserves in higher-yielding assets than the U.S. government securities it owns now. In May, it took a $3 billion, nonvoting stake in Blackstone, the U.S. private equity giant that has been active in Europe as well.

Likewise, Russia announced that it would invest a portion of its $357 billion of official reserves, designated the Future Generations Fund, creating a fund of $30 billion. That could grow by $40 billion a year from oil and natural gas exports.

A wake-up call for Germany came after Russia took a 5 percent stake in European Aeronautics Defense & Space, the parent of aircraft manufacturer Airbus, through a state bank last year. German officials said that triggered their current deliberations.

When DaimlerChrysler, the main German EADS shareholder, later sold 7.5 percent of the company, it was transferred to a consortium of German banks rather than being sold on the open market, where Russia could have seized the opportunity to raise its stake.

Russia, whose push for a board seat at EADS was rebuffed, said this week that it was now considering selling its stake.

What unsettles European leaders the most is that the intentions of the funds are murky – and assuming the worst could provoke disputes with Moscow and Beijing