SOVEREIGN FUNDS, NEW PATTERNS OF GLOBAL ECONOMIC GROWTH AND HARMONIZATION OF RULES IN INTERNATIONAL POLITICS
Opening class Rotman course on Globalization, Capital Market Innovations and Sustainable Prosperity
There are some new patterns of activity in the global economy. The first is that there are new categories of growth activity, from motorcycle companies in India to design studios in Shanghai. From investment behaviour, restructuring of petrochemical companies in Thailand and commercialization of resource production in Kazakhstan create new opportunities for investors. A slowing of growth in the North American economy can be compensated by enhanced activities in new markets. The competition for new investors can create an auction for assets. This is what is called the management of global capital markets.
With this comes new challenges: the globalization of labour gives a competitive advantage to those whose manufacturing facilities lack both unions and safety regulations, the free movement of capital means that state-controlled capital from Dubai or China can behave the same way as savings-formed capital among institutional investors in Switzerland, Japan or Canada or personal investing from Canadians, Americans or Germans investing through public exchanges, the concentration of expertise in the hands of private equity players and hedge funds creates new issues of accountability.
Let us start the course with some case studies that illustrate these changes in global capital markets, political economy and economic security. From these we can start to discern future patterns of global economic activity, wealth-creation and financial risk:
(i) Sovereign wealth funds and global investment hollowing out and reciprocity: the role of sovereign funds has transformed the logic of trade and investment liberalization, but also assumptions about capital market activities and behaviour. If we start by looking at the investment strategies of Singapore and Dubai, Dubai’s oversees investment strategy, China and Qatar’s as case studies; we start to see the shape of new economic activity.
(ii) Dubai attempts to buy the Auckland airport as a gateway for Pacific travel. The bid is withdrawn, allowing a possible Canadian investment from Canada Pension Fund Investment Board.
(iii) China and Blackstone. The Chinese government investment activities involve the substantial investment of Blackstone
(iv) Qatar shops for Sainsbury. The interest of Gulf capital in restructuring the European retain sector makes the Sainsbury case particularly interesting and relevant.
(v) Russian builder of nuclear plants. Atomstroyexport has developed a strategy for exporting nuclear reactors and in the process is reshaping the global nuclear energy industry. The competitive structure of the market between Areva, Siemens, GE and Atomstroyexport are revealing of new patterns of global competition with implications for geostrategic debates about nuclear power.
(vi) Thai petrochemicals. Thailand’s plans to become a world leader in petrochemicals are another example of national strategies potentially restructuring global capacities in a key sector.
New capital market centres:
(vii) FT on which Asian centre rivals NY and London . The spikes in the global economy are creating substantially different roles for Asian markets. Mumbai, Dubai, Singapore, Hong Kong, Shanghai are all developing new roles in the global economy. The Dubai Investment bid for the OSX Scandinavian exchange reveals a similar set of strategic issues and challenges about the way the new global capital markets are organized.
(viii) FT hedge funds and private equity a line to Berlin. The German government’s reaction to hedge funds and private equity investment has changed substantially since the Merkel government’s election and an election campaign which raised the question of the role of hedge funds and private equity in the most focused manner since the Malaysian government’s reaction to the role of hedge funds in the 1997 Asian financial crisis.
Political trends that affect global capital market strategies and regulation:
(ix) Estonia and cyber-sabotage .
(x) China and India compete for PetroKazakhstan.
(xi) China as a model for Iran .
When one examines these eleven case studies, rather like a geological relief-map, one can see the way the world economy is being reshaped.
(Case 1) The pattern of cross-border investments and M&A is changing with thee emergence of sovereign actors. These will not behave in the same way as private equity funds or traditional M&A operations. The importance of government continues to grow, and the difficulty of providing reciprocity (same standards in both jurisdictions) changes the way in which international capital markets behave. The government of Kazakhstan can but through sovereign equity a real estate project in Canada.
Major changes in the financing of infrastructure are made by (case 2) players with large supplies of capital. Auckland Airport, Dubai Ports activities in its acquisition of P&O leaving it with an ownership position in American ports are prototypical case studies of this new global economy.
The Chinese attempt to invest more in the profitable activities of private equity players like Blackstone ( Case 3) show that for China, Dubai, Kazakhstan, the Emirates are engaging in strategic investment activities. The diversification process of the Emirates from oil and gas leads them into specific new markets like U.K. retail. Other previous examples of this diversification come from quasi-state players like Kingdom Holding of Prince Al-Waleed , through which his portfolio of publicly traded companies like Citigroup and Apple is held. Kingdom is not yet listed on the Riyadh stock exchange.
Similarly, the Qatar government’s acquisition of U.K. retailer Sainsbury (case 4) represents a substantial change in investment strategy for Gulf capital markets with implications for the valuations of European retail industry in particular.
The restructuring of global industries, like nuclear energy (case 5) and petrochemicals (case 6) involve substantial numbers of new players emerging from areas where they were not previously market-forming actors.
Investment banking and portfolio activities are also transforming where there are key areas of activity in the global economy, from the potential rivalries of Seoul, Mumbai, Singapore, Shenzhen, Tokyo, Hong Kong, Shanghai to the New York and London financial markets (case 7).
The changing attitudes towards longterm private equity players like Blackstone in Germany from “locusts” like hedge funds to the agents of creative destruction and regeneration of the German Economy (case 8) show how transformative the emergence of these new players has been.
This all is taking place against a new backdrop of global politics, where non-state actors or actors with the passive backing of states can have severe economic impact. The example (case 9) of the sabotage of the Estonian economy as the world’s first act of cyber sabotage makes a good starting point for this analysis.
The battle between China and India for ownership of the Canadian-formed Kazakh oil company Petro Kazakhstan (case 10) shows the new patterns of competition in the global economy.
The emerging China-Iran relationship as great empires attempting to modernize (case 11) also show some new patterns in the way that the world political economy is evolving.
The skills required to be successful in global finance in the future will require the understanding of the new trends of wealth creation and investment banking in the global economy. These cases will focus on questions that are beyond this course or any business degree to resolve in their entirety: (i) how does the development of microgeographies, the development of remittances , and the globalization of labour markets affect currency flow and the conventional assumptions about capital formation in emerging markets; (ii) how does the current credit-crunch in U.S. capital markets affect the relative power of hedge funds, sovereign equity funds and private equity in the operation of the international economy, on issues like privatization, cross-border mergers and acquisitions and sectoral consolidation? (iii) how does one achieve a non-corrupt and predictable global capital market where innovation can be rewarded , entrepreneurs backed and large amounts of capital are not wasted through the kind of “oil curse” process of revenue transfers that have characterized other economic patterns? (iv) What happens to the quantitative modeling on which much wealth management has been based when Chinese, Singaporean and Gulf capital market strategies operate according to criteria different from those which programmed the assumptions of the modelers.
My view is that there are two new trends which are going to shape the global capital markets in the next decade: the first is that the capacity to back entrepreneurs through global investment structures will change dramatically, leading to global venture capital models and strategic alliances between wealth-creating investors. If this trend is encouraged by the expansion of microcredits and entrepreneurial philanthropy, we will see thousands of new wealth-created companies from Senegal to Surinam with capital structures very different from those we have imagined in the commercialization of technologies like Intel or Bausch in previous business-cycles. For this to happen, the global capital markets have to have the information required to predict future sources of value and discover new entrepreneurs, but also the discipline and the non-corruption necessary for these companies to grow. This may lead to entrepreneurial “spikes” in the global economy, where certain regions of the world become collaborative entrepreneurial science centres in the way Silicon Valley did in the past. The Red Herring Asia list shows many of these new companies and a scale of potential wealth creation with obvious ramifications for the global economy. The history of economic geography teaches us that even with web communication; geographical regions become hosts to entrepreneurial activities. People like to socialize, exchange ideas informally, live in a secure area, feel that they are functioning in a transparent and aggressively ethical legal culture and so zones will become magnets for activities: Helsinki-Tallinn is one example, perhaps the development of a venture capital friendly zone in Tianjin is another, the Dubai Internet City remains another, and the attempt to build Singapore-Malaysia-Indonesia economic development zones in the Riau islands may be another. .
These may or may not succeed depending on the relationship they have with B-Schools, which remain the driver of so much commercialization of knowledge and the extent to which they develop a legal culture that makes possible economic growth. But this first trend is exciting. If Riau and Dubai were really competing to be the new Switzerland of wealth-protection and discipline capital formation, then there would be collateral benefits from all of us from this competition.
The second trend is more complicated. In investment banking, the ability to manage the borderlines between economic and politics are precisely what determines successful from unsuccessful activities. Advocates of free trade have historically been naive about the ways in which domestic economies favour local actors: the “non –political court systems of the United States”, the capacity to disguise subsidies in defense expenditures in many countries, including the United States and France, a blame-outsiders mentality which kicks in when there is a crisis . Consolidation of an international economy requires multilateral processes (perhaps institutions, but certainly processes) which ensure that there are transparent global rules. This requires a new economic thinking. Is a billion-dollar investment from Lukoil the same as a billion-dollar investment from CNOOC or a billion dollar investment from Goldman Sachs or a billion dollar investment from a hedge fund in Connecticut? One can talk about these questions as much as one likes, but the reality is two of the past five Secretaries of the Treasury in the United States ran Goldman Sachs, and a third head of Goldman Sachs became a powerful Senator from New Jersey (and is now Governor of that state). The Minister of Finance in France, Christine Lagarde, ran the Chicago activities of the international law firm Baker McKenzie.
This is all to say that the challenge is economics is the same as the challenge in international war crimes trials: to establish an international rule of law which does not look like an imposition of rules designed by former colonial powers and the United States on other countries in the world. On the other hand, weak international frameworks which take the lowest common denominator from the legal systems of Denmark, Australia and Equatorial Guinea make no sense in moral or economic terms. This challenge lies at the heart of many of our concerns about the stability of the international financial system. Some of us remain enormously concerned about the economic empowerment of regimes like that of Equatorial Guinea, which has the competitive advantage of geographical geology. The Iraq war and the incompetence of the Bush Administration have served to obscure many of the key trends which need management if the global economy is to achieve stability. Europe shows the potential in harmonizing the economic systems of Slovenia, Bulgaria and Finland, but also shows the tremendous challenges in doing this without ending up with lowest common denominator decision-making disguised as good-faith multilateral bargaining.
The framework within which decisions are taking place makes the issues of this course even more urgent: for financial decision-makers, we are constantly assessing risks in various trends and how to position ourselves (in portfolio management, in assessing acquisition targets) in this topography of risk. The political redesign of the global capital markets will be led by those countries with a stake in transparency because they are knowledge-rich, export-oriented democracies. A Prague-Helsinki-Ottawa-New Delhi-Singapore collaboration could move beyond a council of democracies to be a steering committee for global financial market regulation. If we fail to do this, the current trends will lead to a protectionist backlash as suspicion of CNOOC, Temasek, Dubai investment activities and the export of Russian capital leads to , at minimum, the establishment of different classes of capital in economic activity, and at a maximum, the restriction of foreign investment in generic terms, simply because that seems to be the easiest and superficially most popular policy initiative.
A global capital market where Dubai, Singapore, China played by the same kinds of rules as Swiss and Dutch banks in the earlier 20th Century is potentially an exciting prospect, possibly ushering in a long cycle or economic growth and the chance to ameliorate global conditions by creating the preconditions for economic growth in corners of the planet. Once again, a new generation of decision-makers has to learn that there can be no economic growth without efficient and disciplined global capital markets.