Sovereign-Wealth Funds: Savior or Menace?

In recent months, the sub-prime crisis has reached unforeseen heights, infiltrating banks and financial institutions worldwide and causing many to report multi-billion losses due to the risky investments going sour. While the underlying economy of the US appears to be relatively robust, and the dollar's continued weakness has made investment and exports more attractive to foreigners than ever before, these factors have not salvaged pessimistic markets: The FTSE has dropped more in the past two business days than any other point since September 11th.

In order for global markets to respond in such a definitive manner, they must either believe that the US is already in recession or that it is close. Ben Bernake referred to the economy as being on "a knife's edge" just as President Bush has unveiled a lackluster economic stimulus package that, if it is even able to make a substantial difference, may be implemented too late to do so. As banks continue to report record losses, in swoop foreign "sovereign-wealth funds," investment vehicles financed from state coffers in Asia and the Middle East, to shore up capital to the tune of $69 billion over the past ten months, according to Morgan Stanley.

While the investment is needed badly, and no other source of capital has come running so willingly, the intentions of such funds is shrouded in secrecy. Most of this comes from genuine differences in the purposes of a given fund. Russia calls theirs a stabilization fund aimed at keeping energy prices consistent for Russians, but others are less obvious. As US citizens continue to be concerned about free trade's potential impact on American jobs, foreign investment is reaching new peaks, with their total value measured at $2.9 trillion.

The downside to this gigantic increase of investment is also an upside, depending on how future events transpire. If oil prices continue to maintain their strength, oil-producing countries with huge surpluses will have more purchasing power than ever before, but at a price: By taking all the oil out of the ground, it cannot be spread out over decades and thus has limited reliability. But if that oil is converted into wealth, deposited into a sovereign-wealth fund, and invested in American firms, then the yield on their investment will keep GDP high and revenue stable. Plus, the US government won't breath down their necks (in the case of oil-related funds like the United Arab Emiritates-held Abu Dhabi Investment Authority) if they don't have oil to sell. The obvious problem here is that continued investment will be beneficial until controlling stakes in those companies are held, at which point an American backlash will be inevitable.

One of the best publicized protectionist policies was the ban on Japanese companies operating radio stations, made under national security concerns. Other such problems have happened in the past, usually to the detriment of the investors, but never on the scale that economists predict will occur in the next couple of years. While looking a gift horse in the mouth is a bad policy, until sovereign-wealth funds have similar accountability to other financial vehicles, firms may be somewhat spooked.

Ki is a realtor and broker in Austin helping clients searching for Austin homes. His website focuses on Austin real estate and offers a free home search. His Austin real estate blog offers insight and analysis on the market.