Enhancing the Transparency Dialogue in the "santiago Principles" for Sovereign Wealth Funds

• Publication year: 2013
• Citation: Vol. 37 No. 02

SEATTLE UNIVERSITY LAW REVIEWVolume 37, No. 2, Winter 2014

Enhancing the Transparency Dialogue in the "Santiago Principles" for Sovereign Wealth Funds

Adam D. Dixon(fn*)

I. INTRODUCTION

One outcome of the global financial crisis spurred by the collapse of Lehman Brothers in the summer of 2007 was that it quieted the criticism surrounding the growth of sovereign wealth funds (SWFs).(fn1) In the years preceding the crisis, Western politicians raised concerns that these state-owned investment funds could be used, in effect, as political machines underwriting any number of state interests-from bankrolling mercantilist industrial policies, to gaining access to natural resources, critical infrastructure, and new technology.(fn2) Unlike the ideal private investor, who is constrained by a profit motive, SWFs were not seen as financial institutions pursuing purely commercial objectives and risk-adjusted financial returns.(fn3) Therefore, SWFs were viewed in a very different light when compared to other correspondingly large beneficiary institutions, such as public pension funds.(fn4) As creatures of the state, SWFs were seen by some as a threat to liberal free-market capitalism with the potential to undercut the functional efficiency of markets.(fn5) The growing presence of SWFs-coinciding in particular with China's rise to prominence in the global economy and the general unease this created for Western powers-was consequently an issue of national security, both political and economic.(fn6)

This growing apprehension surrounding SWFs came to a head in 2006 with the Dubai Ports World (DP World) controversy. Even though DP World-a state-owned infrastructure operator from the United Arab Emirates-was not an SWF in form and function, the case provided a potential opportunity for proponents of SWF investment, and foreign investment in general, to overcome the criticism and skepticism.(fn7) In 2006, DP World purchased U.K.-based ports operator Peninsular and Oriental Steam Navigation Company (P&O), which had contracts to operate a number of U.S. ports, but did not own the ports themselves.(fn8) Even though the United States Committee on Foreign Investment authorized the deal in 2005, several members of the U.S. Congress, namely New York Senator Charles Schumer and Representative Peter T. King, raised concerns about the national security implications of the deal.(fn9) Because DP World was a state-owned firm from the Middle East, DP World arguably fell victim to the "war on terrorism" political rhetoric and xenophobic mistrust. Not interested in the negative publicity and the prospect of a congressional bill to impede the transaction, DP World divested P&O's U.S. ports operations.(fn10)

The financial crisis ultimately caused Western governments to welcome SWF investment as a way to put a floor under collapsing markets and to provide a set of voluntary principles that would underwrite SWFs' claim to legitimacy in the international community. In the autumn of 2007,then-U.S. Treasury Secretary Henry Paulson, in conjunction with the International Monetary Fund, convened the International Working Group of SWFs (IWG) to draft a set of generally accepted principles and practices.(fn11) These principles are referred to as the "Santiago Principles."(fn12) The implicit objective of these twenty-four voluntary principles is to promote greater transparency and disclosure among the SWF community and mollify skepticism surrounding their commercial orienta-tion.(fn13) The Santiago Principles were designed to affirm the legitimacy of SWFs and define the discourse surrounding their global expansion as institutional investors in global capital markets in pursuit of risk-adjusted financial returns.(fn14) Ultimately, the development of the Santiago Principles was a means of defining SWFs-not as creatures of mercantilist re-alpolitik, but as benign pools of capital, like other conventional beneficiary institutions (e.g., supplementary occupational pension funds), contributing to the depth and efficiency of global financial markets.(fn15)

Taken together, the activities of SWFs do appear to be benign. They may still be creatures of the state, but most appear to be chasing risk-adjusted returns instead of keeping with the skeptics' preconceived notion of SWFs as political machines.(fn16) This does not mean that SWFs are not being used to further economic policy goals that are ultimately in the interest of the state and national economy. For example, many SWFs from the Gulf States are actively used to further industrial development of their economies beyond natural resource extraction.(fn17) Furthermore, the activities of some countries, namely China, are still a cause for concern in some quarters.(fn18) But even in the case of China, it is not the actions of the China Investment Corporation or its other sovereign funds, but rather the international expansion of its state-owned enterprises that draws the most skepticism.(fn19) Notwithstanding the relatively benign conduct of SWFs, the Santiago Principles have not, arguably, led to increased transparency. Compliance with the Santiago Principles has been slow and in-complete.(fn20) This underlines the inherent political nature of SWFs, as they reflect the norms and conventions of their sponsors in regard to transparency.(fn21)

Like any voluntary standard, compliance relies on the goodwill of the organization, and ultimately, the organization's sponsor. Compliance is further complicated when there are varied interpretations as to the standard requirements. What is needed, as I argue in the remainder of this short essay, is an explicit treatment of transparency in its different forms such that SWFs, their sponsors, and external analysts have a discursive device for evaluating and communicating when and why (and why they think) certain nondisclosures are legitimate, or more importantly, when and why transparency in one domain may diminish the significance of disclosure in other areas, thus reducing the significance of nondisclosure in those areas. The aim, then, is to encourage dialogue, in conjunction with the Santiago Principles, on nondisclosure as doing so leads, in my view, to increased transparency overall. Said slightly differently, dialogue on nondisclosure is, in itself, a form of transparency.

II. ENHANCING THE TRANSPARENCY DIALOGUE

In previous work, I, along with Ashby Monk, considered a simple conceptual framework to parse out different types of transparency in the constitution and operation of sovereign funds. In that work, we distinguished five areas of sovereign fund transparency: (1) political; (2) procedural; (3) policy; (4) operational; and (5) performance.(fn22) This conceptual framework mirrors many of the elements of the Santiago Principles. As such, it can be seen as an extension of the Santiago Principles, providing a somewhat different, and in some ways more explicit, language for exploring transparency and non-transparency.(fn23)

Our impetus for devising this conceptual framework was the emerging concern that public disclosure among the SWF community could potentially undermine long-term investment strategy. This concern is based on the assumption that a long-term investment strategy is likely to face increased criticism (primarily domestic) as a consequence of poor short-term market performance during periods of market volatility. Put simply, by disclosing performance metrics on a regular basis over the short run, the investment focus of the fund would potentially become concentrated on short-term performance to the detriment of higher long-term investment returns.(fn24) But performance is just one area of transparency. Nondisclosure in this area may be perfectly acceptable for some SWFs as a means of focusing the investment policy on the long term. The problem, however, is when arguably legitimate nondisclosure extends, purposefully or not, into nondisclosure of another area that may be deemed illegitimate.

The view taken here is that transparency is increased in the aggregate even if an SWF and its sponsor disclose only a rationale for maintaining nondisclosure in certain areas.(fn25) And in those areas where nondisclosure is upheld, increased disclosure in other areas may provide functionally equivalent information. The persistence of nondisclosure among some (if not many) of the signatories of the Santiago Principles suggests that there is no global consensus as to what constitutes transparency in relation to the operation of an SWF.(fn26) Western countries and multilateral organizations may attempt to coerce state sponsors of SWFs (who are unaccustomed to transparency in the governance of state institutions) to become more transparent, but coercion may be resisted and may ultimately be unsuccessful.(fn27) Keep in mind, however, that with the Kuwait Declaration of April 6, 2009, the IWG-SWF was succeeded by the International Forum of Sovereign Wealth Funds (IFSWF), whose purpose is to "meet, exchange views on issues of common interest, and facilitate an understanding of the Santiago Principles and SWF activities."(fn28) The Santiago Principles may have been written, but the dialogue surrounding implementation continues. The issue of how SWFs are, or can be, transparent is thus an ongoing discussion.

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