SIMON WOLFE: Sovereign wealth funds bring the honey to bear markets

We are about to see another supercycle of economic diplomacy. Dominant funds in the Middle East and Norway are awash with cash and plenty of opportunities as the economic downturn hits hard.

New research suggests the Gulf’s largest sovereign wealth funds have already been involved in at least $28.6bn worth of acquisitions outside the Middle East and Africa this year — an increase of 45% compared to 2021. There is already talk of an oil-powered takeover of blue chips by funds such as Saudi Arabia’s Public Investment Fund (PIF) or the Qatar Investment Authority (QIA) in Qatar.

Astronomical rates of inflation in the Organisation for Economic Co-operation & Development, coupled with languishing growth post-Covid, create a perfect storm in the global economy. Countries are in dire need of foreign direct investment to stimulate their economies and select countries have the capital to deploy. The question is whether these nations will capitalise on the opportunity for a long-term geopolitical dividend.

After the last global financial crisis in 2008/2009 large sovereign wealth funds were partly motivated to stimulate economic recovery and partly by cheap asset prices, and splurged on strategic and trophy assets around the world. With tremendous amounts of capital available to deploy, the funds went wild.

Qatar acquired stakes in Barclays, Credit Suisse and Volkswagen. Saudi Arabia later followed suit, turning to global brands such as Boeing, Citigroup, Disney and Facebook. UAE’s Mubadala, the Kuwait Investment Authority, the Norwegians, Nigerians and others all joined the party. But it was not just about economic opportunistic investment.

Sovereign wealth funds, the vestibules of excess profit made by the nation states that control them, are able to both protect the economic security of their nation and people but also choose to deploy capital to other nations in the pursuit of soft-power foreign policy returns.

Lessons from past rounds of economic diplomacy have taught us two things. First, not all investments are equally powerful in promoting soft power. Just look at trophy investments such as art galleries and football clubs. And second, the investment itself should be conducted in the spirit of the foreign policy it is signalling. In other words, it is not enough to throw cash at a dartboard and see what sticks.

Long-term benefit

Identifying assets that bring about long-term benefit for host states therefore becomes important — ideally connected to the existential issues of our time. Examples include investment in infrastructure that helps ease global supply chain stress such as the development of ports, roads and technology that facilitates the movement of goods. Or assets that contribute to the green transition, such as renewable energy, and investment in critical minerals such as copper, cobalt and nickel. Or those focused on food security such as fertiliser production, food technology and agricultural know-how.

Once the asset is identified, importance is then placed on how the investment is carried out for the long-term benefit of the host government and population. Critical here is that the investor from the outset seeks to grow and protect its social licence to operate in the host country.

Oft debated, a social licence boils down to collective permission from the host country’s government, people, civil society and other relevant stakeholders to participate and invest in that country’s economy. Maintaining social licence is complicated but can be improved by a multitude of actions, including respect for the rule of law (and an international rules-based order), transparency in its dealings with the host government, ensuring proper consultation with local communities and civil society, and not just matching but exceeding international commercial best practice.

‘Debt-trap diplomacy’

Avoiding cynicism is also important — perhaps best exemplified by the Chinese approach with its Belt & Road Initiative, underpinned by what some call “debt-trap diplomacy”, where an investment is deliberately made unsustainable by punitive loan terms and eventually taken over by Chinese interests. We have seen this especially in the maritime space with deep seaports (Pakistan and Sri Lanka are good examples).

Done effectively, economic or commercial diplomacy can achieve both economic and soft power gains. The result has the potential to secure the future of the sovereign wealth fund’s domestic population, bring foreign governments closer together and enamour the communities in host countries with impactful investment that brings wealth, know-how and jobs.

Managing competition between the investing states must be heeded, perhaps best exemplified by the shifting tensions in the Gulf Co-operation Council as the dominant funds — PIF in Saudi Arabia’s, Mubadala in UAE, KIA in Kuwait and QIA in Qatar — all look for similar assets to bolster their position. To each this competition should not be seen as a distraction leading to the purchase of vanity or trophy assets. Together and separately they must deploy their capital strategically and for the long-term benefit of their future commercial and diplomatic partners.

This cycle of economic diplomacy coincides with a global realignment in which traditional allegiances are being tested and the era of US hegemony abates. New relationships built now will be forged not just by military guarantees but through trade and investment. With this, those with the capital to deploy can ensure that their place in the next iteration of the global order will be protected.

• Wolfe, an international lawyer, is managing partner at Marlow Strategy.