Issues of Governance , Transparency and Accountability of Sovereign Wealth Funds in Muslim Countries *

Sovereign Wealth Funds (SWFs) have been growing in number and size over the years, in both Muslim and non-Muslim countries. Their importance in terms of potential impact on the economic, social and political fronts of both the home countries (managing the SWFs) and the host countries (receiving the investments of SWFs) has drawn increasing attention to the operations of these funds. The basic concerns about these funds are the issues of governance, transparency and accountability at a global level. This paper aims to highlight these issues with a specific focus on SWFs sponsored by the members of the Organisation of Islāmic Cooperation (OIC), or Muslim countries in short. It discusses the gaps arising in the governance, transparency and accountability of SWFs in Muslim Countries (SWF-MC) and proposes some recommendations to improve their practices with a view to enhance their impact on social and economic developments in Muslim countries. It also discusses the Santiago Principles which have been developed as a comprehensive set of voluntary codes to serve as a framework of international best practices in the area of governance for SWFs. It is found that SWF-MC such as Libya, Qatar, Sudan, Nigeria, Oman, Brunei and others are the least compliant funds with regard to the Santiago Principles based on the Truman scoreboard. Moreover, the overall level of transparency of SWF-MC, based on the Linaburg–Maduell Transparency Index (LMTI) is also very * This paper is an amended version of the paper “An Islāmic Approach to Good Corporate Governance of Sovereign Wealth Funds in Muslim Countries” which was presented at the 3 International Conference on Islāmic Business (ICIB-2014) and represents part of a bigger research work which is being considered for publication as ISRA Research Paper. 1 Farrukh Habib is Research Officer at International Shariah Research Academy (ISRA), and Ph.D scholar at INCEIF, Kuala Lumpur, Malaysia. He can be contacted at farrukh@isra.my; Beebee Salma Sairally, PhD, is Research Consultant at ISRA, and Prof Dr. Abbas Mirakhor is a distinguished scholar of Islāmic economics and finance and Professor / First Holder of the Chair in Islāmic Finance at International Centre for Education in Islāmic Finance (INCEIF), KL, Malaysia. Journal of Islamic Business and Management Vol.4 No.2, 2014 128 low. Based on these findings, it is deemed crucial that SWF-MC should be properly set up and governed by international best practices.


Introduction
Sovereign Wealth Funds (SWFs), as the name suggests, are created from the sovereign wealth of countries and are owned by general governments, central banks, or finance institutions of respective countries.The prevalence of SWFs in the global financial markets dates back to the 1850s when the first SWF was established in Texas, United States in 1854, sourced mainly from oil revenues (Rose, 2011).In Muslim countries, the establishment of SWFs is relatively a recent phenomenon with the first SWF being set up in Kuwait in 1953 (Hemphill, 2009).Today, according to the Sovereign Wealth Fund Institute (SWFI, 2014), there are approximately 75 SWFs worldwide and the value of their assets is approaching USD 6.73 trillion globally in August 2014.The bulk of these assets are held in the Asian and the Middle-East regions (see Figure 1).It reflects the importance of SWFs in these regions which are home to a number of Muslim-majority countries (OIC, n.d.).In particular, almost 41% of SWFs (31 out of 75) are established by Muslim countries worldwide.SWFs in Muslim countries (SWF-MC) have mostly been developed from the revenues generated from trade surpluses and exports of natural resources such as oil and gas (SWFI, 2014).It seems logical from an economic point of view for these resource-rich Muslim countries to establish a fund out of the extra capital gained through the exports of oil and gas (Mihai, 2013).This may help them to smooth out the price volatility of their non-renewable resources.Some Muslim countries which are non-exporters of oil and gas have also set up non-commodity SWFs.According to Mihai (2013), 6 out of 31 SWFs are such non-commodity SWFs which are mostly funded by excess of foreign exchange reserves.
Many studies have been conducted regarding SWFs from various aspects; however, as the area of SWFs is still new, there is a dearth of research and literature on the issue from both academic and practical aspects.The topic of SWFs, being discussed particularly from the perspective of Muslim countries, is a new approach.It is deemed vital given the current significance of SWFs in the economic development of Muslim countries.This sets the basis for undertaking present research which focuses on the prevalence of SWFs only in Muslim countries.
In the light of this aim, the study discusses their governance, transparency and accountability aspects.It also highlights some gaps and proposes some recommendations based on their weaknesses in these areas.Being one of the first initiatives in this area, many constraints have restricted the scope of this research, particularly limited data availability, time frame and resources, among others.Nonetheless, it is hoped that this research will initiate discussions from various aspects at the level of academia as well as industry.Subsequently, it may widen the literature and research on SWF-MC and enhance their economic role in the growth and development of these countries.This paper is organized as follows: Section I introduces the topic, discusses its significance and establishes the aims and objectives of the research.Section II defines SWFs and highlights their purposes.Section III provides a general overview on the current growth and development of SWF-MC.Section IV discusses the issues of governance, transparency and accountability of SWF-MC with special reference to the Santiago Principles.Section V provides some recommendations relating to the adoption of best practices by SWF-MC.Section VI concludes the paper.

SWFs: Definition and Purposes
SWFs are generally state-owned investment funds which are set up for a variety of macroeconomic purposes.TheCityUK (2013) defines SWFs as follows: SWFs are defined as special purpose investment funds or arrangements, owned by the general government.Created by the government for macroeconomic purposes, SWFs hold, manage, or administer assets to achieve financial objectives, and employ a set of investment strategies which include investing in foreign financial assets.SWFs' assets are commonly established out of balance of payments surpluses, official foreign currency operations, the proceeds of privatisations, fiscal surpluses, and receipts resulting from commodity exports.
The SWFI (2014) mentions the sources of these SWFs as: A state-owned investment fund or entity that is commonly established from balance of payments surpluses, official foreign currency operations, the proceeds of privatizations, governmental transfer payments, fiscal surpluses, and/or receipts resulting from resource exports.Based on the aims and objectives of SWFs, they can be categorized into five main types, namely: (i) stabilization funds, (ii) saving funds for future generations, (iii) reserves investment corporations, (iv) development funds, and (v) contingent pension reserve funds (IMF, 2008).
Considering the definition of SWFs, their sources of funds, aims and objectives, they can be said to have the following key features: • They represent an investment fund which is owned and controlled by general governments; and they serve as an investment vehicle for these governments.
• They are often established out of balance of payments surpluses, official foreign currency operations, privatisation revenues, governmental transfer payments, fiscal surpluses, and receipts resulting from commodity exports, especially oil and gas exports.Those who are created from the receipts of commodity exports are usually known as Commodity SWFs; and those funded by the other sources are commonly categorised under Non-Commodity SWFs.• They usually exclude foreign exchange reserves, state-owned enterprises, public pension funds, or privately managed funds.• They are managed in order to attain financial objectives; in fact, they tend to prefer returns over liquidity.As such, they have a higher risk tolerance than traditional foreign exchange reserves.
Overall, they are set up by governments with the objectives to serve the following general purposes: (i) to protect and stabilize the government's budget and overall economy from excess volatility in export revenues; (ii) to invest the returns generated from non-renewable commodity exports and hence diversify the country's sources of revenue; (iii) to earn greater returns than on foreign exchange reserves; (iv) to invest excess liquidity arising from budget surpluses, privatisation revenues and others; (v) to increase savings for future generations; (vi) to provide a source of financing for the country's social and economic development (SWFI, n.d.).SWFs, being large institutional investors, possess enormous significance for home countries (sponsoring SWFs), as well as for the host

The Issues of Governance, Transparency and Accountability in SWFs in Muslim Countries
SWFs, on the one hand, represent their own governments and promote their objectives.On the other hand, they participate in the international markets as private investors, along with other investors.In this conundrum, the key issue is to control the sovereign nature of these funds (Backer, 2009).If the governance frameworks of these funds are weak or weakly enforced, there might be paranoia in the international market and the host countries regarding their operations, performance and impacts.It may lead to the situation where these funds will face stringent scrutiny, unfair treatment and unwanted protectionism in the host countries.
Consequently, this will influence the openness of the international markets and free flow of capital (IMF, 2008).Moreover, issues such as lack of transparency, public disclosure and accountability might raise concerns about the political motives of their investment strategies (Truman, 2007).
On the home countries side, weak regulatory and governance framework may cause unfair exploitation of these funds, inefficient allocation of resources, politically biased usage of funds' revenues, and others.Therefore, proper governance framework is very crucial for these funds.
Moreover, due to their unique nature, composition, size, importance and behaviour, the regulatory and governance frameworks, as generally applied to other sectors, cannot be simply applied to them.Hence, the need for establishing regulatory and governance frameworks that take into account their distinctive characteristics has been felt by all concerned quarters.

The Santiago Principles
The search for a good governance framework for SWFs led to the Generally Accepted Principles and Practices (GAPP) which were initiated by the International Monetary Fund (IMF).The GAPP -commonly known as "the Santiago Principles" -were developed by the International Working Group (IWG) of Sovereign Wealth Funds, comprising 26 IMF member countries with SWFs, in 2008.It is a comprehensive set of voluntary codes which can serve as a framework of international best practices for SWFs and is regarded as the landmark achievement in the area of governance of SWFs.These principles are proposed to home countries of SWFs at all levels of economic development and are subject to the respective countries' national laws, regulations, requirements and obligations.They are periodically reviewed in order to be adaptable and applicable to different times (IWG, 2008).
The Santiago Principles are based on the underlying objectives of SWFs which relate to investment, regulation, disclosure requirements, commercial objectives and good governance for the guidance of SWFs.Their basic aim is to promote global financial stability through free flow of capital, legal compliance, proper disclosure, adherence to commercial goals, transparency, and sound governance structures of SWFs.They accordingly cover three main areas, notably: (i) Legal framework, objectives and coordination with macroeconomic policies; (ii) Institutional and governance framework; and (iii) Investment and risk management framework.
The adoption of sound practices by SWFs under the first area may ensure the legal soundness of structures and operations of SWFs.It may ascertain that their policies are clearly defined and publicly disclosed such that, overall, the activities of the SWFs are consistent with the home country's macroeconomic policies.Under the second area, the Santiago Principles aim to promote a sound governance structure that clearly separates the roles and responsibilities of the owner, governing bodies and management of the SWFs in order to facilitate its operational independence, ensure transparency and decrease political interference.Lastly, the third area may ascertain clear investment policies of SWFs in line with profit maximisation goals and sound risk management strategies.Overall, by getting SWFs to adopt international best practices, the Santiago Principles aspire to promote a better understanding of SWFs in home and host countries and international financial markets and thus, warrant economic and financial benefits to all stakeholders involved.Besides these notable efforts, it should be noted that the Santiago Principles are indeed a set of voluntary codes.It means that these principles are left for the complete discretion of individual SWFs to be applied.The SWFs have applied these principles at different levels.In order to measure the compliance of the SWFs to the Santiago principles, Truman (2008) constructed a scoreboard which gives certain marks to each SWF based on its compliance level to the Santiago Principles.The scoreboard is described below along with the discussion on results of SWF-MC.It is noticed that no SWF-MC exists in the top-5 group.Among the top-10 SWFs, only one SWF-MC is positioned, notably Azerbaijan at the 8 th rank.Among the top 20 SWFs, those of Kuwait and Kazakhstan are ranked at 15 th and 16 th position respectively.Other SWF-MC, scoring from 6 to 65, fail to position themselves in the top 20 SWFs.On the other hand, looking at the lowest-scoring SWFs, it is observed that 3 SWF-MC exist in the bottom-5 group, namely: Qatar Investment Authority, Istithmār World (UAE) and Libyan Investment Authority.In the bottom-10 group of SWFs, 7 SWFs are from Muslim countries.
From this analysis, it can be observed that the issue of good governance, transparency and accountability of SWFs is serious in Muslim countries.Another key concern is that these SWFs show sluggish progress in the betterment of their transparency and accountability.Since 2007, the score of 6 SWF-MC has improved by only a single digit; while Sudan's SWF has shown a decrease in the score by 2 points (see, Truman, 2007;Bagnall and Truman, 2013).Even the criteria of the 10 principles are quite broad and subjective.The nature of the questions asked is also considered too generic and less rigorous (see Table 3).For instance, the following issues are considered among the measurement of transparency: whether the fund manages its own website; whether the fund provides the contact address, telephone numbers and fax of its main office; and whether the fund provides details of its subsidiaries including contact information.Moreover, the depth of the adherence to the principles is decided by the SWFI.However, it seems that transparency is a great problem for these SWFs.

UAE -Abu
In addition, the index ratings are not available for 9 SWFs.Hence, only 5 SWF-MC are transparent based on this index; while, the remaining 17 SWF-MC, added to the 9 unrated SWFs, do not meet the criteria of transparency.It can therefore be inferred that the overall level of transparency of SWF-MC is very low.

Recommendations
Overall, based on the analysis carried out, a lower degree of compliance to the Santiago Principles by SWF-MC related to the governance framework is observed.The extent of public disclosure among these SWFs also varies.A potential concern in this situation is that there is no minimum requirement of public disclosure in the Santiago Principles; as long as the SWFs-MC disclose the information according to their own legislation, they are considered rule compliant.This may give rise to the issue of transparency.Although, the Santiago Principles do not aim to promote transparency of SWFs and their operations per se, they support a better understanding of the SWFs and their investments in the home as well as host countries (IFSWF, 2011).Furthermore, the criterion and procedure for funding and withdrawal of SWF-MC still need to be improved and be clearly disclosed.For instance, in some cases, the funding is dependent on the discretion of the home country's government.In the case where SWF-MC represent stabilization funds, the funding and withdrawal usually take place based on the surpluses and deficits of the government's budget.On the other hand, disclosure of information on investment policies also differs.A similar situation is observed in the risk management framework as well.
Therefore, it is highly recommended that relevant and adequate information should be provided to the appropriate government agencies and to the public on a timely basis; this will not only increase the level of transparency and public disclosure but also improve the level of confidence of host countries in these SWFs and their investments.As a whole, the governance structure and accountability level need to be improved.

Conclusion
In recent years, SWFs have developed into significant players in the global financial markets as they have grown in numbers and size by registering increasing levels of assets being invested in public and private entities across the world.Post financial crisis 2007-08, they, including the SWF-MC, have been subjected to many political, legal, financial and economic debates, especially raising concerns about their governance framework.In this respect, it has been deemed crucial that the activities of SWFs are properly undertaken and governed by international best practices.Accordingly, SWFs have been called upon to adopt voluntary code of the best practices like the Santiago Principles.
It is noted that many SWFs-MC are among the least compliant SWFs with regard to the Santiago Principles.Hence, this paper is of the view that they should endeavour to improve their governance structures, public disclosures, transparency and accountability framework.

Table 3
depicts the LMTI of 22 SWFs established in Muslim countries, while index ratings for 9 other SWFs are not available.It is interesting to note that only 5 of them fulfil the minimum score of 8 set by the SWFI in order to claim adequate level of transparency.The remaining 17 SWFs are below the adequate transparency level, including 12 SWFs which do not fulfil even half (score of 5 and above) of the transparency requirements.