The Canada Strong Fund: a solution no one can describe, for a problem no one can identify

Open this photo in gallery:

It’s been nearly a week, and we are still no closer to knowing what the Carney government means when it talks about setting up “Canada’s first sovereign wealth fund.” I don’t just mean what it would do, or how it would work, or what problem it’s intended to solve. I mean, quite literally, what is it?

I suspect the government is not sure itself. It bears all the marks of having been thought up on the fly and announced before anyone had figured out what it was they were announcing, beyond that it would be called a “sovereign wealth fund.”

We know what it isn’t: a sovereign wealth fund. Not, at any rate, as a sovereign wealth fund is usually defined, viz. a fund that invests a sovereign’s – a state’s – wealth. It would be a fund, certainly. And it would invest on behalf of the state. It’s the wealth part that’s missing.

Sovereign wealth funds are typically set up by states with commodity-based economies to invest the surplus revenues flowing therefrom. Norway’s is the most well-known example.

opinion: Carney’s grand vision is matched only by the small-mindedness of Ottawa’s bureaucracy

But the government of Canada doesn’t have any surplus revenues. It’s been running deficits for the better part of two decades, and plans to go on doing so indefinitely. It does not have any wealth, as such, to invest. Quite the contrary: It’s a net debtor. It has a negative net worth, to the tune of $1.4-trillion.

So, it’s not a sovereign wealth fund. It’s more like a leveraged private equity fund, only with bureaucrats. To be called (I suppose there was no avoiding this) the Canada Strong Fund, it will launch with an initial capitalization of $25-billion, a gift from the government. But since the government doesn’t have $25-billion to give, it will have to borrow the money.

Its purpose, as described in the government’s Spring Economic Update, is to invest in “strategic Canadian projects and companies,” strategic meaning – well, it has no meaning, other than “biggish” and “vaguely infrastructure-related, if you squint.” (A first approximation: Has it been approved by the federal Major Projects Office?)

And when the government says it will be investing these funds, it wants you to know it really will be investing, not “investing,” the word governments now use to describe spending.

According to the update, the Canada Strong Fund will have “a clear objective to achieve commercial returns.” It will have a “mandate to deliver market-rate returns.” It will be investing “only in minority positions alongside private capital … and generating strong, commercial returns.”

Liberals eye capital from airports, other assets to grow sovereign wealth fund

Got that? Earning commercial, market-rate returns. Alongside private capital. But if it’s only going to do what private capital is already doing, earning a market rate of return, what is the point? If the projects it invests in are commercially viable, they don’t need the government to invest in them. If they aren’t viable, then it’s just industrial policy in disguise.

The point, to hear the government tell it, is the returns. Some of these will go into building up the fund – as will “other assets that the government may allocate to it.” Whether that means the government will hand over the assets themselves, which the fund could then milk for revenues – for example, by charging user fees – or whether the assets would be sold and the proceeds turned over to the fund is unclear: The government speaks murkily of “asset optimisation” or “unlocking the full value” of federal assets.

The second thing the fund is supposed to do is raise money for the government, or what the government prefers to call “all Canadians.” After all, as a government fund, the fund “belongs to all Canadians.” (Really? Can I sell my shares, then? Borrow against them? Do any of the things that ownership normally implies?) Among the objectives of its projected investment policy, it lists “return to taxpayer.”

But, third, it also promises to benefit some Canadians in particular: those with the wherewithal to invest in the new “broadly accessible retail investment product” the government proposes to create, offering “any Canadian who wishes to” the opportunity “to participate directly in the Fund.”

The details are, once again, opaque, but the government promises not only that “investors will be able to share in the upside,” but that “their initial invested capital will be protected.” It’s a one-way bet! But insurance isn’t free. Who pays for that guarantee? The taxpayers, of course.

So: not really a private equity fund, then. More like Canada’s first government-run mutual fund, with a mandate to earn returns for three major stakeholders: itself, the government, and individual investors. But the first is tautological – the fund will earn a return so it can earn more returns – while the second is superfluous: Governments don’t need to invest to raise the money they need. They can just take it.

By virtue of its power to tax, the government is indeed a silent partner in every company in the country. Like any shareholder, it takes a percentage of the profits and, since losses are deductible, of the losses. It’s like a low-cost, passively managed, universal index fund. Why, then, would it make risky investments in individual firms, paying a higher cost of capital to make itself less diversified? Professional money managers, people who pick stocks for a living, don’t know how to beat the index. Neither, God knows, do governments.

As for the fund’s third raison d’être, as a place for Canadians to invest their savings, the only word for this is bizarre. There’s no shortage of private-investment vehicles in this country. There are literally thousands of them, all with a mandate to earn a “market rate of return.” (Well, most of them promise to earn more than the market rate, and most of them actually earn less than the market rate, but close enough.)

Neither is there any shortage of government investment funds. In fact, the update, in the course of describing the new fund, boasts about all the other state investment funds cluttering up the landscape, a vast “ecosystem of Crown corporations” including “the Canada Infrastructure Bank, Export Development Canada, the Business Development Bank of Canada, the Canada Indigenous Loan Guarantee Corporation, and a range of departmental programs” that are “already playing a critical role.” (Emphasis added.)

So not only would the new fund be duplicating what thousands of private funds are already doing – it would be duplicating the work of the government’s own funds. Indeed, so many are there of the latter that the government promises, to “avoid any risk of duplication,” that it will scrap, er, “undertake comprehensive mandate reviews” of all of these.

The Canada Strong Fund, for its part, “will focus on complementing these efforts.” But so far as the fund invests in projects or firms, as it says in the update, “that are supported by other government programs,” then some of the returns it earns for the government and others will also be supported by those other programs: the government taking money from its left pocket and putting it in its right.

It’s not clear the new fund really will be restricted to earning a commercial rate of return. The update claims the fund will operate “at arms-length from government,” with its own CEO and “a qualified independent board of directors,” the better to ensure it “remains focused on its mission.”

But even as it is describing that mission it splits it in two: “supporting the transformation of the economy and creating wealth for Canadians.” At various other points the update speaks of “building Canada … advancing large-scale projects … supporting the growth of Canadian companies.”

The pattern is familiar. Export Development Canada, the Canada Infrastructure Bank, the Business Development Bank and the rest have independent boards of directors, too. They, too, are supposed to operate “according to commercial principles” (EDC), “be financially self-sustaining” (BDC), and, well, “generate revenue” (CIB).

But there’s always an implicit subsidy somewhere in the mix, if only because they are all ultimately backstopped by the government: They can never go bust. Even “commercial principles” is a long way from “profit-maximizing.” The point of these organizations is not to act like private companies. It’s to look like private companies, allowing the government to intervene without being seen to.

There’s a case for sovereign wealth funds. Or at least, there’s a reason some quite sensible people think they’re needed. The idea is to convert the wealth from the commodity, which is a depleting asset, into something of greater permanence, by investing its revenues in assets that yield an indefinite stream of returns. That’s not just a matter of prudence, but of intergenerational fairness.

But you don’t have to set up a giant state-run investment fund to do that. You can just as easily convert a depleting public asset into permanent private assets. Consider the case of Alberta. It uses the revenues from the oil patch to keep income-tax rates relatively low, especially for investors. It has the lowest corporate rate in the country, and among the lowest personal rates on capital gains, dividends and interest.

The higher levels of private investment that results (Alberta has by far the highest rate of business fixed capital formation in the country) represents exactly the kind of asset conversion that sovereign wealth funds are supposed to achieve. Compare that to the Alberta Heritage Savings Trust Fund, which squandered much of its inheritance on ill-fated attempts to diversify Alberta’s economy, when it was not being used as a piggy-bank by spendthrift provincial governments.

(The record of other public-investment funds, such as Quebec’s Caisse de Dépot, is if anything even worse. The Caisse is notorious for meddling in industry at the behest of its political overseers, providing funding for the various arms of “Quebec Inc.” – Steinberg, Videotron, Bombardier, etc. – at the expense of its intended beneficiaries, the province’s pensioners: a classic example of the dual-mandate problem identified above.)

There’s also a case for financing public infrastructure like roads and bridges with private capital, and for charging user fees on these, to generate the necessary return for private investors. The fees are a useful reality test: Does anyone actually want to use these structures, and do they get enough out of them (measured by what they are willing to pay) to justify the expense of constructing them?

It also makes sense in terms of public finance. Tax dollars should be reserved for things that can only be paid for by taxes: pure public goods, like defence. Paying for things with taxes that could be paid for in other ways, like user fees, simply leaves less room for the things that only taxes can pay for. Likewise when it comes to borrowing: If a project can be financed by private capital, on its own dime and at its own risk, it probably should be, leaving public borrowing for things that can only be financed publicly.

But that’s a million miles away from what is contemplated here, where much of the initial funding, at least, will come from government, and where public and private funds will be commingling promiscuously forever. The temptation to some form of disguised subsidy will be hard to escape: public risk for private reward. And all for ... what? What is the market failure this policy is supposed to correct?

If the government wants private capital to build things, it has no need to set up multiple overlapping Crown corporations to do so. All it has to do is say: Have at it, fellows. The risks are all yours, but so are the returns.