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Risk Taking and Fiscal Smoothing with Sovereign Wealth Funds in Advanced Economies

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  • Snorre Lindset

    (Department of Economics, Norwegian University of Science and Technology, 7491 Trondheim, Norway)

  • Knut Anton Mork

    (Department of Economics, Norwegian University of Science and Technology, 7491 Trondheim, Norway)

Abstract

In an economy with a sovereign wealth fund (SWF), the government may draw on the fund to supplement other government revenues. If the fund is invested in risky assets, this introduces a new stochastic element into the government’s budget. We analyze the interaction between the draw from and risk taking in the SWF. Using non-expected utility preferences, we distinguish between intended changes and stochastic changes in the SWF draws over time. We show that the desire for smoothness in taxes and public services translates into smoothing of SWF draws and lower risk taking. It can even lead to procyclical rebalancing of the SWF portfolio. Future interest rates are associated with interest-rate risk. We show that this risk may lead to a higher optimal equity share in the SWF portfolio. Policy makers can use the draws from the SWF to smooth over time variation in risk-free rates.

Suggested Citation

  • Snorre Lindset & Knut Anton Mork, 2019. "Risk Taking and Fiscal Smoothing with Sovereign Wealth Funds in Advanced Economies," IJFS, MDPI, vol. 7(1), pages 1-24, January.
    • Handle: RePEc:gam:jijfss:v:7:y:2019:i:1:p:4-:d:196279
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    Cited by:

    1. Mork, Knut Anton & Harang, Fabian Andsem & Trønnes, Haakon Andreas & Bjerketvedt, Vegard Skonseng, 2023. "Dynamic spending and portfolio decisions with a soft social norm," Journal of Economic Dynamics and Control, Elsevier, vol. 151(C).
    2. Knut Anton Mork & Vegard Skonseng Bjerketvedt, 2021. "Soft habits," Working Paper Series 18921, Department of Economics, Norwegian University of Science and Technology.
    3. Alfonso A. Irarrazabal & Lin Ma & Juan Carlos Parra-Alvarez, 2023. "Optimal asset allocation for commodity sovereign wealth funds," Quantitative Finance, Taylor & Francis Journals, vol. 23(3), pages 471-495, March.
    4. Basu, Rahul, 2020. "Intergenerational Equity, the Public Trust Doctrine, Norway and North Sea Oil," MPRA Paper 102856, University Library of Munich, Germany.
    5. Knut Anton Mork & Haakon Andreas Trønnes & Vegard Skonseng Bjerketvedt, "undated". "Capital preservation and current spending with Sovereign Wealth Funds and Endowment Funds: A simulation study," Working Paper Series 19222, Department of Economics, Norwegian University of Science and Technology.
    6. Knut Anton Mork & Fabian Andsem Harang & Haakon Andreas Tr{o}nnes & Vegard Skonseng Bjerketvedt, 2022. "Dynamic spending and portfolio decisions with a soft social norm," Papers 2212.10053, arXiv.org.
    7. Pablo Garmendia & Gabriela Topa & Teresa Herrador & Montserrat Hernández, 2019. "Does Death Anxiety Moderate the Adequacy of Retirement Savings? Empirical Evidence from 40-Plus Clients of Spanish Financial Advisory Firms," IJFS, MDPI, vol. 7(3), pages 1-13, July.

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