PROS & CONS OF FINANCIAL SECTOR LIBERALIZATION

Last week’s news-report, referring to an interview with the UAE Central Bank Governor,  about allowing a presence by GCC and foreign banks in the UAE, does re-start a lively discussion. Recently, the UAE banking sector, including the non-banking financial institutions, have had exceptionally good years in terms of profitability and performance, arising from good economic growth, high oil prices and monetary liquidity, and equally from good management and low levels of loan loss provisions and value-impaired assets. No wonder international banks wish to obtain a firm foothold in this market, and would like a share of the growing pie. These include the Arab and GCC banks, who naturally, believe that they should get the first crack at this i.e. some priority and preference; as and when this sector opens up to invite overseas players.

Similar debates are raging in Saudi Arabia and Kuwait, where again, there are now moves to further liberalize the banking sector.  Saudi Arabia being the largest market in the GCC, in the sheer sense of wealth and industrial growth, used to encourage only joint-ventures with multinationals, with a majority for Saudi nationals / local institutions. In the last few years, they have granted licenses to Emirates Bank Group, the  National Bank of Kuwait and the Gulf International Bank, and this could well warrant some reverse reciprocity - a factor mentioned by the UAE Central Bank Governor as reported in the press.

Clearly, opening up the market to foreign institutions, will rekindle not just emotions and debate but also hopefully, a re-examination of the issue of whether the UAE is over-banked per se; given that it has some 50-odd banks and 400 branches on the one hand, and a relatively small population of fewer than four million people on the other; even if one were to include the vast number of expatriates and the floating population. This makes it one of the highest ratios of bank branches / presence to population. This is particularly relevant because international banks that are strong in retail, and especially in ‘plastic’ banking (i.e. credit and charge cards) as well as in personal finance products, mortgages etc. will seek to elbow out the local banks – those that have neither the size or the scale of current businesses, nor the management bandwidth and professional skill-sets to develop a wide variety of products and technological applications to withstand this onslaught. The reason why many regional and international banks will plump for retail, is the prevalence of very high spreads and the almost double-digit profit margins in the case of credit cards, personal loans, car loans etc.

Corporate banking margins for instance, are under greater pressure. There is actually considerable dichotomy in thinking in this regard. Although, the officially regulated banking and financial sector does not enable easy establishment of a physical presence and for practicing business in a bank’s name in a transparent manner, the UAE alone, among GCC markets, is easily penetrated through other forms of semi-official access. For instance, Representative Offices are allowed to be set up more liberally. Many of them do much more than what representative offices elsewhere can or will do. Indeed, some ‘rep offices’ have a  strong  staff strength of over 30 people and carry out practically, a range of wholesale and private banking activities that are not allowed to be practised in other parts of the world by representative offices.

Similarly, many of those that have established themselves as brokerages or technology offices, including some in the likes of the Dubai Internet & Media City, actually practise some forms of wholesale banking. Yet we also witness a preponderance of briefcase salesmen /  sales directors, investment professionals and even banking executives who fly in and out to spend time, cultivate relationships including lending and leveraging to the residents. Practically speaking, few big ticket businesses are not out of their reach.  It is true that they are constrained on the lending side by the lack of a local UAE Dirham (AED) balance sheet. In the commercial banking sphere, in any case, the margins are low, and banks will need to have very substantial local capital or AED deposit-taking capability to be able to lend.

When compared to other parts of the GCC, where it would be well nay impossible for financial institutions to solicit business in an unfettered manner, many more financial institutions are able to do so liberally in the UAE.

Thus, in a sense, this is not quite a level playing field for domestic banks or even international banks that go through the process of incurring  costs to meet regulatory requirements and carry the regulatory ‘burden’ (so to speak!) in terms of adherence to reserve requirements.  Overseas ‘walk-in’ and transient participants can easily avoid such costs, efforts and scrutiny and therefore, are able to be more competitive. Therefore, while “barriers to entry” may be designed to protect the local businesses in the retail and domestic banking segments, the overall environment is not exactly equitable for those that wish to respect the law and the regulations. In the U.S., banks or financial institutions that stray off the ‘beaten’ (specified) path will be fined heavily.  In other mature economies, there are heavy penalties and the rules are rigorously  enforced; to disallow laissez-faire in financial sector practices.

Ultimately, the opening up of the banking and financial sector is a sensitive subject. Retail banking would be the last bastion to face onslaught;  even if the WTO regime were to become all pervasive.  It will require huge franchise to be established expensively and global banks will baulk at this.

Of course the move by UAE, Bahrain and Oman to allow competition in the telecom sector, is indicative of a gradual merge towards liberalization. Etisalat has bid for the Saudi mobile license.  These are all instances of national interests and policies to nurture and nourish the domestic sector, even if they may fly in the face of the so-called free enterprise logic.

It is essential that over the next few years, the domestic financial sector and trade are strengthened through good regulation, corporate governance, internal consolidation / mergers, better capital adequacy and greater ‘skill’ honing. Ultimately, they would prove to be the strongest defence against being swept off one’s feet. As they say, even if the windows of liberalization are shut, it may be that the doors could well be thrown open by international / multilateral action in one form or the other. Smaller countries are more easily arm-twisted when it comes to the WTO-style or sole super-powered negotiations. It is therefore, essential that the pros and cons are studied carefully, and there is an ongoing dialogue with professionals and stockholders that have the best interests of the country at heart, so as to shape and contribute their experience and expertise towards building pillars of foundations. The financial and other economic sectors can then take competition head-on and excel.

Emirates Airlines for instance, is a shining example of such an approach. Despite the ‘free skies’ policy of Dubai and what with the airlines of the world flying in and out “at will”, and without let, a strong domestic airline with governmental ownership, but with little protection / guarantee has been geared to take on the best, not just on home ground but also in turfs around the world. Emirates Airlines is thus a good model to emulate, when it comes to strengthening the institutional framework in preparation of WTO and Basle II.

The author is General Manager of Emirates Bank.  However, the views expressed in this article are not necessarily shared by the Bank.

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