UAE Central Bank taking no chances over vital liquidity

The pressure is growing on the UAE banking system. It’s good that the Central Bank, with informal moves to limit dividends, appears to have spotted the early warning signs and acted to protect all-important liquidity in the UAE financial infrastructure.

Liquidity is the essential lubricant of the financial engine. From it, all else follows – cash for investment, growth funding, corporate borrowing, right down to mortgage and rent payments and supermarket bills. Halt liquidity, and you halt the economy.

The financial crisis that began in 2008 was so serious precisely because of the global threat to liquidity. For a while it looked as if the world’s ATMs would simply stop paying out cash.

There were warning signs back then in the UAE that liquidity was drying up, and the Central Bank acted quickly and emphatically. In September and October of that year, as the world was reeling from the collapse of Lehman Brothers bank, it implemented a raft of measures, including a guarantee of bank deposits, a Dh70 billion injection into UAE banks and a Dh50bn overdraft facility to all lenders.

It did the trick. Dubai’s subsequent financial crisis was largely confined to one corporate debtor, Dubai World, which was eventually successfully restructured.

The same short, sharp crisis is not in evidence now. This is not 2008. Rather, as Standard & Poor’s highlighted in a recent report, there is a slow but steady deterioration of the banks’ financial position under way.

Lower oil revenue means lower deposits in the commercial banks. Higher interest rates via the US Federal Reserve mean a slowdown in credit growth. Erosion of asset quality – for example in SME loans or trade finance – leads to higher credit losses.

The upshot is a deterioration of bank earnings and further tightening of liquidity, which S&P is forecasting for the rest of this year and maybe 2017 too.

The problem has not yet affected the most important capital ratios at the big UAE banks. These have strong loan-loss reserves, healthy capital ratios and funding profiles, and look well placed to resist even a prolonged period of lower oil revenue.

There is a second tier of banks that face a rather more uncertain period. Big loans to SMEs and trade credit positions make them look more vulnerable to a threat to their liquidity positions.

The most visible threat is from SME lending, but it is probably exaggerated. Alarmist headlines about the “skip” – people leaving the UAE with unpaid debts – attract inordinate attention.

Abdul Aziz Al Ghurair, chairman of the UAE Banks Federation, revealed last November that total impairment for 2015 on SME lending could be as much as Dh7bn, which seems an enormous amount. But – and this gives a vital perspective – SME lending amounts to only 5 per cent of total bank lending.

The more serious threat would come from a big corporate debt position that suddenly unravels, but again there does not seem to be anything significant on the UAE horizon. Dubai has largely restructured its corporate debt position, at least for the immediate future.

But the Central Bank is obviously not taking any chances on liquidity. Recently, it has been discreetly telling bankers about new procedures over the distribution of dividends whereby banks in future will have to seek approval for proposed dividend payouts ahead of announcing them to shareholders.

Some bankers talk of an informal cap of 50 per cent being applied to dividends, meaning that shareholders cannot expect any more than half of banks’ profit in the form of a payout. If a bank is proposing more than that, it will not be approved. The Central Bank did not respond to requests for elaboration on this matter.

The intention is obvious and commendable – to protect the banks’ cash positions by avoiding excessive dividend payouts, and therefore protect overall liquidity in the system.

The Central Bank’s prudence might seem unwarranted. In recent years, dividend payments have rarely exceeded 50 per cent. It will also have to weight the knock-on effect to bank share prices; institutional investors have traditionally held UAE banks precisely for high dividend yields, compared to global rivals.

But in making banks aware of the new rules on dividend payments, the Central Bank has sent a pertinent message to the financial system – low oil prices mean that tougher times lie ahead, and preservation of vital liquidity takes precedence over shareholder expectations.


Frank Kane

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