United Arab Emirates banks’ exposure to government-related entities is at its highest level as a percentage of capital since the 1970s, and there is little chance of authorities enforcing strict exposure limits, analysts at Bank of America Merrill Lynch said.
The domestic banking sector has extended a whopping $42 billion in credit to the government and government-related enterprises (GREs) since the 2008 banking crisis.
As a result, exposure to the government and non-financial public enterprises as a percentage of bank capital is at 104 per cent, the highest ratio since the late 1970s, the researchers said in a note.
The GREs relied heavily on local banks to support the restructuring process in the aftermath of the Dubai property crash, with foreign banks taking their money out of the region.
“This fully compensated for the foreign outflows but increased the banking sector’s exposure as percentage of capital by 26 percentage points. The credit stock also suggests very roughly that about 50 per cent of Dubai Inc debt is owned domestically,” BofA Merrill said.
The UAE government last year demonstrated its concern about this trend, and said it would implement a new “large exposure” rule that would set a cap on how much local banks could lend to GREs.
But UAE authorities subsequently backed down in the face of fierce opposition, saying instead they would consult with the financial industry before implementing the rule.
“We continue to see little chance of a timely implementation of the UAE central bank circular setting large exposure limits, and see this as a tool for coordination and consultation rather than to force a disorderly GRE deleveraging process,” the BofA Merrill analysts said.
The UAE Banks Federation, a trade body for banks, has proposed that bonds and sukuk deals be excluded from the cap. The banking sector holds roughly Dhs55 billion ($14.97 billion) in government and official entities’ bonds. This exclusion would bring total exposure down by about a fifth, leaving some breathing space, the researchers said.
The International Monetary Fund has also expressed concern about some banks’ exposure to the UAE public sector.
In a report last month, it said the concentration of Emirates NBD’s loans to the government was high, raising corporate governance and risk management concerns; ENBD has said it is managing its loan book prudently.
The UAE banking sector as the whole is in a better position than it was a few years ago, however: the loan-to-deposit ratio stood at 92 per cent in July compared to 112 per cent in September 2008. The average capital adequacy ratio of 19 per cent in the second quarter of 2013 is well up from 13 per cent in the third quarter of 2008.
“Following strategic official support during the global financial crisis and progress on the deleveraging front thereafter, the banking sector appears in a more solid position at the onset of the GRE refinancing challenges of 2014-15,” the BofA Merrill analysts said.