A tide of global regulatory initiatives are providing many challenges to local regulators, banks and corporates across the Mena region, pressurising the relationships between these industry stakeholders. Ben Poole reports.
Following the 2008 financial crisis, the Mena region has been catching up on regulation. Liquidity, through Basel II and more recently Basel III, has been a major focus. There is also impact on the tax side coming from the Foreign Account Tax Compliance Act (FACTA), while new regulations surrounding anti-money laundering and compliance are also having an effect.
Global regulations, local flavour
“In terms of Basel II and III, Saudi Arabia is taking the lead,” says Sunil Kumar, head of risk management, Middle East at Wolters Kluwer Financial Services. “Basel III planning is already well underway here, with banks in the country needing to comply by mid 2013. This is in line with other leading regions and ahead of the actual requirements. Places such as Bahrain and the other GCC countries are closely following the Saudi lead.”
While countries in the Middle East are adopting regulations in this manner, some countries in North Africa are lagging behind. There, focus is still on Basel II. Sudan, Egypt and Morocco are notable for their slow pace of adoption. “There has been a slowdown in regulation implementation recently, in part caused by the Arab Spring, as focus has shifted from managing financial crises to managing political crises,” says Kumar.
“We are living in interesting times,” says Thomas Holmes, political risk and trade credit broker at Miller Insurance Services. “Egypt has traditionally been quite a big marketplace within Mena, so what is going on there is quite concerning. You can also look at Mali, and Libya is by no means resolved. It has been challenging. It has become a relatively volatile region, almost out of nowhere.”
The Basel regulations also come in to play in the insurance arena, due in part to the global nature of finance. “Most of the people that we work with in the Middle East are governed by Basel II, in the sense that they may not be able to lend directly,” says Holmes. “Some of their offices are representative offices and sometimes you will find that the lending actually comes out of their headquarters – in London, Amsterdam or Paris, for example. The parent company may be running under
Basel III, and therefore Basel III is what they apply to all of their transactions.”
The Saudi Arabian Monetary Agency (Sama) and central banks in Bahrain, Oman, Kuwait and other GCC countries have introduced specific internal regulations focused on Basel II/III and liquidity. Many of these address local issues. For example, Bahrain has a large number of small investment banks that have a slightly unbalancing effect on the market. To counter this, the central bank of Bahrain has a statutory requirement in terms of managing systemic liquidity. The case is similar in Qatar and Saudi Arabia, while Oman recently introduced regulations relating to Islamic banks. The same is true for North Africa, but what they have more or less adopted are the relevant standard Basel II guidelines, and very few local specific guidelines have been issued.
“The major regulatory focus for the coming years in Mena is on liquidity,” explains Wolters Kluwer Financial Services’ Kumar. “This can be via Basel III or local liquidity rules. Several countries have issued their timelines to comply with the liquidity coverage ratio (LCR) and the net stable funding ratio (NSFR) – the two liquidity ratios in Basel III. It is important that firms in the region have a technology infrastructure which is best suited to the regulatory needs.”
Challenges and unintended consequences
While the future focus is on liquidity, there are still a number of regulatory challenges facing regulators, banks and corporations in the Mena region. One pain point is the lack of a centralised credit database in the region. “Most Mena countries do not have a centralised credit database with credit default history for the clients,” says Kumar. “This is a serious impediment to Basel II implementation. Some regulators have started working on this issue, but data sharing across the banks and across the region in terms of default history is still not happening.”
Additionally, new issues related to liquidity requirements were raised on January 7, 2013 with the release of a revised version of the LCR from the Basel Committee. For example, off-balance sheet items now have a higher pricing. This covers instruments such as letters of credit (LCs), which are going to affect a lot of the banks in the Mena region as they have a huge exposure to off-balance sheet items.
In the same revision, the provision for including exposures from stock exchanges as a requirement, related to having high-quality liquid assets (HQLA), is an issue for the region. Stock exchanges in the region do not have the depth and breadth for this requirement; they are in a nascent stage that disqualifies them being included in HQLAs. This brings pressure to other items on the balance sheet, which in turn can affect customer pricing.
This potential negative effect of regulation in the region highlights the unintended consequences that pieces of legislation can have on the market. For example, banks facing the capital requirements and additional costs of Basel III are likely to pass at least part of this expense on to their clients. However, the information flow from the banks to explain these costs could be better at times, as Ricky Thirion, vice-president and group treasurer at Etihad Airways explains: “We often need to tease out this information. It would be great if banks could be more proactive with this and share how they see new regulations affecting their customers. Banks can be very coy when it comes to talking about impact on costs and charges – more transparency would be preferred.”
So far this does not seem to be an issue that regulators in the Mena region want to address, as consultancy papers or discussion groups into unintended consequences are thin on the ground.
The Mena region primarily works according to a relationship-based banking model. As such, the bank and the client have a very close relationship, so the manner that costs are passed on can have a great impact. The same knock-on effect can exist in the implementation of financial regulations, such as with anti-money laundering legislation, for example. Because of the close relationship, the more that the client is questioned about sensitive issues such as their source of income, the greater the risk of this not being taken as a compliance exercise, but rather as an indication of distrust, exists. This is particularly a concern if the bank approaches this quest for information in an aggressive fashion.
A new hope
While regulations in the Mena region present a variety of challenges, they are also creating opportunities. It is very likely that new products will be introduced to the market, marking an increase in innovation. In many ways banks are being forced into a position to innovate, as there will likely come a time when the banks will have no way of making reasonable profit from the existing products on their balance sheet. There are signs that this will start happening in countries such as Saudi Arabia, the UAE and Bahrain within the next two to three years.
There is a lot of discussion happening in-house within the product teams at most of the banks in order to find out what new product can be introduced that complies with the specific requirements of the local market, and whether this will bring in new revenue or sustain a current revenue stream.