Banking Pains?

Do foreign banks find that local laws restrict their ability to operate in the region? Two major international banks in the UAE share their experiences.

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By  Massoud Derhally Published  August 6, 2001

Introduction|~||~||~|Many foreign entities want to know what the requirements are to set up in the UAE. The procedure is straightforward, albeit a bit protracted. With the banking and financial services industry growing exorbitantly, Arabian Business.com approached those in the legal and financial services sector to find out if the regulatory framework for foreign banks operating in the local market was much different from those applicable to local entities.

The findings have been mixed, predominantly a reflection of the different operations that define an organization's presence in the local market. Take a large player like Citibank, which has full-fledged banking facilities and compare it to a representative office of another major North American bank like Royal Bank of Canada. You would expect a disparity in how each organization functions. But what about the regulatory framework -how does it affect the activities and operations of foreign banks and their representatives? More important, do banks view their activities as restricted by virtue of the relevant laws, decrees, resolutions and decisions?

The banking and monetary system has witnessed tremendous growth since the creation of the UAE. The regulatory authority since 1980 has been the UAE Central Bank, which set in place Federal Law No. (10) of 1980 concerning the Central Bank, the monetary system and organization of banking. The law was a catalyst through which significant progress has been achieved. This, in part, has been due to the Central Bank's increasingly strict control of financial institutions, both national and foreign. While there remains room for improvement, the Central Bank has achieved much in terms of improving the quality of services and performance of a number of banks.

The Central Bank law defines financial entities by five categories, which include: commercial banks, investment banks, financial establishments, financial intermediaries, and monetary intermediaries. All the respective entities must obtain licensing from both the Central Bank and the local licensing authorities. To date, 48 commercial banks operate in the UAE, of which 20 are local, and 28 are foreign; with 38 licensed representative offices of foreign banks and other financial institutions. The already large presence and continued attraction of foreign entities is a trend that government officials ascribe to the flotation of a number of new companies and to the UAE's membership of the World Trade Organisation (WTO).

With the large presence of banks in Dubai, some may consider the Emirate to be over- banked. Having said that, fierce competition has only enhanced the level of services these banks extend to customers and a drive to differentiate themselves from one another. Providing Internet banking on the retail side is only one example. Currently, 19 banks in the region offer online banking, and only a handful offer online brokerage. Some banks already cater to correspondent and corporate needs as well, while others continue to seek out parameters for improvement.

So are foreign banks disadvantaged versus local competitors in the market place and is it necessary for laws to be changed from a customer and bank standpoint? According to Citibank's Sankar Krishnan, vice president and regional head of the Middle East, and Faisal Ameen, vice president and regional sales manager of the Middle East-no not at all. "Citibank has had a presence in the UAE since 1964. Our business has grown every year since then and it is an important market for us," says Krishnan.

Citibank in the UAE is a branch of Citibank NA, registered in Delaware and a member of Citigroup. Unlike some countries where foreign entities are required to partner with a local entity, Citibank and other foreign banking institutions are exempt from such a partnership.

If you look at the UAE market, it is a very successful trading hub. This is due to the fact that both businesses and financial institutions are given latitude by the governing bodies to operate in a manner that facilitates the success and growth of the trading hub. "Much of the credit for the success of the trading hub can be attributed to the governing bodies who have an important role in monitoring and enforcing the prescribed laws that have resulted in increased trade activity," says Ameen.

Banks feel the pressures to innovate and come up with new solutions that serve evolving customer requirements and Citibank is no exception. This often leads to innovation, which requires modification of certain laws. For example, Dubai is looking to attract companies to set up Regional Treasury Centers to enhance Dubai as the regional financial hub for the Middle East and North Africa region.

"These initiatives require some modification of the laws to allow for notional pooling and other liquidity management structures. I believe the country as a whole will gain as the companies and the RTCs look to concentrate funds from all other countries into Dubai, thereby increasing the liquidity flow through the financial markets," explains Ameen.

Another example is the requirement for e-legislation. Today a certain amount of e-commerce is taking place over the Internet. However, in order for e-commerce to really take-off, there needs to be new legislation that recognizes the legitimacy of trade conducted on the Internet. "The government of the UAE is clearly a big proponent of e-government and e-commerce and it is encouraging to note that the government is actively engaged in the evaluation and formulation of new legislation to boost the growth of e-commerce. The laws have been very effective in generating trade and the signs are positive that the laws are likely to evolve to facilitate the initiatives of this proactive government," says Ameen.

Andrew Tice, the managing director of Royal Bank of Canada's representative office in the Middle East (RBC), which has been in the UAE for past 28 years, considers the Gulf region over-banked by a margin of three times. But his view of RBC's operating environment differs slightly from that of Citibank.

As RBC is a representative office, it is subject to Article 6 of the
Central Bank Resolution No. 57/3/96, which defines what activities are permitted or prohibited. explains Tice.

As a result, RBC's approach has been to go indirectly to clients by partnering with local banks. "While barriers to entry for us exist, for some of our partners it is an offensive strategy and for others a defensive one," says Tice. You have Swiss bankers flying in and then out in an attempt to service existing client relationships, and acquiring new relationships, RBC considers its arrangement with local banks a relationship of synergy.

While the local banks have in place clientele and a network of partners, RBC brings to the table its own engine room in the form of one the largest offshore banking operations in the world. According to Tice, RBC helps local banks to help their own clients, be they high or ultra-high net-worth individuals.

"With wealth, you have the issue of onshore tax and RBC can help to administer in such areas. We have bought the major offshore fiduciary business of Ernst & Young in the Channel Islands. Moreover, RBC brings a high rated AA bank and to the client of the local banks that is a good thing," says Tice.

As a foreign bank, Citibank is subject to a tax rate of 20% and is permitted to have up to eight branches throughout the UAE. However, it is not restricted in the types of services and products it can extend to customers. "The processes are the same as with a local bank. We submit to the Central Bank our proposal for new products that explains the offering in question and the reasons for its development. The central bank has been very supportive when it comes to new products and initiatives," explains Sankar.

As to the lending facilities Citibank can extend, there is a single limitation which banks are required to follow. According to Sankar, the Central Bank agreed a few years ago to substitute the single borrower limitation with group capital in the case of foreign banks. So how does Citibank address the issues relating to default? On both the consumer and corporate side, "Citibank has very strong credit scoring and corporate models that we apply, and because the model has checks and controls it is the primary way that we manage the possibility of defaults," says Sankar.

Although the UAE does not have a settlement clearing system like the Saudi Riyal Interbank Express (SARIE), which acts as a crossing point for the settlement of interbank transactions, business has seen positive growth and has not been overly affected. However, according to Sankar, in light of the current e-initiatives, both in the government and private sectors, a real time settlement system becomes important to providing digital liquidity in the e-space.

"We have had discussions with the Central Bank and they are supportive of a real time settlement system. The question is what are the systems and processes? I think in some ways the initiatives are now underway in the sense that the overall automation is happening now, and a system may be in place as little as in a year," says Sankar.

So where are foreign banks at par with local competition and where are they not? What developments does Citibank as a foreign player want to see in the future? According to Sankar, "One is clearly the clearing opportunity, the other is with the WTO kicking in. I don't think there is anything written that prevents a foreign bank from a level entry situation, I think it is the perception that maybe foreign banks are not allowed to enter the public and government sector."

Foreign banks clearly have access to all those areas provided they are able to add value. In terms of the future, "I think we will see a lot more in terms of liquidity management products," says Sankar.

A big challenge for the banking and finance sector in the Middle East region is consolidation and transparency. There has been some talk of a regional Nasdaq market and the region has witnessed activity in the merger and acquisition of regional banks like the recent merger between Dallah al Baraka and The International Investor to create the world's largest financial services group.

Both developments imply and indicate a change in direction and are certainly a positive step. "We have to learn from the Nasdaq Japan experience, which has enabled a lot of Japanese companies to get liquidity. It is about unlocking value. The question we need to ask though is how many companies do we have in this region that are capable of unlocking value using that delivery platform. For some of the new investments, a Nasdaq Middle East can be a start, but not every company has that capital structure and value," says Sankar.
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