Crisis looms for Islamic banks amid property downturn

Islamic banks hit by the real estate downturn face a crisis that could include layoffs or more rescue measures if liquidity does not improve, with some players aiming simply to survive instead of grow, leading bankers said on Monday.

Sohail Zubairi, chief executive of Dar Al Sharia consultancy, said sparse liquidity continued to dog Islamic and conventional lenders in the UAE, and warned that worse could be in store if conditions did not improve by the third quarter.

"Anything is possible in this scenario," he told the Reuters Islamic Banking and Finance Summit in Dubai.

Dar Al Sharia was set up in July 2008 by Dubai Islamic Bank to provide financial and legal expertise for the Islamic finance industry.

Zubairi's assessment, echoed by others at the summit, reflects how the West's financial woes have also punished portions of the Islamic sector, once thought protected due to its conservative nature and ban on speculation.

"There is a real threat to the business of Islamic banking," Zubairi said, referring to the Islamic lending sector overall.

"If the liquidity does not return, we will not be able to continue doing our business."

Zubairi said his assessment extended to the conventional sector as well and that, by contrast, Islamic banks benefited from their conservative nature, their ban on interest or speculation, and an additional layer of corporate governance.

Yousif Khalaf, chief executive of Ajman Bank, said bankers were more focused on survival than profitability and that more losses were likely to come to light in 2009.

"Growth and profitability are no longer important objectives for 2009. What is more important is survival," he said.

Ajman Bank listed in June last year and has had to reverse plans to expand outside its home in the UAE.

Khalaf said the extent of the crisis was likely to emerge only later in 2009 as losses from the real estate sector emerge.

"The magnitude of the problems have not been reflected clearly in the financial statements of banks, because banks have been able to use different accounting treatments that have not seen the losses translated into their accounts."

Islamic finance has grown into a $1 trillion industry built on a belief of ethical investing under sharia law, but poor earnings by Gulf Islamic banks due to exposure to the ailing property sector have thrown regulation of the business into the spotlight.

Khalaf said banks have not followed one consistent standard due to competing regulatory regimes and that it may take the establishment of a common central bank for the six-nation Gulf Cooperation Council to forge a single rulebook.

Governed by national authorities or industry bodies, sharia banks are subject to a patchwork of commercial and religious rules that differ across jurisdictions, reflecting the varied and fragmented nature of the industry.

"Unfortunately, these issues have not helped the Islamic finance industry," he said. "I'm hoping that if the GCC reaches some point where there is one central bank for the GCC, that will hopefully be able to play some role."

Bankers said liquidity put into the banking sector by authorities, including the $10 billion in crisis rescue funds raised by Dubai, have provided some relief to the local economy but they only begin to address the need for financing.

Dubai, the self-styled tourism hot spot and regional financial hub, was hard hit by the financial crisis, which popped a real estate bubble that saw the emirate construct the world's tallest building and palm-shaped islands in the sea.

The Dubai government launched a $29bn bond scheme in March, of which the UAE Central Bank bought $10bn which it is in the process of handing out to struggling companies and banks.

The second $10bn is on the way to help restore liquidity and provide financing to a cash-strapped economy.

"We are only scratching the surface but at least it is better than not having it," Zubairi said.

"It is encouraging since there may be more bond issues to address the liquidity issue.

Khalaf said the funds have not turned banks back into engines of economic growth, as hoped by policymakers.

"The liquidity that is put in the market does not actually help banks to lend and grow and make the economy grow. It has been used to replace outgoing deposits."

Political leadership will likely be required if consolidation was to take place, Zubairi said.

"Islamic banks may not take any voluntary measures since they are already small in number compared to conventional banks," he said.

"Islamic banks need to get bigger and one way could be a merger."

Government officials are already leading the merger of Amlak and Tamweel, which ran into trouble after the collapse of the Dubai real estate sector, along with two other state banks into the Emirates Development Bank. (Reuters)

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