By Alex Delmar Morgan
Many analysts predicted a loosening of credit restrictions in the first quarter of 2009 but that relief has yet to come.
Many analysts predicted a loosening of credit restrictions in the first quarter of 2009. However, that relief has yet to come as the liquidity crisis shows no signs of abating.During the first nine months of last year, UAE banks acted as if the credit crunch would never come. Lenders advertised cheap money on giant hoardings above packed mega-malls, borrowers gorged themselves on gargantuan loans and multiple credit cards, and rock-bottom interest rates coupled with a booming economy meant the Gulf seemed a million miles away from the doubt and uncertainty that was choking Western markets.
Now, though, those days are over and the UAE faces a liquidity crisis of unprecedented proportions. With loan to deposit ratios at exorbitant levels, many banks are over-leveraged and a lack of funds means they are reluctant to lend to each other.
What you see when you’ve had a property boom anywhere in the world is that banks have made some loans they probably shouldn’t have.
Would-be home buyers are unable to get a mortgage, while smaller businesses - including developers now running into cashflow problems - are suffering as lines of credit dry up.
Many analysts expected banks to loosen their lending restrictions at the beginning of 2009, with the dawn of the new financial year. And with banks across the country confirming they have received the second tranche ($6.8bn) of the $32.6bn emergency government funding designed to boost liquidity, the pressure is on lenders to ease credit lines
However, experts now say that the financial shackles are unlikely to come off as soon as was hoped.
"I don't think for the foreseeable future, in the next three to six months, things will improve on the bank lending front. I think liquidity will remain under pressure," warns Raj Madha, analyst at Egyptian investment bank EFG-Hermes in Dubai.
The origins of the current liquidity crisis can be traced back to the early part of last year, when foreign money poured into the country on investor bets that the dirham would be revalued against the dollar. When the revaluation talk proved to be a false alarm, the inflows of foreign capital reversed. The exodus of foreign money was then exacerbated by investors fleeing the turbulent equity markets.
With the interbank lending market frozen, shockwaves from the global recession are rocking the Gulf. House prices are falling, developers are cancelling or delaying projects, and there have been widespread job cuts across the real estate and construction sectors - two of the biggest drivers of GDP growth in the UAE.
The confidence of both lenders and borrowers has been rocked, and banks' frugal lending policies are unlikely to change until there is reassurance that loans will be repaid. According to a study published last week by global consultants Dun & Bradstreet (D&B), 55 percent of SMEs are unable to get the credit they require, and over 50 percent of SMEs are unhappy with the interest rates they are being charged.
The study showed that banks in the UAE generally reject between 50 to 70 percent of the applications for credit to SMEs, largely due to high perceived risk of lending in the country.
Madha believes the labour market holds the key to the prospects of an easing in liquidity conditions.
"The health of the labour market affects banks' willingness to lend, as banks are happier when they know they are going to get their money back," he says. "The risk is that borrowers are potential skips [someone who flees a country without repaying debts]. Redundancies in finance, property - and at some stage in the tourism sector - mean the probability of skips has risen."
At the end of September the UAE Central Bank unveiled plans to pump $13.6bn into the banking system. Three weeks later, an extra $19bn liquidity injection was announced.
Most analysts support the government's intervention, and believe the cash pumped into the system will filter through eventually. However, will it be enough?
"We need more in the way of bailouts," says Marios Maratheftis, head of research at Standard Chartered bank. "Liquidity has definitely tightened; it is going to be a long time before we go back to the days of free credit. Those days are over."
"A liquidity injection is not designed to bring about a return to a loose monetary environment," agrees Madha at EFG-Hermes. "They may plausibly be topping up the $33bn in the second half if they find that credit markets have not eased to the extent expected."
The scale of the liquidity problem and the snowballing international financial crisis was highlighted in November, when it emerged government-owned Real Estate Bank would absorb Amlak and Tamweel, the two biggest mortgage lenders in the UAE with a combined market share of 60 percent.The two companies, which were facing funding, liquidity and solvency issues, had announced plans to merge a month earlier in an effort to kick-start the home loan market. However, Amlak suspended new mortgages completely in the wake of the merger.
Banks' lending has, in the past, ccomprised a relatively small slice of the UAE mortgage market, as big lenders such as Amlak and Tamweel have historically sourced their funding from semi-state enterprises such as pension funds.
However, the role of the banks has increased with the bailout package, and with banks now controlling a bigger share of the mortgage market, their willingness to lend does have a greater impact on real estate across the UAE. British bank Lloyds TSB, for example, made headlines in November when it stopped financing apartments and reduced its loan to value ratio on villas to just 50 percent.
Chris Dommett, CEO of mortgage broker John Charcoal, says banks are still concerned with the credit worthiness of their borrowers. However, he argues that their tactic of raising interest rates to cover the higher cost of borrowing is self-defeating, making it more likely people will default - the very issue lenders are frightened of.
"Dubai lenders are constrained by lack of funds and I can't see them coming back until the third quarter," Dommett says. "Banks need to get some confidence that prices have stabilised and that they don't have a problem with the credit worthiness of their borrowers.
The problem will come if they maintain very high interest rates, as people who were happy paying their mortgage three months ago are now going to start to have problems."
A far greater chunk of banks' loan books are committed to property and construction companies. However, with so many project delays and cancellations across the country, and the real estate market looking so uncertain, banks are likely to exercise an even greater degree of caution when doling out loans to firms in this sector.
"What you see when you've had a property boom anywhere around the world is that banks have made some loans they probably shouldn't have," says Madha. "One or two banks are likely to have ignored their own lending guidelines more often than they should."
There is some cause for optimism, however. The EIBOR - the rate at which banks borrow from each other - has come down by 0.5 percent since the start of December. Three-month EIBOR is now 3.94 percent, down from 4.43 percent six weeks ago. According to Dommett, this is an indication that bank lending is loosening, but there remains some way to go before customers are likely to see a marked improvement in liquidity.
At Standard Chartered, Maratheftis estimates credit growth will rise in the first quarter this year, although it will fall far short of levels seen in the first half of 2008, when credit growth was "massive and unsustainable."
"Credit growth, as of June 2008, was 49 percent year on year; that is too aggressive," he says. "I believe we will see some liquidity returning to the system, we will see some moderate credit growth of perhaps 10 percent."
Much will hinge on the effectiveness of the government's emergency funding line, not to mention any resurgence in confidence in the real estate sector.
"When will banks open up and start lending more freely?" shrugs Dommett at John Charcoal. "My fingers are very firmly crossed it happens sooner rather than later."