Effort to move away from commodity-based economy

Reported by: |Updated: March 17, 2016

Intro: The falling oil prices are forcing the Gulf countries, especially Bahrain, to try and avoid dependence on commodities. Rasheed Mohammed Al Maraj, governor of the Central Bank of Bahrain, outlines the efforts in this regard:

The falling oil prices have considerable impact on the economies of GCC countries in general – particularly Bahrain and Oman – and a string of economic reforms that are on the anvil will take care of the concerns expressed by investors. This is the assurance given by the governor of Bahrain’s central bank Rasheed Mohammed Al Maraj.

Speaking on the sidelines of fifth annual Euromoney GCC Financial Forum, where he participated in a town hall discussion, Al Maraj said the reforms would ensure that the country would no longer depend on a commodity-based economic growth. “This, I am sure, will bring relief to investors, especially in the light of an unwarranted downgrade of the country’s economy by rating agency S&P,” he said.

The ratings agency had downgraded the Bahraini economy by 2 notches downgrade, labeling it as ‘speculative’, taking into consideration the lowered oil prices. Oil accounts for about 20% of Bahrain’s GDP and roughly 75% of fiscal revenue and 60% of exports, according to the ratings agency, which projected government debts to reach 77% in 2017. Al Maraj said the move was uncalled for and untimely.

He said the country’s economy, since December 2012, had taken a beating; however, this period also saw fervent economic activity and reforms. “The government has taken an aggressive action to solve budgetary problems and some of these measures were truly difficult to make. For example, removing the subsidies on oil and gas and food items, as these issues involved the social aspects of our spending programs,” said Al Maraj.

He admitted the downgrade has obviously dented investor confidence in Bahrain. “But, the relationships with investors have been strong. The rating agency’s concerns are not justified. We should not be too worried and get frustrated as a result. It is our job to explain to the public and to the investors as to what we are doing, and we have to be transparent, forward looking, and not be bogged down because there was a cut in our ratings. It is something that we have to take if we have to do this exercise,” he added.

Al Maraj said there is tremendous scope for the economy’s development. He said there would be risk diversification, widening the scope of the economy, better and realistic policies and addressing the issue of subsidies. “We are not looking at creating roadshows as a standalone exercise, but we have packaged different measures that will address budget-deficits from within, at the same time address economic offerings to enhance economic activities and widen diversification,” he added.


When asked about the impact on the investor confidence, he said the country has a good base of investors that it has been dealing over many years. “I think for anyone dealing with not only Bahrain but also many other countries of the same quality of credit, they would end up understanding that credit rating is not the only benchmark of valuing an economy. Valuations (conducted by rating agencies) and the analysis are not concrete or a key tool for assessment of sovereign prices,” he said.

The governor disclosed that the central bank of the country is aggressively working towards systematically eradicating imbalances in the country’s budgets and fiscal deficits. While the economy is not averse to large investments and inward cash-flows, Bahrain would develop itself into a destination for non-commodity opportunities, he said.


The downgrade, on the contrary, would provide an opportunity for the country to move away from  a commodity based (specifically oil) economy to bring in consolidation through restructuring, he said, adding the government of Bahrain was the earliest to visualize the growing concerns of an oil-dependent economy. “Though the country has limited financial resources, the immediate objective is economic-broadening. This brings to surface issues (concerns) that have been buried under tons of bureaucracy. I think we should look at it as a perspective of opportunity to remove the distortions, and put our economies in a sustainable track,” he said.

Al Maraj said the oil-based economy was chained by an umbrella of subsidies that held back potential in other sectors. It also impacted the course structure of doing business and the overall social mindset of people, job-prospects and businesses. Furthermore, the government subsidies and loans created a hostage situation leading to a low-oil price deficit crisis.

He also highlighted how the country depended on economies like China for exports of resources such as aluminium, iron ore, and essential commodities. But the changing dynamics means that Bahrain cannot survive on exports alone. The first remedy according to him is cleansing the mindset. “We were fortunate to benefit from the Chinese growth for 30 years. But, Bahrain was not like this 40 years ago. We were closely working in different sectors. There was more entrepreneurial spirit within the society. We have lost this spirit in the middle of this oil boom. This new texture is starting to sink in, we have a new dynamics and we have to live up to it,” he emphasized.


Al Maraj said the question of subsidy withdrawals was on the ‘drawing board’ for 3 years and it has now triggered social concerns owing to the timing of the oil price volatility. Ensuring subsidies reached the needy and ones that need support was the primary promise and objective. “It was a struggle in terms of convincing different stakeholders on how to move forward with our objectives. The changing societal fabric also stems from programs that failed before the implementation of the subsidy withdrawal. What matters is financial economy and stability in the country. We cannot allow a budget that gets out of control, without taking some drastic steps. There are issues that would be related directly to the operational costs of the government. There are issues related to subsidies that we have addressed, and we would continue to improve our efficiencies on addressing this challenging budget deficit,” the governor said.

He felt that the subsidy withdrawal and other corrective actions offer comfort in the medium term. He pointed out that the IMF has recorded in a January 2016 report that the Bahraini banks are adequately stress-tested and has projected them on a moderate risk profile. “The banking sector is in good shape, in terms of liquidity and capitalization and a continual decline in non-performing loans. The issues that came with the financial crisis have been put to rest now,” he elaborated.

The governor also indicated that certain programs and subsidies such as bank transfers and direct debits have not captured the attention of media and public. The central bank offers support to thousands of families, by giving them, cash transfers in their bank accounts. According to the governor such programs account for the loss the system suffered since early 80s.


Speaking on the issue of taxation policies Al Maraj said Bahrain offers competitive cost of operations, ease of business and viability in terms of corporate taxation. Though corporate tax has not been addressed in discussions, there have been deliberations on assessing the value of the VAT at the GCC level. There are discussions on creating mechanisms but no timing and details of these have yet been published. The central bank in discussion with rating agencies is implementing most standards. “Some of the measures suggested are not very popular, but we will implement all of them which will help put public funds on a stronger footing.”

As regards the prospects of taxing remittances, Al Maraj is of the view that it would not work for the country. “I don’t think it is a good thing to tax these kinds of activities (remittances). No taxation on remittances would encourage consolidation of Bahraini banks and it is important for Bahrain to have bigger and stronger institutions,” he said.


According to him, regulations are strangulating the banking system, such regimes shackle the banking system and inhibit positive economic growth. “The biggest challenge is restarting economic activities, creation of jobs, restoring standard of living. I think we have to be careful in what we design in our systems, fiscal and monetary budgets in order to encourage growth. We need to have a broad-based economic activity that would improve and bring hope back to the younger generations. This is the biggest challenge for any governments,” he added.

Al Maraj emphasized on the challenge of de-risking. It has been a ‘pain’ for Bahrain, he said, considering the kind of adverse positions that it puts forth. Many international banks have curtailed their correspondent services, which has affected a wide section of the population. The situation impacts expatriates as many of the banks are refraining from dealing with exchange houses. To combat this crisis the Central Bank of Bahrain has engaged the stakeholders such as international banks, US treasury, and the OCC. “We are hopeful that they understand the standard of compliance in this region and that these issues are aligned with international practices, and we are hoping that they will give us some flexibility in handling the expatriate population in the region,” he revealed.

Underlining what the governor had outlined in his interaction, Khalid Hamad Abdul-Rahman Hamad, ED – Banking Supervision, the Central Bank of Bahrain, said the central bank is one of the few unified regulators in the world, which regulated over 400 licensed BFSI organizations under a single regulatory authority, with extremely high of efficiency.


He said as a regulatory, the central bank is continuously exploring and developing legal and regulatory infrastructure based on IFRS, Basel III and other international standards and has put a plan for implementation of the same. For the last three years the bank has been busy with Basel III and currently it is finalizing the leverage ratio requirement and is in the process fine tuning the regulation based on consultation with the industry.

He also said the central bank is in constant consultation with banks on liquidity requirements, although it has not formally issued any notice for maintaining the Basel III norms for liquidity. “But we have asked the banks to report their monetary services ratio quarterly. This will help them to identify gaps and address them before the norms come to force,” he said.


Hamad said none of the banks in Bahrain have low CAR. The law requires minimum of 8% and a buffer of 10.5%. Most of the bank have a CAR of 12.5% which is very high than the Basel standard. “We have now floated a discussion paper for liquidity requirements. This high capital adequacy ratio helps banks to tide over bad times and absorb losses. Banks have adjusted themselves before we issue regulations,” he added.

Hamad mentioned that due to financial crisis and sluggish economy, the demand for credit is still low. While the demand is higher for retail credit, corporate credit demand and offtake is low. “Some banks have set up new lines of business like SME. With the support of Tamkeen, which is essentially a semi-government labour and business fund, they are going to the next levels.

Tamkeen is funded by the private sector and it helps in enhacing qualifications, provide training and offer guarantees. Several businesses have benefitted from Tamkeen and quite a few Bahranis have acquired professional qualifications with its help. It has programs where Bahraini companies can recruit Bahrainis and Tamkeen would contribute 50% of salary under condition that the employee would acquire professional qualifications. Once he does that the rest of 50% is also given to company thereby helping them get skilled work force.


Hamad said Bahrain was the first country to adopt and nurture Islamic finance in a very concerted manner way back in the mid 1970s. Now it is an important center of Islamic banking and finance. “We have seen establishment of the International Opportunities Portfolio Management (IOPM), Bahrain International Islamic Financial Market, Council of Banks and Financial Institutions, WAQF Fund and many other important organizations from Islamic banking perspective in Bahrain,” he said.

He pointed out that Bahrain in the first place did not interfere in the shariah laws and the law boards. It initiated the appointment of shariah boards and gave them ample of time to develop. “Last year we took up the initiative to standardize Islamic banking regulations and set up a centralized Islamic Board, which would sit above all shariah boards and will be empowered to take policy decisions. It will have power to have a say or override the shariah boards’ pronouncement as also in relation to a new product or policy. Individual transactions, however, will be the prerogative of the respective boards,” he added.

Hamad maintains that the falling oil prices have no major impact on banks in Bahrain. However, if this continues, it will affect the growth of lending and there will also be increase in NPA. “We are lucky to have no major impact. However, if we look at the previous recessions, 2014 and 2015 were the best years for Bahrain till now. We had achieved good growth in profitability, capital and deposits. Even in a crisis situation, deposit growth did not stop,” he said.


Hamad does not agree with the downgrading that the country’s economy got from S&P. “We believe that these ratings have been given without a 360-degree evaluation. Someone sitting at some place, and listening to someone on phone decides these ratings. There is no  verification of facts. In 2011, we had a conversation with one of the managers over the phone post which we got to know that our rating was downgraded. We suggested that before the announcement of the rating it is necessary for the rating agencies to visit Bahrain, feel and assess the ground situation and then arrive at a conclusion. Even during the crisis in 2011, it was business as usual in Bahrain in most of the places though there were few disturbances here and there,” he said.

“Having said that, we are surely taking action. There has been reduction and rationalization of subsidies, increase in oil prices, heavy investment in infrastructure, strong focus on ICT and innovations, and on developing ancillary services and the service industry as a whole,” he added.

He said the country is reacting to this downgrade by continuing development initiatives and taking up progressive measures for growth. He is sure the ratings would change in the immediate future and he hoped that these agencies change their outlook.


How is the regulator working on regulating fintech companies?

Hamad said few of the financial companies are resorting to outsourcing the non-core business areas. Finance companies find it difficult to bear the huge cost of IT and hence outsource the activities to specialized companies who bring in expertise to manage the operations. He said outsourcing is rampant and the outsourcing service providers need to be licensed. “We realized that the banks are trying to cut costs and therefore proactively created regulations to govern these companies,” said.


There has been an agreement amongst all the GCC countries to come together and share credit information. Hamad revealed that in this context, efforts are on to establish a common GCC credit bureau, helping all the banks across the countries share information on credit ratings of customers. “There is a meeting of GCC governors where further steps will be taken to implement this. Once implemented, banks across countries can benefit from the rating scores and thereby have better asset quality.

He also said the GCC countries have created a framework for GCC net which would function as a common network linking all the ATM stitches in all the GCC countries. Bahrain has recently introduced instant mobile payments up to 1000 BD a differed payment facility for large payments and a facility to pay utility bills.