Complex Made Simple

UAE Federal law looks at national credit bureau creation

With UAE banks facing an uncertain 2011, there is at least some New Year cheer thanks to a federal law that could see the creation of a national credit bureau within the first six months of the year. Under the new system, financial institutions will be required to supply credit information about their customers to a central database, in turn helping banks to make more informed decisions about their loan provisions.

UAE banks were forced to write off an estimated 6.4% of the loans they extended in 2010, in the wake of the global economic downturn and the subsequent increase in the non-payment of debts and business loans. As a consequence institutions have tightened credit flows and lending, which is required to spur growth in the country and aid economic recovery, has slumped alarmingly.

“One of the major impediments to the recovery of the banking sector in the UAE, particularly in the loans sector, is the lack of transparency on the balance sheets of potential borrowers,” says Mark McFarland, Emerging Markets Economist at Emirates NBD.

“It’s difficult for banks to judge which borrowers are credit-worthy or not, who is a likely defaulter and who isn’t. So everybody is branded in the same way, which is not a good thing.”

UAE Central Bank indicators show that specific provisions for Non-Performing Loans by banks in the UAE had reached a record $10.8bn by end-October 2010, compared to $8.9bn and $5.4bn in the whole of 2009 and 2008 respectively. And over the first nine months of 2010 loans, advances and overdrafts to the private sector dropped three percent to $160bn.

Transparency of lending risks

According to Abdulaziz al-Ghurair, CEO of Dubai-based bank Mashreq and a member of the UAE’s Federal National Council, the new credit bureau will provide “complete transparency on the status of clients”, better allowing the UAE’s 23 national banks and 28 foreign units to assess lending risks.

“It should make it far easier to differentiate between risky clients and less risky clients, which is good for everybody – apart from those who are a poor credit risk,” says Raj Madha, a banking analyst at Dubai-based investment group Rasmala.

“I don’t think it’s going to necessarily increase the flow of credit in the UAE, but it will be good for the system as a whole as those with good credit will be able to borrow more easily while those with bad credit are prevented from doing so. Consequently, it should reduce the level of risk, while maintaining the level of borrowing.”

In July 2010, the government of Dubai passed a law making it mandatory for local and international banks in the emirate to share client information within the UAE with Emcredit, a private credit data bureau which was established in 2003 by Dubai’s Department of Economic Development.

“There have been a number of false dawns for a UAE-wide credit bureau with access to, and the ability to provide reports on, all of the credit information in the system,” notes Madha. The UAE government has yet to confirm whether Emcredit will be expanding its operations, or a new bureau will be launched entirely.

Bureau to charge banks for information access

According to UAE Central Bank governor Sultan bin Nassir Al Suwaidi, the new bureau will go far further, even charging banks for information on borrowers’ financial positions. “The credit information company being established will cover only individual borrowers and small firms seeking loans…. banks wishing to get information about those borrowers will have to buy data from the company,” he said.

“This of course will enable banks to get full and accurate information about the clients seeking loans as the information to be provided by this company will be comprehensive… it will include the size of the existing debt of the individual or firm and their financial obligations inside the UAE, including those owed to national establishments such as Etisalat and the electricity and water firms.”

At Rasmala, Madha suggests that only if banks are compelled to submit data, will the new credit bureau succeed. The risk of ceding a competitive advantage to rivals is so great that banks are only likely to hand over sensitive data if forced into doing so.

“The banks have concerns because the first bank to sign up has to provide a lot of data, and the fear is that might damage the bank’s competitive advantage,” he explains. “What is needed is for all the banks to sign up, so it doesn’t damage any of their competitive advantages, because banks are taking out the same quantity of information as they’re putting in.”

Nationwide database difficulties

The Central Bank and Ministry of Finance are currently working on the organisational structure of the bureau, whose functions are likely to include the preparation and dissemination of reports, statements and credit ratings for individuals and small businesses, as well as the collation of a database which will aid the assessment of the repayment capabilities of current and potential creditors. However, there are still significant technical difficulties to be overcome.

“A lot of people have similar names in this part of the world, and many names can be transliterated from one alphabet to another in more than one way,” says Madha at Rasmala.

“Consequently in the absence of a unique ID number, it’s difficult to make sure you have every person identified at least once and no more than once, which is a key requirement for a credit bureau,” he continues. “The Emirates ID card may resolve that issue, once everyone signs up, but until then it will be a challenge.”

Such challenges might, in the end, prove a blessing in disguise for those pushing hard for the immediate launch of a UAE-wide credit bureau. After all, rushing the rollout and as a consequence disseminating inaccurate information would be catastrophic to confidence in the sector.

“There needs to be a properly administered system which is used by everybody, and is up to the standards of international best practice,” says McFarland at Emirates NBD. “The end product is what’s important – it’s not having something, but whether it’s any good, that matters. If you go for and the system isn’t properly calibrated or the measurements aren’t right, then that’s worse than not having one at all.”