The political unrest in Bahrain has adversely affected banks and their customers. Loss of business to other Gulf states might be hard to reverse, especially as the government crackdown continues, leaving popular resentment smouldering. Published in Euromoney, September 2011
In early 2010, TV ads featuring international corporations such as HSBC and KPMG began airing in Bahrain to promote the country’s position as a regional financial hub. In one of them, an executive from French bank BNP Paribas describes the small Gulf island nation as "like Wall Street with palm trees" and signs off by asking: "Wish you were here?"
A year later, in early 2011, many people were wishing they were almost anywhere else. As troops moved onto the streets of the capital to dispel pro-democracy protestors, Manama’s financial district was more like Wall Street with guns and tanks.
The EDB has confirmed that Crédit Agricole has pulled out of Bahrain, although they insist that no other big player has followed. For all their reassurances though, for that to remain the case in the longer term depends on the maintenance of peace and stability in the kingdom.
But others in the industry were still prepared to tell Euromoney about the mood among bankers in Bahrain and offer views about the short-term and long-term impact of this year’s unrest. Many in the country deny there are any serious problems but the views in other financial centres are important for Middle East trade. Bankers in such as Dubai, Beirut and London are often far more pessimistic.
The political unrest in the country began in mid-February when protestors camped out at the Pearl Roundabout calling for greater freedom and equality. It was a rare outbreak of political activism for the Gulf and was only briefly tolerated by the authorities. A brutal crackdown took place in mid-March with the aid of troops from Saudi Arabia and other Gulf Cooperation Council countries.
The events had some notable short-term effects on the banking sector. Institutions in the country put their contingency plans into action by moving staff and operations to other centres, money was withdrawn from the market and credit lines were frozen by international banks. With normal economic life disrupted, some business owners had difficulties servicing their bank loans.
After March the situation, on the surface at least, appeared to return to normal. But the question now is, how much long-term damage has been done to the country and its key financial sector and how quickly a recovery can take place. As Esam Fakhro, chairman of the Bahrain Chamber of Commerce & Industry and a prominent figure on the local business scene, acknowledges: "It takes you a very long time to build and a short period to destroy things."
If Bahrain does not manage to recover all of the ground it has lost, the effect on its economy might be severe. There are 411 banks and other financial institutions in the country, including 77 wholesale banks, 30 retail banks and 27 representative offices, as well as 27 Islamic banks. According to the Central Bank of Bahrain, the financial sector as a whole contributes some 27% of GDP and is a big source of jobs for locals and foreign nationals.
At the end of December 2010 the financial sector employed a little over 14,000 people in the country, according to the annual survey by the Central Bank of Bahrain, and two-thirds of those were Bahraini staff. The main driver of jobs growth in the past year has been the non-bank sector, including insurance firms and money brokers. In 2010 employment in the banking sector fell, from 8,946 at the start of the year to 8,782 by the end of December. Unless the economy recovers, the number could have dropped even more by the time the central bank comes to do its next annual survey.
Even before the political unrest, Bahrain’s position as a regional financial hub had been coming under steady pressure as a result of the growth of the Dubai International Financial Centre and, to a lesser extent, the Qatar Financial Centre. Both have proved themselves to be adept at luring large international banks and, just as important, both have remained peaceful this year. As a result, they are now viewed as safe havens and it is widely assumed in the Gulf that the money that left Bahrain at the height of the crisis largely went to those centres, even if this cannot be proved directly from the official sources.
"The data did show some outflow from Bahrain during the unrest," says Marios Maratheftis, the Dubai-based regional head of research at Standard Chartered Bank. "This was understandable and anticipated; it is something one would expect to see. That doesn’t mean the cash that left Bahrain went to Dubai and Qatar because we cannot really see that from the data. But there were large inflows into Dubai and Qatar. Dubai and Qatar emerged as relative winners out of the unrest."
The consolidated balance sheet of Bahrain’s banking system fell in value from $222.2 billion at the turn of the year to $201 billion by the end of March and then to $197.5 billion by the end of May – its lowest level since 2007. At the same time, more money was being moved into foreign currencies. The proportion of retail bank deposits held in Bahraini dinars fell from 66.3% at the end of January to 60.5% at the end of March, before recovering slightly over the following two months to reach 62.6% by the end of May.
Not all banks were equally affected, according to the financial results released to date by local banks. For example, Bahrain Middle East Bank, National Bank of Bahrain and BMI Bank all suffered a fall in customer deposits in the first quarter of the year but the deposit levels of Ahli United, Arab Banking Corporation and Gulf International Bank rose. When it comes to the growth or decline in the value of assets, the picture has been equally mixed.
There are many stories of staff leaving Bahrain, too, although the evidence for that is mostly anecdotal as few, if any, banks have admitted to permanent transfers of staff to other countries.
“At the beginning there was some concern, definitely during the first month," says Fakhro. "Some of the offices here shifted their staff to neighbouring countries like Dubai and Qatar, but that was only on a temporary basis and things are back to normal. From what I know there hasn’t been any shift or migration of business to neighbouring countries."
Again, it is Qatar and the UAE that appear to have been the immediate beneficiaries, although most, if not all, staff who left are thought to have returned once the unrest died down.
Mazin Manna, chief executive of Citibank Bahrain, says that, in terms of the movement of staff and capital, the effects on his bank and the sector as a whole were limited. "Were there short-term concerns about Bahrain’s ability to maintain its position? Yes, at the peak of the events some people questioned it, but I don’t think any major banks have made a decision to leave," he says. "The expectation that there’d be large capital flight or departure of deposits never materialized. Even at the peak of the crisis there wasn’t the mass capital flight that people talked about. It’s had a very limited effect. We operated our contingency plans at the time, so some staff moved out temporarily but they all returned long ago."
Those who stayed in the country found that business activity was much weaker during the unrest. The clearing system remained operational throughout, ATM machines were regularly topped up and there were only very limited branch closures, but a lot of economic activity simply evaporated.
According to the Chamber of Commerce, business activity fell to as low as 30% of the normal levels expected at this time of year, with the SME and retail sectors particularly badly hit. Banks say they are hoping for an upturn in the second half of the year to compensate.
"Business levels were affected, particularly in terms of the volume of loans, because people were not too eager to commit to taking loans," says Karim Bucheery, chief executive of Bank of Bahrain & Kuwait. "With consumer loans especially, we have seen a decline in the growth level we have been used to in February and March. Consumer loans had been growing by anything between 5% and 10% last year. This year they are stagnant. On the corporate level there has been some growth and hopefully they will be growing more towards the end of the year."
The banks were put under further pressure by the attitude of their international peers to the crisis. According to a number of senior executives in the country, some local banks suddenly found their credit lines frozen. Although most are thought to have been restored fairly quickly, some might still be affected.
"Some banks put a freeze on our lines, but when we spoke to them and explained the situation they restored the lines without too many negative implications," says Bucheery. "There are only one or two that have continued to freeze or cut lines [with other banks], but the majority have restored their lines. It was mainly European banks that froze the lines; banks that did not have any presence in Bahrain."
The banks’ customers also found themselves in difficulties, particularly those involved in tourism and related services sector activities such as hotels and car rental firms. As a result of the Formula 1 race being cancelled and many international conferences also being cancelled or moved to other countries, they found that business was down across the board and it became difficult for some to service their loans.
In all of this, the situation was slightly different for international investment banks based on the island that do the vast majority of their business in other markets. "It didn’t affect us at all as an international bank," says Nahed Taher, chief executive of Gulf One Investment Bank. "Our investments are global and we don’t have any branches. But it was a worry for some of our staff. We were ready to move staff to Dubai or elsewhere. No staff moved, but for three days they worked from home."
Pressure pays off
Rasheed Mohammed Al Maraj, the governor of the Central Bank of Bahrain, reacted to the problems in the local economy by encouraging banks to relax the terms of customer loans. At a meeting on March 28 with the chief executives of local retail banks, he urged them to ease the pressure on SMEs by rescheduling or restructuring their facilities. Indeed, the approach of Al Maraj and the central bank in general appears to have been very hands-on throughout the crisis and the pressure exerted on the banks appears to have paid off.
"They have been in touch with us on a daily basis and at the highest level," says Bucheery. "The governor himself was calling me on a daily basis to make sure banking operations were going fine and to offer support in terms of liquidity, cash movement and replenishing our ATM machines.
"We have kept the doors open for SMEs to help with restructuring of debts they have. We have not seen too much demand on that front. There are some clients who have approached us to reschedule, but it is nothing significant. All we have seen is that some major corporate clients or SMEs have some pressure on their liquidity and have asked for the postponement or rescheduling of their repayments. This is normal when a country goes through a crisis and we are not too concerned."
The extent of non-performing loans has yet to emerge but might lead to further problems for the banking sector. But banks might well be able to recover some of their lost ground in the second half of the year, given the expansionary economic policy adopted by the government, which passed its largest ever budget earlier this year, including spending of more than BHD3.1 billion ($8.3 billion). A further $10 billion in financial assistance from other Gulf Cooperation Council states is being made available to Manama over the coming decade.
"There’s optimism that the second half of the year will see a rebound in sectors affected in the first half such as tourism, although it remains to be seen if that will be sufficient to achieve previous growth targets," says Mazin Manna. "We expect [the government’s] expansionary fiscal policy will also help spur growth. While effects on the provisioning levels of banks have been very limited in the first two quarters, there may be more provisioning to come in the second half of the year. Having said that, Bahraini banks are liquid and well capitalized and therefore able to weather the potential fallout."
The country’s inward investment agency, the Economic Development Board, has also been actively trying to reassure investment companies. During the crisis, the organization’s chief executive, Sheikh Mohammed bin Isa Al Khalifa, met senior officials from at least 30 investment companies to assess the business environment they were facing and the extent of any support that they might need.
The activism of the authorities during this period appears to have achieved one of its main goals, in helping to reassure banks and others.
"The central bank was very proactive in dealing with the crisis," says Abdel Hamid Shoman, chairman of Arab Bank. "In terms of communication, the central bank and the Association of Banks proved to be efficient and practical in the way they handled the crisis. We have faith that Bahrain will maintain its position as the centre for wholesale banking in the Gulf and will remain an important financial centre. Bahrain should be able to demonstrate its resilience to put the crisis behind it and focus on its many strengths."
Indeed, the reputation of the central bank is one of the strengths of the Bahraini banking system most often cited by senior executives. But the country retains some other advantages that haven’t simply disappeared overnight and that should help it to maintain the position of its financial sector in the future.
Perhaps most important, Bahrain is widely seen as a good entry point into the lucrative Saudi market. There is also widespread recognition of its open economy, which allows for the easy repatriation of capital, a friendly tax regime, a skilled labour force and infrastructure that is good, if not quite as advanced as that in Dubai and Qatar.
Such factors are likely to encourage banks that already have operations in Bahrain to feel that they have good reasons to stay. Nonetheless, Bahrain’s reputation today is rather different from the one it had at the turn of the year, when it was seen as a peaceful, stable country with a mature and well-established financial sector. Today many bankers view it with a far more wary eye and most acknowledge that for any banks coming to the Gulf for the first time, Manama is likely to be off the list of potential locations for now.
"New entrants to the region are less likely to look at Bahrain now than they were at the end of last year," says Simon Williams, chief economist for HSBC Middle East, who is based in Dubai. "There has been erosion to Bahrain’s position and the events of the last six months may have given that an additional push. I think Dubai’s position has been enhanced on a relative basis."
Another banker, based in Beirut, adds: "Bahrain has suffered long-term damage. Any company that’s eyeing a foothold in the Middle East and is choosing between Bahrain, Qatar and the UAE is definitely going to exclude Bahrain from any future plans. Unless they come to an amicable solution that pleases all the parties I really don’t see any multinationals or institutions setting up shop in Bahrain to tap Middle East wealth."
Another senior banking executive, based in London, says he doubts whether Bahrain will ever be able to recover its momentum. If he is to be proved wrong and Bahrain is to fully restore its reputation, the reconciliation process launched by King Hamad bin Isa Al Khalifa in early July will have to lead to a credible compromise between those loyal to the regime and its opponents.
However, while the streets of the capital have been cleared of protestors, the grievances they were voicing have not disappeared and indeed cannot be dealt with quite so easily. To date, the prospects for a credible, long-term solution do not appear strong. The way in which the authorities clamped down on demonstrators and the propaganda war that took place both during and after the protests is only likely to have cemented the enmities between the two sides. The National Dialogue itself got off to a poor start when the largest opposition party, Al Wefaq Islamic Society, withdrew from it within days.
If there is compromise, it is perhaps more likely to emerge from behind the scenes rather than via such a public process. Crown Prince Salman bin Hamad bin Isa Al Khalifa, the person who has been most closely associated with the economic reform process of recent years, kept his distance from the crackdown and so could provide a figurehead that both sides can gather around, although the more hard-line supporters of the regime are thought to be suspicious of him.
Right now no one is holding their breath expecting a breakthrough. According to political analysts, in the current environment, it appears more likely that the government will continue to try to suppress dissent rather than meet the demands of opponents to any extent. That, in turn, makes it likely there will be more protests in the months or years ahead, something that those involved in the banking industry are as aware of as anyone. And this will do nothing to reverse the gradual slide towards Dubai and Qatar that has been taking place in recent years.
"There is stability returning to Bahrain and there is a sense of business as usual and normality returning," says Marios Maratheftis. "But there is an element of risk still there and that could affect Bahrain going forward. There is a sense in the markets that Bahrain is riskier than it used to be and that could take away from growth dynamics later on. There doesn’t seem to be a panic; there is more of a wait-and-see stance."