Curb your enthusiasm

What regional turmoil means for the Gulf’s financial hubs. Published in Emerging Markets, 23 September 2011

If there is one major structural weakness to the economies of the Gulf, it is their heavy reliance on oil and gas revenues. It is something that all governments have recognized and, in response, all are trying to diversify their economies, with financial centres and industrial parks ever more common sights across the Gulf Cooperation Council (GCC).

But this diversification is hard to achieve at a time when oil revenues are so strong – prices have been close to or above $100 a barrel for much of this year. For those Gulf states keen to be seen as regional – if not global – financial hubs, a combination of regional unrest and stagnating economies in much of the developed world only adds to their problems.

“We are committed to further diversifying the economy with an emphasis on financial services, research and development through Qatar Science & Technology Park, along with support to SMEs [Small and Medium-Size Enterprises],” Yousef Hussain Kamal, Qatar’s minister of economy and finance, tells Emerging Markets. “However, given the increase in the production of oil and natural gas in the past decade, the energy sector will still be the predominant sector in the economy.”

Alongside Qatar, the other key financial centres in the Gulf are Bahrain and Dubai. Riyadh too harbours ambitions, with its King Abdullah Financial District, but it remains less open to international investors for now.

Of the main three, Bahrain is the one that has been most clearly affected by unrest. When protests broke out in February, followed by the arrival of GCC troops a month later, normal economic activity largely came to a halt. Banks put their contingency plans into effect and many of them moved staff and operations out of the country; investors withdrew money; tourists stayed away; and conferences were cancelled.

“There was an outflow from Bahrain – not a catastrophic outflow, but there was a significant one,” says Marios Maratheftis, regional head of research at Standard Chartered in Dubai. “It doesn’t look like irreversible damage has been done, but the higher level of risk is still there.”

Since then, financial activity has resumed and most, if not all, of the cash and personnel have returned. Local banks remain well capitalized, and the Central Bank of Bahrain retains a strong reputation as a regulator. However, the reputational damage lingers nonetheless, and will take longer to repair.

“Bahrain has demonstrated resilience, and while the events of the past months will have some short-term impact on economic growth, they should not affect the long-term outlook,” says Sheikh Mohammed bin Essa Al Khalifa, chief executive of the Bahrain Economic Development Board. “The financial sector has remained strong. With the exception of Crédit Agricole, no sizeable financial institution has left Bahrain.”

The rival hubs of Dubai and Qatar were able to benefit from the disruption in Bahrain. Both have well-established financial centres and, crucially, both have also remained politically quiet this year. As a result they were the natural option for investors and banks looking for an alternative location for their money or their staff.

This is particularly true for Dubai, which had managed to sort out much of the mess from the Dubai World debt crisis of 2008 before the unrest struck. Qatar is slightly different in that much of the financial activity there is directed at the domestic market, which is expanding rapidly as a result of a massive infrastructure building programme.

“The reputation of Bahrain has taken a dent,” says Jarmo Kotilaine, chief economist at National Commercial Bank in Riyadh. “In terms of perceptions, Dubai has without a doubt been the winner: if you’re a foreign investor looking to increase your presence in the Gulf, you are more likely to be favourably disposed to Dubai and less favourably disposed to Bahrain.”


However, investors are more wary of the region as a whole now. That, combined with the downturn in European and US economies, means that it is harder to attract investors and institutions to any of the financial hubs in the current climate.

“In Europe the economic crisis has hit quite hard and the financial services have been hammered,” says Kotilaine. “You have a large pool of human capital that is cheaper than it used to be and you have cheaper real estate, so the case for moving to the region is a little less compelling.

“For many of these financial institutions the question of international expansion is something they’re going to approach with caution. Even if they recognize the opportunities, they may not be willing to commit the money, or they may have too many problems to clear up.”

The Dubai International Financial Centre (DIFC) has certainly not escaped these trends. While it has been tapping into Asian markets with increasing vigour over recent years, the majority of firms there are still western ones, and Nasser Saidi, chief economist of the DIFC Authority, acknowledges that the downturn in these firms’ home markets has had an impact.

“What is happening in world financialmarkets – both in the US and Europe – is worrisome. It is affecting flows across the world, including in emerging markets,” he says. “We’re seeing lower investment flows to the region as a result of greater risk aversion.”

Dubai’s economy relies heavily on its position as a trading hub for the region, helping to connect the economies of the Gulf and the Middle East with the wider world. For as long as political unrest continues, such trade will remain subdued.

“Social unrest and political turmoil have very negative impacts on [regional] economies,” says Hamad Buamim, director-general of the Dubai Chamber of Commerce & Industry.

“Our members’ exports and re-exports to Egypt fell by 29% during the first half of this year, compared to the same period in 2010, while those to Libya dropped by 68%. So we believe that bilateral trade between Dubai, the UAE, the GCC and the troubled countries will shrink if the region continues to face political and social unrest.”

For now at least, it seems clear that the ambitions of the authorities in these financial hubs will have to be curtailed.