Banks weathered global crisis well

The strength of the Saudi banking sector is based on high profitability, strong liquidity, high capitalization and strict supervision by Saudi Arabian Monetary Agency (SAMA).
While some banks in neighboring UAE, Bahrain and Kuwait have reported exposure to the US subprime CDOs (collateralized debt obligations), to overexposure in the real estate market and/or to commodity receivables, such as reverse Murabaha, Saudi banks are weathering the storm and are looking forward to 2010 with much greater optimism than their Western and international counterparts.
Meanwhile, Saudi Arabia’s banking sector has undergone tremendous changes over the years.
The changes we have seen in the banking sector are part of the changes and growth we have witnessed in the economy of Saudi Arabia. Banking has gone a long way in Saudi Arabia with the first bank established in 1926 when the Netherlands Trading Company (later to become ABN Amro) began operations. It enjoyed a virtual monopoly until the late 1940s when in 1947 Banque Indo Chine (Credit Agricole C.I.B.) opened a branch, followed by the Arab Bank Limited in 1949. Following the inception of SAMA in 1952, the government followed a liberal policy of allowing foreign banks to operate in the Kingdom, mindful of the domestic economic requirements, creation of competitive practices as well as the requirements of the Kingdom’s needs with its external foreign partners. It was in the 1950s that we saw the establishment of NCB (National Commercial Bank), Riyad Bank and others. By 1975, when Arab News was launched, there were 10 international banks with 29 branches present in the Kingdom.
The decision in 1976 to incorporate them as local banks with majority Saudi shareholdings was an important step for the national economy, taken by then Minister of Finance Mohammed Abalkhail. It was an important and visionary step that allowed banks to expand commensurate with the growing size of the Saudi economy.
As the local economy was booming in the 1970s — a result of the first and second oil booms — the demand for banking products and services increased exponentially. The need was there for banks to increase their capital bases in order to raise their branch profile. At the same time, the private sector was increasing its depth and presence that allowed them to have investment power to develop the local banking system with the help of international banks.
Hence, in 1976 foreign banks operating in the Kingdom were offered a chance to form joint venture banks in which they could retain up to a 40-percent share of the venture. Since then, the new joint venture banks have played an important role in providing human, technical and other expertise and resources. All banks, be it national or joint venture ones, were accorded the same treatment. What is little known is that all joint venture banks were given a tax-free holiday period of 10 years. During the 1982-2000 period, only one domestic or joint venture bank was granted a license, as the banking systems had to consolidate and grow in a slower phase of economic growth.
Credit to the private sector, which had increased over 500 percent during the 1976-1981 period and it only grew at a rate of less than four percent per year between 1982 and 1987. Banks suffered from nonperforming loans, which increased to over 20 percent of all loans by 1986. Banks’ profits also suffered significantly, and loan-loss provisions for doubtful accounts for the banking system rose to over 12 percent of total loans. As a result of the difficulties of the 1980s, SAMA embarked in the 1990s on a policy of modernizing its supervisory system. The quality of management in the banking system had improved significantly as a result of the changes undertaken.
The Russian and Asian financial crisis of the 1990s had a minimal impact on the performance or the risk profile of banks. The accession of the Kingdom to the WTO (World Trade Organization) in 2005 helped the Saudi banking sector to open up to foreign participants even further as appetite for having a local presence increased in the Middle East’s largest economy. What is far more important now than at any point before is the fact that Saudi Arabia’s banking system is among the healthiest in the world.
“During the worst financial crisis the world has seen since the 1930s, Saudi Arabian banks have withstood superbly the side effects of the crisis from abroad and within. Had it not been for the prudential regulation of SAMA the banking system would not have remained as healthy as it is today,” John Sfakianakis, group general manager and chief economist at Banque Saudi Fransi, said.
Thanks primarily to the efforts of SAMA under Gov. Muhammad Al-Jasser and his predecessors, liquidity conditions have eased significantly. SAMA has taken a number of measures to provide liquidity to the local market, such as cutting the official repo and reverse repo rates by more than half to two percent and 0.25 percent since October, easing the banking sector reserve requirement on demand deposits from 13 percent to 7 percent, injecting billions of riyals into the banking system through deposits and providing guarantees for deposits at commercial banks.
There are currently 22 banks in Saudi Arabia, of which 12 banks are local (national and joint venture) and 10 are foreign (five are of GCC origins and five are international). The government and prominent families own majority stakes in many of the Saudi banks including NCB, Al-Rajhi Bank and Samba Financial Group.
Al-Rajhi Bank, Bank Albilad and Alinma Bank are fully Shariah-compliant.
International banks such as Deutsche Bank, BNP Paribas, and J.P. Morgan acquired licenses to open offices in Saudi Arabia in 2002, when the market liberalized further. Despite the global financial crisis, Saudi banks offer the best sustained profitability prospects and growth outlook among GCC banks, and they are among the best regulated banks in the region, according to a Bank of America Securities-Merrill Lynch report released recently.
SAMA’s conservative policy of urging Saudi banks to steer clear of highly speculative and risky derivatives and the government’s policy of not rushing into establishing bloated sovereign wealth funds (SWFs), unlike Qatar, Abu Dhabi, Kuwait, China and Singapore, has paid off handsomely. Many of the SWFs were chasing high returns and have reported losses on several fronts. SAMA reserve investment exposure is mainly to US Treasury bonds and US dollar reserves.
Fitch Ratings said in a special report recently that Saudi banks are well positioned to weather a more challenging operating environment, due to their strong fundamentals and government support.
“Given lower expected business volumes in 2009, Saudi banks will be highly reliant on tapping government-related projects and re-pricing their lending to maintain their good performance,” the Fitch report said.