Amid the new skyscrapers and infrastructure projects that are driving corporate lending volumes in the Gulf, it is easy to lose sight of the other pillar of bank credit in the region: personal lending, which, until early 2007 at least, was easily keeping pace with the increase in corporate loans. Gulf banks extended $44bn in new personal loans in the two years to the end of 2006, an increase of 66%, according to analysis of the latest central bank data. Most of that was in Saudi Arabia, where new personal loans exceeded $17bn, and the United Arab Emirates (UAE), where they exceeded $15bn.
Personal lending accounts for 35% of all private sector credit extended by banks in the Gulf and nearly 20% of their total balance sheets. In Qatar, personal loans accounted for 48% of all private sector credit at the end of 2006. The percentage for Bahraini retail banks was 40% and for Saudi Arabia and Oman the figure was 39% (see table).
Increased lending volumes have been driven by high oil prices, which have generated huge liquidity for banks in the six Gulf Cooperation Council (GCC) states: Bahrain, Kuwait, Oman, Qatar, Saudi Arabia and the UAE. Oil was selling at about $30 to $40 per barrel (p/b) in 2003 and the first half of 2004. That price was quite sufficient to guarantee strong economic growth for the region. Prices started to rise in the third quarter of 2004 and since March 2005, they have not fallen below $50 p/b, averaging about $55 p/b in 2005, and $65 p/b in 2006. The price has risen to more than $80 p/b on several occasions this year.
Liquidity and growth
Although oil revenues flow overwhelmingly to governments, private sector firms have reaped the benefits of high prices through massive government building programmes, which in turn have spurred rapid economic growth throughout the Gulf’s economies.
The initial impact of this liquidity is seen in the growth of banks’ deposits: private sector deposits rose by $46bn in 2005, and $61.5bn in 2006. Then it is seen in credit growth: nearly all of those new deposits have been recycled into private sector lending, either corporate or personal, in roughly equal proportions.
With the exception of Saudi Arabia, personal lending’s share of banks’ balance sheets has changed little in the past few years because corporate lending has been growing quickly as well.
It is wrong to think of personal lending solely in terms of credit card debt or car loans. Central bank statistics show that in the UAE, three quarters of all personal loans are extended for business purposes. In Saudi Arabia, credit card loans accounted for less than 5% of personal lending in mid-2007, and less than 2% of all private sector credit. In Kuwait, consumer loans used to finance short-term needs have been stable in recent years, whereas instalment loans, which are used in particular for buying or houses or financing home improvements, have been increasing steadily.
Loans for stock purchase
Financing the purchase of shares has been an important factor in the growth of personal loans, particularly in Saudi Arabia and the UAE, where stock prices boomed in 2004 and 2005 driven in part by series of initial public offerings (IPOs). With stock prices rising rapidly, and each IPO heavily oversubscribed, IPO applicants would seek allocations of many times more than the number of shares they wanted, with heads of household often submitting applications on behalf of each member of their family – an entirely legal procedure provided certain formalities are observed. Banks eagerly extended the financing needed to back these applications.
But, after doubling in 2004, doubling again in 2005, and rising by 25% in the first few weeks of 2006, the Saudi market collapsed, with the index falling from a peak of 20,600 in early 2006 to about 8000 at the end of the year. IPO activity promptly dried up. The effect can be seen in the banks’ lending statistics: personal loans outstanding fell during 2006, after growing by more than 50% the year before.
The same phenomenon was seen in the UAE, where stock markets and IPO activity suffered a similar fate. But the impact on bank lending was more muted. Personal loan balances continued to increase in 2006 and through the first half of 2007, though it was at a less dramatic rate than in previous years.
Changed capital market conditions have also affected personal lending in Qatar, where the proportion of personal lending fell during the first months of 2007.
High profit business
Consumer lending is a highly profitable business for Gulf banks. The average interest rate on personal loans in the UAE is 11% to 12%, against 7% to 8% on corporate loans. In Qatar, car loans command interest rates of 8% to 9% and in Bahrain rates range from 8% to 11%. Interest rates on credit cards reach 20% or more.
Much of this lending is secured, on the title of the vehicle, for example, or through an assignment of salary whereby the bank has a direct claim on the borrower’s salary and any termination bonus. Nonetheless, questions do arise about whether personal indebtedness in the region is reaching dangerous levels.
As a proportion of gross domestic product (GDP), personal lending has remained reasonably stable. For the Gulf as a whole, personal loan balances at the end of 2004 represented 14% of that year’s GDP. In 2005, the proportion rose to 16% but is estimated to have fallen back to 15% in 2006. The Central Bank of Bahrain, which produces its own annual Financial Stability Report, noted in July this year that the balance sheet of households in Bahrain had been improving due to lower debt ratios, but hoped that further reductions in household indebtedness would occur.
Oil dependency
As with all economic projections in the Gulf, everything hangs off the price of oil. If oil prices were to fall back and the region slid into recession, delinquencies on personal lending could become severe. A material proportion of lending is to expatriates, the people whose jobs are most at risk in a downturn – and history has shown that salary assignment is not always as watertight as it may seem. The legal system is also unpredictable and often unsupportive of banks seeking redress against defaulting debtors, especially when enforcement of a claim could lead to a family losing its home.
In the medium term, though, there seems to be little prospect of oil prices falling back to the levels seen at the beginning of the decade. The Gulf economies were performing well, with prices in the $30 to $35 p/b range and, even though the current explosion of building and investment in the region is increasing the basic running costs of the Gulf economies (and therefore the minimum oil price required to ensure buoyant economic performance), a drop to the $50 p/b range would hardly be sufficient to cause large lay-offs or salary freezes.
A repetition of the IPO frenzy in 2004 and 2005 is unlikely to occur. Too many investors lost money when the Saudi and UAE markets crashed, and everyone recognises that the levels of oversubscription seen at that time have damaged the market over the long term. As a result, the huge boost to personal lending at that time will not be repeated. Personal lending should increasing steadily rather than dramatically, and continue to make an important contribution to strong bank profitability.
Andrew Cunningham is managing director for the Middle East and the Balkans at the Financial Services Volunteer Corps, a not-for-profit organisation that helps to build efficient financial systems.
