United Arab Emirates: Selected Issues and Statistical Appendix

This Selected Issues paper on the United Arab Emirates highlights the macroprudential policies. The fixed exchange rate and persistent structural liquidity surpluses in upswings add to the difficulties in managing aggregate demand contain credit expansion. The exchange rate peg and the open capital account allow limited room to deviate from the U.S. interest rates. Monetary policy is further constrained by limited liquidity management capabilities, as liquidity forecasting is in its infancy, and central banks liquidity management relies primarily on reserve requirements and standing facilities for liquidity absorption. The lack of a local currency fixed-income market raises the prominence of real estate as an asset class for investment and the exposure of the banking system to the real estate sector.


This Selected Issues paper on the United Arab Emirates highlights the macroprudential policies. The fixed exchange rate and persistent structural liquidity surpluses in upswings add to the difficulties in managing aggregate demand contain credit expansion. The exchange rate peg and the open capital account allow limited room to deviate from the U.S. interest rates. Monetary policy is further constrained by limited liquidity management capabilities, as liquidity forecasting is in its infancy, and central banks liquidity management relies primarily on reserve requirements and standing facilities for liquidity absorption. The lack of a local currency fixed-income market raises the prominence of real estate as an asset class for investment and the exposure of the banking system to the real estate sector.

I. Macroprudential Policy in the United Arab Emirates

A. Introduction

1. The global financial crisis triggered major changes in the approach to financial regulation with the recognition that in order to ensure macroeconomic stability, economic policy has to include financial stability as an additional objective. The crisis highlighted the need for a better understanding of macrofinancial linkages and underscored the importance of macroprudential policies in addition to microprudential regulation and supervision, as well as strong fiscal and monetary policy frameworks. A general goal of macroprudential policy is to limit the risk of systemwide distress that has significant macroeconomic costs (Borio and Drehmann, 2009). The other major objective is to strengthen the resilience of the financial system to shocks. It is important to note that macroprudential policy complements but does not substitute for sound microprudential and macroeconomic policies.

2. In small open economies with fixed exchange rate regimes in particular, risks are not easily contained by traditional monetary policy instruments. Instead, they require more targeted prudential intervention that acts more directly to constrain excessive credit and leverage as well as exposure to aggregate shocks, such as changes in exchange rates and asset prices. The challenge of containing financial risks is exacerbated in commodity-based economies that are subject to potentially large swings in commodity prices, thus the use of macroprudential tools can be particularly helpful.

3. Macroprudential policy complements but does not substitute for sound macroeconomic and structural policies. In fixed exchange rate regimes where the independence of monetary policy is limited, fiscal policy is the main policy tool for demand management. Efforts to reduce the procyclicality of fiscal policy and to prevent the build-up of expenditure rigidities should accompany the use of macroprudential policy to increase the effectiveness of the latter. Macroprudential policy should be complemented by an effective supporting environment for mitigating systemic risk and reducing moral hazard, in particular by a strong crisis management and resolution framework.

4. Maintaining financial stability requires flexible and adaptive macroprudential policies. A macroprudential policy framework should ideally encompass (i) a system of early warning indicators that signal increased vulnerabilities to financial stability; (ii) a set of policy tools that can help contain risks ex ante and address the increased vulnerabilities at an early stage, as well as help build buffers to absorb shocks ex post; (iii) and an institutional framework that ensures the effective implementation of macroprudential policies.

5. The reminder of the paper is organized as follows. Section 2 explains why macroprudential policies are particularly important for the GCC countries. Section 3 describes the existing and planned institutional framework macroprudential policy in the UAE, and presents international examples. Section 4 provides a wide range of macroprudential instruments as discussed in the emerging literature on these instruments, and describes the current macroprudential toolkit in the UAE. Section 5 presents policy recommendations. Section 6 concludes.

The Rationale for Macroprudential Policy in the UAE and the GCC

6. Several characteristics of the economy, financial sector and the economic policy framework of GCC countries in general, and the UAE in particular, make macroprudential policy a particularly relevant policy tool. The reliance on hydrocarbon resources in the context of volatile of hydrocarbon prices (Dubai’s notable achievements in diversifying its economy notwithstanding), limited monetary policy independence in light of the Dirham’s peg to the US dollar, a history of procyclical fiscal policy, the importance of real estate as a major asset class for investment, underdeveloped financial markets providing limited risk management tools, and shortcomings in crisis resolution frameworks all underline the importance of macroprudential policy to limit systemic risk in the financial system.

7. Being largely commodity exporters, GCC economies are prone to pro-cyclical systemic risk in the financial system (Table 1). During periods of high hydrocarbon prices, the external balance strengthens significantly, which customarily results in credit and asset prices booms (Box 1). Although it is a very important tool for macroeconomic management, due to the significant time lag and expenditure rigidities, fiscal policy has not been a flexible tool to prevent credit booms and the build-up of systemic risk in the UAE and in some GCC countries, in fact procyclical fiscal policy was an important contributor to credit booms. As increased hydrocarbon revenues are channeled into the domestic economy lifting GDP growth, demand for credit is increasing in the private sector. Favorable economic prospects make the financial sector keen to lend, leading to higher domestic credit growth and easier access to external financing.

Table I.1.

Selected Financial Soundness Indicators

article image

UAE: Local banks only.

Figures are not comparable as methodologies to measure NPLs vary from one country to the other.

Specific and general provisions.

Source: Country authorities.

Oil Prices and Stock Index, 2005–12

Citation: IMF Staff Country Reports 2013, 240; 10.5089/9781484336038.002.A001

Source: Bloomberg.

Oil Prices and Credit Growth, 2003–12

Citation: IMF Staff Country Reports 2013, 240; 10.5089/9781484336038.002.A001

Sources: Bloomberg, country authorities.

The 2003–08 GCC Credit and Asset Price Boom, the Impact of the Global Crisis and the Policy Response

The 2003–08 oil price boom led to large fiscal and external balance surpluses, buoyant economic activity, rising consumer and investor confidence in the GCC countries.1 Abundant liquidity fueled credit growth, inflation, and asset price increases. During this period, real annual average credit growth of the GCC banks was 23 percent, which led to increasing bank leverage and almost doubling the ratio of private sector credit to non-oil GDP to 122 percent by end-2008. In some GCC countries, credit growth went largely into construction and real estate lending, fuelling a real estate boom, and some countries experienced an increase in lending for the purchase of securities. The GCC stock markets posted 22–60 percent gains in 2007. In some countries, notably the U.A.E., speculative investments contributed to marked increases in real estate prices. These developments took place notwithstanding the fact that GCC countries implemented several measures of macroprudential nature to limit credit growth (see Section V).

While most of this credit growth was financed by domestic deposits, banks’ foreign liabilities increased, partly related to banks’ issuance of foreign-currency denominated medium-term notes to address asset-liability maturity mismatches. However, banks also used short-term speculative foreign deposits to finance their lending, exacerbating maturity mismatches and creating a refinancing risk on their balance sheets. On the corporate sector side, the boom was associated with a rise in leverage, increasing the sector’s vulnerability to funding availability and cost.

The credit and asset price boom came to an abrupt end as the global financial crisis hit the GCC in late 2008. As the global deleveraging process took hold, and oil prices and production fell, the GCC’s external and fiscal surpluses declined markedly, stock and real estate markets plunged, credit default swap (CDS) spreads on sovereign debt widened, and external funding for the financial and corporate sectors tightened.

Decisive policy actions by the authorities have helped moderate the effect of the crisis. These actions included the infusion of liquidity into the financial system through repos by central banks, and direct liquidity injections via the placement of long-term deposits by the government, provision of deposit guarantees and capital injections to banks, and, as preemptive measures, tightening of prudential norms for general lending and in particular for lending to real estate and for investment in equity.

The experience of the GCC countries during the crisis brought home the importance of expanding central banks’ traditional mandate to better incorporate financial stability as a complementary objective.

1 For a detailed account of the impact of the global financial crisis and policy responses in the GCC, see Khamis et al. (2010).

8. The fixed exchange rate and persistent structural liquidity surpluses in upswings add to the difficulties to manage aggregate demand and contain credit expansion. The exchange rate peg, and the open capital account allow limited room to deviate from US interest rates. Monetary policy is further constrained by limited liquidity management capabilities, as liquidity forecasting is in its infancy and central banks’ liquidity management relies primarily on reserve requirements and standing facilities (Certificate of Deposit) for liquidity absorption. Reserve requirement is an inflexible tool for liquidity management, and a standing facility is a passive instrument where the amount of liquidity absorbed is driven by the banks and not the central bank. In addition, the monetary transmission mechanism is constrained by the shallow nature of money markets in these countries.


United Arab Emirates: Domestic and U.S. Interbank Rates, 2004–12


Citation: IMF Staff Country Reports 2013, 240; 10.5089/9781484336038.002.A001

Sources: Bloomberg, EDSS.

9. Domestic fixed income markets are undeveloped, limiting the range of risk management tools and assets for investment. Given the persistent fiscal and external surpluses and accumulated savings, there is no need at the level of consolidated government to issue debt to finance the budget. The lack of liquid local currency money and bond markets, as well as derivative markets limit the interest rate and liquidity risk management tools for the financial sector.

10. The lack of a local currency fixed income market raises the prominence of real estate as an asset class for investment and the exposure of the banking system to the real estate sector. Given the dominance of the hydrocarbon sector, and the relatively small share of some other economic sectors such as manufacturing, real estate lending has a significant share in banks’ credit portfolio. As in many other countries where movable collateral is not widespread and creditor rights are relatively weak, real estate serves as the most important form of collateral.1 Thus, the episodes of real estate boom and bust cycles raise systemic risk in the financial system.


Share of real estate and construction loans in total bank loan portfolio, December 2012


Citation: IMF Staff Country Reports 2013, 240; 10.5089/9781484336038.002.A001

Source: Country authorities and IMF staff calculations.

United Arab Emirates: Domestic credit by sector, 2012


Citation: IMF Staff Country Reports 2013, 240; 10.5089/9781484336038.002.A001

Source: CBU.

11. Weak corporate governance practices in the UAE and the GCC and high credit concentration reduce banks’ resiliency.2 Name lending3 to large borrowers that are often well-known and considered low-risk is prevalent. Disclosure is often limited to some of a group’s entities only, which makes it difficult to identify all group members and monitor their links. In some cases, corporate and personal assets have not been separated. Supervisors also face difficulties in identifying risk from multiple, unconsolidated exposures to private conglomerates. The region’s weak corporate governance practices and financial disclosure make it hard to track ultimate beneficiaries of loans on a consolidated basis.

12. Preventing the build-up of systemic risk is all the more important in the absence of effective crisis resolution frameworks and insolvency regimes. The experience of “no banks are allowed to fail” leads to the understanding of an (implicit) full guarantee on deposits, thus undermining market discipline. In the case of insolvency regimes, the main reason for the lack of effectiveness appears to be inefficient enforcement and implementation.4 Court processes tend to be slow, formalistic and bureaucratic, while procedures are expensive, drawn out and inefficient, and recovery rates are low. Qatar, UAE and Saudi Arabia report very low usage of their bankruptcy systems.

The Institutional Framework for Macroprudential Policy

13. The institutional architecture is a core element of macroprudential policy.5 Institutional arrangements will be shaped in no small part by country-specific circumstances, so that there can be no “one size fits all”, and international best practices are yet to emerge. However, there appear to be two (possibly overlapping) key elements in this architecture: an authority with a clear mandate for macroprudential policy; and a formal mechanism of coordination or consultation across policies aimed at financial stability.

14. Mandate. The need to identify an authority that oversees systemic risks and decides or recommends policy actions reflects: (i) the need for clarity of responsibility for containing systemic risk, with appropriate incentives to act; (ii) the need for clarity of responsibility over policy instruments; and (iii) the complexity of identifying and monitoring systemic risk, given the breadth of analyses required and the underlying data needs. Such an authority could be a body (e.g., a committee or council) or institution (e.g., a central bank, supervisory agency); and an existing or a new one.

15. Coordination. The need for coordination arises because macroprudential policy interacts with other policies, as noted above. It may take an institutional form, such as committee or council, or other forms, such as a requirement for the macroprudential authority to be consulted or offer advice on key decisions affecting the financial system. Coordination is especially important when formal authority over tools affecting specific sources of systemic risk rests with bodies other than the macroprudential authority.

A. International Experience

16. The results of a recent IMF survey confirm a variety of existing institutional set-ups related to financial stability and macroprudential policy in its member countries.6 Examples of institutional models that can be observed in practice include the following (Table 2):

Table I.2.

Cross-Country Experience of Institutional Set-up for Macroprudential Policies

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Source: IMF Staff, IMF 2011b, Jacome at al. (2012).
  • A model where a specific institution (and its board) is given a macroprudential mandate; this is often accompanied by a coordinating committee, involving the treasury; coordination can also take place through other mechanisms, such as a requirement to consult;

  • A model where a single institution is tasked with carrying out macroprudential policy

  • (analytical and operational), but the decisions are taken by some attached policy committee; sometimes such a body also plays the role of a coordinating committee;

  • A model where an independent committee or council fulfils the role of macroprudential authority; usually, due to its composition, it plays a coordinating role too; there can be multiple institutions contributing to the decision-making process of such committee, as well as policy implementation.

17. However, there are some general lessons that can translate into basic guidance based on international experience:

  • The central bank should play an important role in macroprudential policy.

  • Complex and fragmented regulatory and supervisory structures are unlikely to be conducive to effective mitigation of risks to the system as a whole.

  • Participation of the treasury is useful, but a dominant role poses important risks.

  • Systemic risk prevention and crisis management are different policy functions that should be supported by separate arrangements.

18. In a number of advanced economies, in particular in Europe, countries are integrating prudential functions into the central bank. Some countries have adopted some form of “twin peaks” model, leaving conduct-of-business and securities market supervision as a responsibility of a separate agency (The Netherlands, Belgium, France, the United Kingdom, and the United States). Ireland has opted for a stronger form of integration where all supervision of markets and institutions is conducted by the central bank. Moreover, a number of countries, including the United Kingdom and the United States are creating dedicated policy-making committees, such as the Financial Policy Committee (FPC), chaired by the Governor of the Bank of England, and the Financial Stability Oversight Council (FSOC), chaired by the United States Treasury.

19. In emerging market countries, changes in the institutional setup also typically feature a new macroprudential committee. In Chile, Mexico, and Turkey recently established committees are chaired by the Minister of Finance (Treasury). By contrast in Asia, Malaysia established a financial stability committee in 2009 within the central bank structure, chaired by the central bank Governor—as did Thailand in 2008.

B. Institutional Setup in the UAE for Macroprudential Policy

20. There are multiple regulators for the financial system in the UAE. The Central Bank of the UAE regulates the banking system. Of the three stock exchanges in the country the Dubai Financial Market (DFM) and the Abu Dhabi Securities Exchange (ADX) are both governed and regulated by the Securities and Commodities Authority (SCA). The third, NASDAQ Dubai, located in Dubai International Financial Centre (DIFC), is governed by an independent regulator called the Dubai Financial Services Authority (DFSA). The insurance sector is regulated by the Insurance Authority established in 2008.

21. While the CBU has established a Banking Stability Committee, currently it has no authority to include financial institutions outside the banking system in its macroprudential surveillance. Responsibility for systemic risk mitigation is divided between the Banking Stability Committee which is ultimately responsible for any action taken, and the Financial Stability Unit which provides the analysis, and proposes regulatory reforms to address identified risks. Currently, the central bank has no powers to access information collected by other regulators. There are no formal arrangements for information sharing among regulators, it is only done on a voluntary basis between the CBU and the SCA.

22. The new UAE federal strategy gives the central bank the responsibility to oversee financial stability. The authorities are considering legislation governing the supervision of the financial sector to meet the demands of UAE’s new financial markets and modernize the regulatory framework. The draft law on the Regulation of the Financial Services Sector in the UAE and associated amendments to a number of federal laws could signal a move towards a twin peak model of financial supervision.

The Selection of Macroprudential Instruments

A. The Main Types of Macroprudential Instruments

23. A wide range of instruments and measures have been proposed for use as macroprudential tools in the literature. Without being exhaustive, Table 3 provides a taxonomy of the various tools that can be potentially useful for macroprudential purposes depending on the nature of the risk to financial stability.

Table I.3.

Macroprudential Instruments

article image
Source: Galati and Moessner (2011).

24. The macroprudential toolkit encompasses instruments aimed at containing risks ex ante and absorbing shocks ex post. Most instruments, including various risk management methodologies, financial reporting practices, funding liquidity standards, collateral arrangements, risk concentration limits, and compensation schemes, are designed to prevent the build-up of risks to dangerous levels. Some of the instruments such as certain elements of the supervisory review (Pillar 2) and profit redistribution restrictions are aimed at addressing the increased vulnerabilities at an early stage. Finally, there are instruments whose role is to help absorb the shocks ex post and limit the damage to the financial sector and the real economy. These instruments include various insurance mechanisms and policies to manage failure and resolution.

25. Some of the instruments imply sophisticated methodologies whereas others can be introduced in simpler environments and are less data-intensive. For example, risk measures calibrated through the cycle and certain accounting methodologies assume that macroeconomic and financial data are available across several credit cycles which is not the case for GCC countries. Nevertheless, the concept of smoothing through the cycle is useful even in the absence of sufficient data, and more basic rules-of-thumb type instruments can be contemplated.

B. The Current Macroprudential Toolkit in the UAE

26. Despite the absence of formalized legal and institutional frameworks for financial stability, the CBU has been using several macroprudential instruments. The UAE and the other GCC countries implemented a number of macroprudential tools before the global financial crisis, especially in order to contain retail lending, but these measures often came late in the credit boom. Their toolkit includes instruments that are recommended in recent reform proposals, such as limits on debt service–to–income ratios, loan-to-deposit ratios (LTD), and sectoral concentration. Annex I provides an overview of the major macroprudential instruments currently in use in the GCC.

27. Capital and provisioning. As for capital requirement and provisioning, although most countries have established a fixed ratio for general provisions, similarly to the other GCC countries, the UAE has not introduced dynamic or countercyclical measures. The CBU is increasing the general provisioning requirement gradually to 1.5 percent by 2014.

28. Personal (retail) loan regulation. Personal lending regulation assumes macroprudential significance because of its high share in total lending (30 percent of domestic credit of local banks) and the moral hazard problem related to debt bailout expectations of nationals.7 In addition to the macroprudential objective, personal lending regulation is also motivated by consumer protection. CBU Regulation “Regarding Bank Loans & Services Offered to Individual Customers” came into effect as of 1 May, 2011. It is aimed at protecting banks by regulating lending and encouraging banks to carry out proper due diligence on their potential borrowers. The regulation allows individual customers to borrow only up to 20 times their salary or monthly income with a maximum period of loan repayment at 48 months, and requires that repayment installments not exceed 50 percent of the borrower’s gross salary or any regular income. As the federal credit bureau becomes operational, banks will have a better grasp of the full extent of an individual exposure to enforce cap on monthly installments.

29. Liquidity regulation. Currently, the Advances to Stable Resources Ratio (ASRR) is the only regulatory ratio related to liquidity.8 The ratio is capped at 100 percent. New liquidity regulation will be introduced in line with Basel III liquidity requirements and timeline.

30. Real estate exposure. There is a limit on banks’ lending for the purpose of constructing commercial or residential buildings to 20 percent of their deposits. This is a narrow definition of exposure, and does not cover all exposures to real estate, e.g., loans for the purchase of existing buildings, and equity investments in real estate development companies. Nevertheless, the CBU monitors banks’ real estate exposure in a comprehensive way for macroprudential purposes.

31. New LTV regulation. Following consultations with the banking sector, the CBU is preparing regulation related to mortgage lending, including caps on loan-to-value and debt-service-to-income ratios. The new regulation is expected to come into force in 2013.

32. Loan concentration limits on GREs and emirate governments. The CBU has also proposed regulation on loan concentration limits on GREs and emirate governments after extensive consultation with the banks. The regulation is envisaged to impose limits on GREs and emirate governments on both individual and aggregate basis as a percentage of the bank’s capital. The regulation is yet to come into force.

Policy Recommendations

33. There is scope to better understand, identify and mitigate spillovers through the financial sector, and in particular to build up appropriate buffers and to limit excessive leveraging and credit booms in good times. The CBU has, over the years, taken a large number of measures of macroprudential nature. However, these instruments have been used as microprudential instruments and they have not been applied from a systemic point of view.

A. Putting in Place the Institutional and Legal Framework

34. The existing macroprudential policies have so far been implemented by the CBU without a formal framework and adequate legal backing. Drawing on work in international fora, it would be desirable to develop a more formal and transparent macroprudential institutional and policy framework, notably with respect to the mandate for financial stability, coordination framework, definition of objectives, the elaboration of analytical methods, and the policy toolkit.

35. The forthcoming federal financial services law should appropriately assign the formal mandate to oversee financial stability to the CBU. The central bank can bring the expertise and incentives to the task of mitigating systemic risks. Alongside, a formal coordination framework with the different regulatory agencies in the UAE is essential to identify systemic risks, reduce regulatory overlaps and gaps and mitigate risks. As a way to institutionalize macroprudential policy, the establishment of the Financial Stability Committee within the CBU is an important step. Going forward, it would be important to design an institutional structure, preferably with legal backing, that incorporates members from the CBU, the Ministry of Finance, and other regulatory agencies. Furthermore, it has to be ensured that the Financial Stability Unit responsible for macroprudential analysis and the preparation of regulatory proposals has adequate resources.

B. Strengthening the Macroprudential Analysis

36. The macroprudential framework should be supported by an effective early warning system (EWS) to identify and monitor systemic risks. The EWS involves consolidating quantitative work with qualitative insight, informed by the views of policymakers, market participants, analysts and academics. Quantitatively, the EWS should be based on timely, disaggregated, and high frequency indicators. A comprehensive set of quantitative indicators typically include (i) macro aggregates and forecasts (domestic, external, and sectoral imbalances), as natural indicators of the state of business and financial cycles; (ii) leverage ratios in the financial, corporate, and household sectors; (iii) foreign borrowing by financial and nonfinancial entities by maturity and instrument; (iv) indicators of real estate and equity markets; (v) indicators of domestic credit growth; (vi) indicators of sectoral exposures of banks; and, (vii) indicators of liquidity and funding practices.9 Qualitative aspects could involve assessments of credit underwriting standards and risks arising from linkages in the financial sector. The EWS should be under regular review to incorporate lessons from new crisis situations, either domestically or abroad.

37. The CBU has made substantial progress in strengthening its systemic risk analysis. The first Financial Stability Review was published in September 2012. The report helps improve the transparency of risk recognition in the financial system and facilitate broad communication with the public. The CBU conducts macro stress testing semiannually for credit risk and liquidity risk, and intends to make stress testing an integral part of systemic surveillance. The Financial Stability Unit (FSU) is also developing a stress index and working on formalizing its EWS dashboard. Further diagnostic tools employed include monthly reports for trends in major banking soundness indicators, granular analysis of the real estate sector exposure of banks, capital flow monitoring, and analysis of linkages between macroeconomic developments and the financial sector. Other diagnostic tools, such as scenario analysis are currently under development.

38. Building on the recent progress, systemic risk analysis could be further improved by linking it to macroeconomic analysis and forecasting. Of the major elements of an effective early warning system, the most important missing component is the integration of macroeconomic analysis and forecasting with systemic risk analysis. The CBU is encouraged to develop further expertise in this area, joining efforts between the FSU and other regulators. The CBU is also encouraged to build on the good start of the first Financial Stability Review and deepen and widen the analysis further.

C. Choosing the Appropriate Macroprudential Instruments

39. There is scope to expand the range of macroprudential instruments in the UAE. The choice of instruments to be included in the macroprudential toolkit should be based on a set of desirable features.10 Generally, such features should include: (i) effectiveness in limiting the build-up of systemic risk and creating buffers to be used in periods of stress; (ii) limited opportunity for arbitrage (regulatory, cross-border); (iii) aiming at the roots, not the symptoms of systemic risk (notably by inducing private sector agents to internalize the systemic consequences of their decisions); and (iv) characteristics that are least distortionary to the financial system and the economy.

Capital and provisioning

40. It is important to continue to ensure that banks maintain competitive ratings by having higher capital than required by international standards. UAE banks are currently highly capitalized, as over the past few years they aimed at capital levels between 15–20 percent, well above the existing regulatory of 12 percent. The additional capital serves to compensate for macroeconomic volatility due to dependence on hydrocarbon revenues, insufficient economic diversification, lack of transparency in the financial and nonfinancial sectors, high credit concentration, as well as concerns about asset quality in the aftermath of the crisis. Since well-run banks in advanced countries are expected to operate at higher capital levels than before the crisis, UAE banks will likely need to maintain a high capital to compensate for the above risks. One mitigating factor in the UAE is the high share of Tier 1 capital compared to advanced and many emerging country banking systems. Banks could to some extent reduce the need for the extra capital through improved corporate governance and disclosure, including helping their large borrowers get rated to improve the overall operating environment.


Capital Adequacy Ratio: Local Banks, 2009–12


Citation: IMF Staff Country Reports 2013, 240; 10.5089/9781484336038.002.A001

Source: CBU.

41. The more pronounced cycle makes calibrating cyclical buffers more challenging. The countercyclical capital buffer, a new component of the Basel III framework, is a pre-emptive measure that requires banks to build-up capital gradually as imbalances in the credit market develop.11 The CBU will need to develop a set of indicators relevant to the UAE to guide the activation and deactivation of this buffer either on a broad basis or to target specific segments of the credit market.


Capital Adequacy Ratio: Foreign Banks, 2009–12


Citation: IMF Staff Country Reports 2013, 240; 10.5089/9781484336038.002.A001

Source: CBU.

42. Certain provisioning rules can also serve macroprudential purposes. Designing a dynamic provisioning framework, another tool aimed at alleviating procyclicality, tailored to the UAE banking system faces similar calibration challenges given the relatively short historical data and the nature of the cycle in hydrocarbon economies. While general provisions are a more rudimentary tool, they can be useful in building buffers to absorb shocks in bad times. The UAE is raising general provisions to 1.5 percent in 2014 aimed at increasing banks’ resiliency against the possibility of losses not yet identified.

43. Moving further towards risk-based supervision, enhancing the role of the Pillar II framework, and linking the supervisory review process to the cycle would also help risk mitigation. In the upswing, this would help ensure that certain practices such as credit evaluation, collateral valuation, or compensation practices are not getting relaxed. In the downturn, it would help ensure that NPL classification and provisioning practices are strong enough.

44. Regarding domestic systemically important banks (D-SIB), the CBU is expected to follow Basel III guidelines. National authorities are encouraged to impose capital surcharge on banks identified as D-SIBs. The proposal requires banks identified as D-SIBs by their national authorities to comply with the principles from January 2016. The Basel Committee plans to introduce a strong peer review process for the implementation of the principles to help ensure that appropriate and effective frameworks for D-SIBs are in place across different jurisdictions.

Profit redistribution schemes

45. Rules on limiting dividend payments in good times to help build up capital buffers in bad times can also be a useful element of macroprudential policy. Restrictions on dividend distribution by supervisory authorities in effect force banks to gradually build up capital in cases where they would not voluntarily do so. Although GCC regulators did not impose dividend restrictions in the pre-crisis boom period, dividend distribution is subject to approval by the CBU. The aim is to build buffers in an environment where the recognition of NPLs has been gradual. In the current context where banks generate healthy operational profits but face the legacy of high NPLs, restricting dividend distribution is a useful tool build resiliency in the banking sector.


46. Although the Advances to Stable Resources Ratio (a form of LTD) has been in place, it has not been effective in preventing credit boom and bust cycles. It nonetheless contributed to limiting the risks in the banking system during the last crisis. While LTDs are important instruments, the rise in deposits in upswings due to procyclical fiscal policies and inadequate sterilization of liquidity allowed UAE banks to rapidly expand their credit portfolios. Time-varying LTDs could help alleviate the problem of procyclicality to some extent, but as with the countercyclical buffers, defining the cycle can be challenging. Even in the case of a simple LTD, the indicator has to be designed carefully to avoid giving banks the wrong incentives in their funding structures, and consistency with other regulators should be ensured. For example, excluding or limiting debt securities—that often have longer maturities than customer deposits—in the denominator could discourage banks to extend the maturities of their liabilities. One approach is to design a loan-to-deposit ratio using varying weights for deposits of different maturities.

47. While the CBU is expected to follow the new Basel III liquidity requirements, there will likely be challenges in developing market liquidity. The Basel III criteria for high quality liquid assets are ill-suited to GCC countries where domestic debt markets are underdeveloped. Moreover, the net stable funding requirement means that banks need to match the stability of their funding and the maturity of their assets more closely. In the UAE context, this could mean more retail deposits, issuing long-term liabilities or cutting back on long duration assets. This creates a tension given the absence of domestic term funding markets, and the demand for longer-term lending, e.g., mortgages, infrastructure, SME investment.

48. The Basel III liquidity requirements should give an impetus to domestic debt market development. It has to be noted, however, that developing liquid debt markets in emerging economies with fiscal surplus has been challenging. In the GCC, Qatar and Kuwait have been making efforts to develop their domestic government securities market, but it will take time before they reach sufficient depth and liquidity. The UAE has yet to make concerted efforts at domestic debt market development, including passing the long-awaited Public Debt Law, and designing a strategy for market development in the context of the federal structure. In the meantime, however, the CBU is putting in place the necessary infrastructure, including a central securities depository.

49. Funding risks related to capital inflows need to be contained. While foreign exchange risk has traditionally not been a major concern in the GCC given their strong external positions, funding risk can become a concern in countries experiencing a rapid build-up of foreign liabilities that may involve significant maturity mismatches, as it indeed was the case in the UAE in the run-up to the crisis. There is a need to limit the build-up of liquidity risk related to short-term foreign borrowings channeled into funding medium- and long-term domestic lending. Potential measures to limit foreign funding risks include higher reserves required for short-term foreign liabilities and limits on foreign currency lending. Liquidity requirements aimed at matching the maturity of liabilities with the maturity of their assets more closely can be calibrated specifically to target foreign liabilities.

Collateral arrangements

50. Appropriately calibrated and time-varying loan-to-value ratios for real estate lending and debt-service-to-income ratios for lending to individuals could be a useful part of the macroprudential toolkit in the UAE. As the recent high credit growth and asset price boom-bust episode shows, containing personal and real estate lending is crucial to protect the financial system and can help prevent overheating.

51. The recent experience of Hong Kong SAR and Singapore illustrates the use of LTVs and debt-to-income ratios (DTI) as macroprudential instruments to contain property lending and price growth (see Box 2.). In the case of Hong Kong SAR, faced with the onset of a credit-asset price cycle centered on the property sector, the authorities have introduced several measures since 2009 tightening the LTV and DTI ratios, raising the Special Stamp Duty (SSD) on properties resold within a certain timeframe, as well as increasing public land supply to the market.12 Similarly, Singapore used an escalating series of macroprudential measures, primarily tightening the LTV and DTI ratios and SSD requirements to combat property lending and price increases. These measures seem to have been effective such that price growth slowed sharply in late 2011, although exogenous factors also likely contributed.

Property Market Regulatory Measures in Selected Countries

A number of economies have used macroprudential policies in recent years to protect their financial systems from stress induced by volatile asset prices, particularly in the property market.

Empirical Studies. There is some international evidence that the use of loan-to-value (LTV) caps decelerates property price growth, and both LTV and debt-to-income (DTI) caps slow property lending growth. Ahuja and Nabar (2011) find that the use of LTVs appears to strengthen bank capital buffers and bank performance in economies with pegged exchange rates and currency boards, while lowering NPLs in the broader sample. Comparing the subset of fixed exchange rates and currency boards against the broader sample, they find that such instruments are used more frequently in the first group. In the broader sample, interest rate tools can also be deployed to control credit aggregates which could explain why the reliance on LTV and DTI instruments appears to be smaller.

Hong Kong. With the currency board ruling out an independent monetary policy, the Hong Kong authorities have to rely on macroprudential measures to contain the property market boom. Faced with a credit-asset price cycle since 2009, the authorities have introduced several changes to policies, concerning LTV and DTI cap. The aggressive tightening of LTV ceilings has caused average new residential mortgage LTV ratio to decline steadily in 2011. Another important strategy has been to increase public land sales for ensuring adequate supply and managing house price inflation expectation. In addition, the authorities have also imposed transactions taxes, a Special Stamp Duty (SSD), to discourage speculative short term trading of residential properties. Although past measures have reduced transaction volumes and created significant buffers in the financial system, house prices have continued to rise. A continued run-up in house prices has led to another round of tightening measures for the local property market in February 2013, including (i) a further rise in SSD for all transactions, (ii) a further tightening of mortgage underwriting standards, and (iii) a lower LTV cap on commercial properties, and so forth. The empirical analysis for the Hong Kong suggests that the residential property price inflation appears to fall only around 2 years after the change in the LTV ratios and a tightening of LTV limits appears to have little effect on total mortgage lending. The challenge is to calibrate their macroprudential tools in combination with land sale policy.

Singapore. While the objective of monetary policy framework in Singapore is to maintain price stability by managing the nominal exchange rate, Singapore authorities consider that capital flow and asset prices considerations are best managed with macroprudential tools. An escalating series of macroprudential measures was introduced during 2009–12, focusing on both domestic and foreign buyers of real estate. Since 2009, LTV cap has been lowered from 90 percent to 40 percent in some cases, and SSD has been repeatedly extended and increased. These measures were effective such that price growth slowed sharply in late 2011, although exogenous factors also likely contributed.

52. The CBU should stand ready to adjust the parameters of personal lending regulation and loan-to-value ratios in response to the state of the cycle. Although mortgage lending is currently nascent in the UAE and the residential real estate market is largely a cash market, setting appropriate limits on LTVs and adjusting them to property market conditions becomes important as mortgage lending picks up. The CBU should carefully monitor the interaction of mortgage lending and the real estate sector, and tighten the LTV regulation or introduce new measures as needed.

53. Caps on LTVs for commercial properties are equally important in the UAE context. Commercial properties suffered a larger price decline in the UAE countries after 2008 compared to residential real estate, reflecting the overinvestment in this segment. Of the GCC countries only Qatar imposed a limit on LTV for real estate finance other than to individuals. Other countries such as Hong Kong have also imposed and tightened LTV caps on commercial properties.

Risk concentration limits

54. Well-calibrated and strictly enforced risk concentration limits can help contain the build-up of excessive exposure to certain sectors or borrower groups. Early warning systems developed for macroprudential purposes should be used to help identify potential sectors where limits can help prevent the build-up of excessive exposure.

55. A risk concentration limit on real estate exposure is an important tool to contain excessive lending to the sector. While internationally the focus has been mainly to cap LTVs for individual mortgages to contain banks’ risk exposure to the real estate sector, this approach is not sufficient in the UAE. The low share of residential real estate transactions financed by mortgages, and the importance of lending to developers for both residential and commercial purposes raises the importance of caps on real estate exposure. Limits on real estate exposure have been employed by all GCC countries other than Kuwait. Nevertheless, several GCC countries experienced episodes of real estate boom-bust cycles in recent years indicating that the existing regulations were insufficient or not enforced strictly. Real estate exposure and property price increase were high in the run-up to the global financial crisis in the UAE, Qatar and Kuwait in particular. The subsequent sharp decline in real estate prices indicates that there is scope to improve the calibration of real estate exposure limits and to strengthen enforcement.

56. Special consideration is needed to define real estate exposure appropriately. To prevent excessive lending to the sector, the definition should encompass all finance activities related to the purchase and construction of buildings in which the bank depends on real estate or real estate collateral as a source of repayment. E.g., Qatar has prudently broadened the definition of real estate exposure in 2011 to include all real estate-related activities. The definition also includes finance granted for purposes other than real estate, where the bank depends on real estate or real estate collaterals as source of repayments. While this conservative definition helps contain real estate exposure, it restricts banks’ ability to expand lending to certain sectors such as SMEs where real estate is overwhelmingly used as collateral. Developing movable collateral frameworks could help mitigate this problem. Real estate regulation should ensure a level playing field between Shariah-compliant and conventional banks, taking into account the special characteristics of the former group.13

57. Large exposure limits to individual borrowers and borrower groups also need to be redefined and more strictly enforced in some cases. High credit concentration, a common phenomenon in GCC banking systems, is partly due to the importance of large government-related entities (GRE) in the development model of some GCC countries, the UAE in particular. Lending by UAE banks to GREs contributed to asset quality problems and a wave of loan restructuring deals in the aftermath of the global financial crisis, and the ensuing debt overhang and high NPLs are weighing on the banking sector’s ability to resume healthy lending activity. The proposed regulation on loan concentration limits on GREs and emirate governments is aimed at preventing the build-up of undue exposure of banks to these entities.

Compensation schemes

58. While ill-designed compensation schemes do not seem to have been among the chief causes of systemic risk in the GCC, the international experience suggests that the design of remuneration packages requires attention. Guidelines linking performance-related pay to ex ante longer-horizon measures of risk and back-loading of pay-offs can help reduce incentives to focus on short-term profits. In countries like the UAE where expatriate employees dominate the workforce, high staff fluctuation may give rise to excessive risk taking that could be curtailed by appropriately designed compensation packages.

Structural issues supporting macroprudential policy

59. Finally, the effectiveness of macroprudential policies can be greatly enhanced by strengthening the supporting environment for mitigating systemic risk and reducing moral hazard. Credit reporting systems with positive information that allow assessing the indebtedness and creditworthiness of individual and corporate borrowers are essential. Although there has been considerable progress in establishing the federal credit bureau in the UAE, it is yet to be made operational. The insolvency regime needs to be modernized, and passing the pending Insolvency Law would be key in this respect. A well-designed crisis management and resolution framework would be essential. International experience suggests that key elements include explicit but limited amount deposit guarantee or insurance,14 well-defined coordination and information sharing framework between various supervisory authorities, and clear mechanisms for funding resolution. As a final point, improving corporate governance and disclosure standards, as well as risk management practices in the financial sector is of utmost importance to mitigate systemic risk in the GCC.


60. Macroprudential policy can play an important role in the UAE to mitigate systemic risk in the financial sector. The special characteristics of the economy, the reliance on volatile hydrocarbon revenues, limited monetary policy independence in light of the peg to the US dollar, the risk of procyclical fiscal policy, and an open capital account pose challenges to the central bank to maintain financial stability. Furthermore, banks are strongly interconnected with GREs through ownership and financial linkages. This interconnectedness, coupled with non-transparent corporate governance structures and practices, makes managing the evolution of interconnected leverage challenging, and could give rise to systemic risks.

61. The CBU has already taken several measures in its quest for strengthening the macroprudential framework. Publishing its first Financial Stability Review in 2012 was an important step highlighting the importance of macroprudential policy. The analytical toolkit is being upgraded, and several regulatory measures, including on credit concentration limits on emirate governments and GREs, as well as on mortgage lending, are awaiting implementation. To build on this progress, the development of a more formal and transparent macroprudential institutional and policy framework would be desirable: it should entail assigning the mandate for financial stability, and defining a coordination framework, objectives, analytical methods, and the policy toolkit. The adoption of the draft Financial Services Law would provide an opportunity to establish the legal base for an improved macroprudential policy framework.

62. While the CBU already has many of the tools that can help address vulnerabilities at an early stage, as well as help build buffers to absorb shocks ex post, there is scope for refining them. In the area of building and maintaining buffers, the UAE has been relying strongly on high capitalization of banks. This would be usefully complemented by an enhanced role for Pillar II, a further move towards risk-based supervision, and linking the supervisory review process to the cycle. The CBU’s practice of restricting dividend distribution has also been helpful in building buffers, and should continue to be part of the toolkit. The CBU is also appropriately focusing on the instruments to reduce liquidity risks, and has been proactively developing the regulation to comply with Basel III requirements. For macroprudential purposes, designing time-varying LTDs could be given consideration to alleviate procyclicality. To help with liquidity management, the development of the domestic debt market would be essential, and efforts need to be stepped up in this area.

63. The proposed new mortgage and loan concentration limits on GREs and emirate governments would be welcome additions to the macroprudential toolkit. As international experience shows, appropriately calibrated and time-varying loan-to-value ratios for real estate lending and debt-service-to-income ratios for lending to individuals, possibly in conjunction with some other measures such as transaction levies, can help mitigate the risk of property market booms. Similarly, concentration limits on activities and/or borrowers where excessive risk build-up is a potential problem, such as the real estate sector or GREs in the UAE context, can help reduce the exposure and vulnerability of the banking system.

Annex I. Current Macroprudential Instruments in the GCC

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Sources: Country authorites and IMF staff


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In addition, enforcement of collateral rights has been weak in the GCC.


See “Financial Access and Stability: A Roadmap for the Middle East and North Africa” (2011). World Bank MENA Development Report, Chapter 7.


Lending to large borrowers that are often considered to be well-known and low risk.


See Uttamchandani, M. (2010) “No Way Out: The Lack of Efficient Insolvency Regimes in the MENA Region.” World Bank Policy Research Working Paper 5609, World Bank, Washington, DC.


This section draws predominantly on International Monetary Fund, 2011, “Macroprudential Policy: An Organizing Framework.” Washington DC.


This section draws predominantly on International Monetary Fund, 2011, “Institutional Models for Macroprudential Policy”, Staff Discussion Note, Washington DC.


The UAE set up an AED10bn (USD2.7bn) debt settlement fund to clear defaulted debts of its citizens in 2011, but to date there has only been limited utilization.


The ASRR is similar to loan-to-deposit ratios which are common in the region. The range of ratios varies from 60 percent in Bahrain to 90 percent in Qatar.


See IMF 2011a for a useful summary on systemic risk assessment and monitoring.


See IMF 2011a Section IV on general considerations for the choice of instruments.


The countercyclical capital buffer has two main objectives: (i) it aims to protect the banking sector from the consequences of excessive credit growth by increasing its loss-absorbing capacity; and (ii) it increases the cost of providing credit thereby helping to lean against the build-up of excesses. The buffer will only be activated when imbalances appear to be building up, and key role will be given to national authorities to exercise supervisory judgment. The countercyclical buffer regime is planned to be phased in parallel with the capital conservation buffer between 2016 and end-2018, becoming fully effective on 1 January 2019.


The exposure of Shariah-compliant banks in the GCC to real estate has been high, and unlike conventional banks, they are allowed to hold equity-like real estate exposures in their balance sheet.


See Al-Jafari, M. and Walker, D. (2011) “Deposit Insurance in the MENA Region” World Bank MENA Financial Flagship Paper.


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  • OECD, 2005, OECD Guidelines on Corporate Governance of State-Owned Enterprises, OECD Publishing

Statistical Appendix

Table 1.

United Arab Emirates: Oil and Gas Production, Exports, and Prices, 2004–12

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Sources: ADNOC; and Fund staff estimates.
Table 2.

United Arab Emirates: Consolidated Government Finances, 2004–12*

(Millions of U.A.E. dirhams)

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Sources: Federal government; Emirate finance departments; and Fund staff estimates.

Consolidated accounts of the federal government, Abu Dhabi, Dubai and Sharjah: GFSM 1986 classification.

Includes Fund estimates of revenues from other government entities operating in the oil and gas sector.

Taxes on profit of foreign banks. Income taxes on gas companies are included under hydrocarbon revenues.

Fund staff estimates.

Excludes military wages and salaries.

Largely military and internal security expenditures paid by Abu Dhabi but not in the federal accounts.

Intragovernmental grants are netted out in the consolidated fiscal accounts.

Table 3.

United Arab Emirates: Federal Government Financial Operations, 2004–12*

(Millions of U.A.E. dirhams)

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Sources: Ministry of Finance; Abu Dhabi Department of Finance.

GFSM 1986 classification.

Dividends and payouts by Etisalat and other enterprises, including the Central Bank.

Amount budgeted by federal government, but outlays are made by Abu Dhabi.

Mainly military and internal security expenditures not included in the federal accounts.

Table 4.

United Arab Emirates: Abu Dhabi Fiscal Operations, 2004–12*

(Millions of U.A.E. dirhams)

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Source: Abu Dhabi Department of Finance.

GFSM 1986 classification.

Income taxes are entirely from ADGAS and GASCO.

Fund staff estimates; not included in finance department accounts.

Mainly defense and security outlays; not included in the federal accounts.

Outlays made by Abu Dhabi, but included in the federal accounts.

Foreign grants on Abu Dhabi account.

Table 5.

United Arab Emirates: Abu Dhabi Development Expenditures, 2004–12

(Millions of U.A.E. dirhams)

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Source: Abu Dhabi Department of Finance.

Preliminary, subject to audit/change.

Since 2007, education services in Abu Dhabi, previously managed by the federal government, are managed by Abu Dhabi Education Council.

Table 6.

United Arab Emirates: Abu Dhabi Government Domestic Aid, Grants, Subsidies and other Transfers, 2007–12

(Millions of U.A.E. dirhams)

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Source: Abu Dhabi Department of Finance.

Preliminary, subject to audit/change.