Macroprudential Policy and Regulation in a Dual Banking System: An Exploratory Perspective

Abstract

The chapter synthesizes the growing literature on macroprudential policy in particular countries with a dual banking system. In a dual banking system, both conventional and Islamic financial institutions operate side by side, but specific laws and regulations have been introduced for the Islamic financial institutions. Based on the analysis there is no “one size fits all”; different models might be effective depending on the country specifics. The choice among the different macroprudential models is mostly influenced by traditions, current institutional frameworks for other policies and political economy considerations. Furthermore, there is no differentiation of macroprudential policy framework between conventional and Islamic financial institutions that has been practiced by the authorities with dual banking system. The reason is to avoid regulatory arbitrage between these two financial institutions and the fact that Islamic financial institution is still largely based on mark-up or profit margin techniques in its operation.

Appendix 1

Macroprudential Instruments in the GCC Countries

	BAHRAIN	KUWAIT	OMAN	QATAR	SAUDI ARABIA	UAE
Countercyclical capital requirements	No	No	No	No	SAMA has encouraged Saudi banks to increase their capital on a countercyclical basis. During the period 2003–2007, capital of the banking system increased 2.5 times; between 1992 and 1997, the capital of banks rose by 100 %	No
General provisions	Discretionary provision requirement	Fixed level: 1 % of cash items & 0.5 % of non-cash items	Fixed level: 2 % of the outstanding performing “personal loans” and 1 % of outstanding performing “other loans”	Yes. 1.5 %	Fixed level: 1 % Banks have been directed to maintain NPL ratio of over 100 % during upcycle	Gradually being raised to 1.5 % of credit risk weighted assets that do not have a specific provision against them
Dynamic provisioning	No	No	No	No	No	No
Leverage ratios (capital to assets)	Yes. 5 % for retail banks and 10 % for wholesale banks	No	No	No	Yes [Deposit/(Capital + Reserve)] Not to exceed 15 times. In addition SAMA has introduced Basel leverage ratio since 2011	No
Reserve requirements on bank deposits	Yes. 5 % of total deposits	No	Yes. 5 %	Yes. 4.75 %	Yes. 7 % on demand deposits. 4 % on time and saving deposits	Yes. 14 % for demand deposits; 1 % for time deposits
Limits on real estate exposure	Yes. 30 % cap on real estate lending of banks as share of total bank lending	No	Yes. 60 % of the bank net worth or 60 % of all time and savings deposits other than government and inter-bank deposits, whichever is higher	Yes. For conventional banks, real estate lending not to exceed 150 % of bank’s capital and reserves (Tier 1). For Islamic banks, investment in real estates should not exceed 25 % of the bank’s capital and reserves	No	Yes. 20 % of deposits. Current definition of real estate exposure: loans for the construction of commercial and residential buildings
Limits on other sectoral exposure	No	Lending to shares should not exceed 10 % of total lending	Yes. Limits on personal loans: 40 % of total credit. Housing loans: 10 % of total credit. Non-residents: 5 % of Net worth. Aggregate non-resident exposure: 30 % of Net worth	Banks may not provide customers with any finance for the purposes of trading in securities	No	Regulation pending on large exposure limits for aggregate exposure to local governments and government-related entities
Loan-to-value (LTVs) ratios	No limit (business practice is around 80 %)	For residential loans for vacant plots, 50 % of the cost of the property; the percentage would go up to 60 % if the property is an existing home, or 70 % if it is a new building to be constructed	No limit (business practice is around 80 %)	70 % for individuals, 60 % for commercial companies	Yes. For real estate finance companies the regulations impose an LTV of 70 %	Regulation on differentiated LTVs for nationals and expatriates, as well as for first and second properties is pending
Debt/Loan-to-income (DTI/LTIs) ratios	Yes. Maximum debt service ratio of 50 % of monthly salary		No	Yes. Credit to individuals capped at 50 % of monthly salary and allowances, not to exceed QR 2.5 million per person	Yes. Total monthly repayments (for both personal loans and credit cards) should not exceed 33 % of a borrower’s salary	Yes. Borrowing limits for personal loans: (1) 20 times of salary or monthly income; (2) loan tenor of 48 months (3) debt-service ratio of 50 % of the borrower’s monthly salary
Limits on loan-to-deposit ratios	Yes. A voluntary 60–65 % for most banks and 70–75 % for those without large investments outside loans	LTD ratio replaced by a maximum available funding, with the following limits: (1) Remaining maturity up to 3 months: 75 %; (2) remaining maturity from 3 months until 1 year: 90 %; and (3) remaining maturity more than 1 year: 100 %	Yes. 87.5 %	Yes. 90 % for credit ratio (loan-to-deposit ratio)	Yes. 85 %	Yes. Max 100 % for the advances to stable resources ratio
Ceiling on credit or credit growth	No	No	No	No	No, but credit growth is an important indicator followed by SAMA on a monthly basis; especially credit to the private sector	No
Liquidity requirements	Yes. 25 %, Liquid assets/total assets	Yes. 18 %, Liquid assets /domestic currency customer deposits	Yes	Yes. 100 %, Current assets / liabilities weighted by liquidity characteristics	Yes. 20 %, Liquid assets/deposits. In addition, SAMA has introduced Basel LCR and NSFR since January 2012	Basel III-type regulation is pending
Caps on foreign currency lending	No	FX loans can only be extended to borrowers with FX cash flows	Yes. Lending to non-residents in foreign currency abroad is limited to 5 % of net worth	FX loans can only be extended to borrowers with foreign currency cash flows	No	No
Limits on foreign exchange positions	No	No	Yes	Foreign currency liabilities cannot exceed foreign currency assets	No	Up to banks’ internal risk management systems
Limits on exposure concentration (individual large exposure, % of total capital)	Yes. 15 % of regulatory capital	Yes. 15 %, with aggregate large exposures limited to no more than 400 %	Yes 15 %	Yes. Max limit of credit facilities to a single borrowing group is 20 % of bank capital and reserves. Total credit facilities granted to all customers and their borrower groups, at 10 % or more of bank’s capital and reserves, must not exceed 600 % of bank’s capital and reserves Total credit facilities granted to related parties must not exceed 100 % of bank’s capital and reserves	Yes, the legal limit is 25 %. In practice, the limit is 15 %	Yes. 25 % for commercial public sector entities, 7 % for private sector and individuals

1. Source: Macroprudential Policy in the GCC Countries, IMF (2014)