Brave new worlds
When the Middle Eastern family-run state of Qatar won its bid to host the 2022 football world cup, there was widespread furore over the decision. Most of the mainstream western media questioned the decision, their main concerns apparently based on how hot the weather would be during the tournament. The reaction highlighted just how little understood the Middle East region is by many in the west.
Since oil was first discovered in the region (in Iran) in 1908, the Middle East has been characterised as oil rich and little else. But during the past couple of decades countries such as the United Arab Emirates (UAE) and Qatar have been diversifying. Aware that their oil wealth will not last forever, some Middle East states are investing their considerable sovereign wealth funds into infrastructure projects, industrial diversification and overseas investments.
Such moves attract foreign direct investment (FDI), multinational corporations and financial institutions. Western Europe and North America bring the most FDI projects to the region, according to consultants Ernst & Young (E&Y). Since 2003, India has also enjoyed a strong investment relationship with the Middle East. The country ranks as the fourth-largest investment partner for the region, ahead of many developed countries such as France and Germany.
In its 2012 Middle East “attractiveness” survey, E&Y identified 928 new projects instigated by foreign companies in the region during 2011. This was an increase of 7.8 per cent on the previous year and there was an accompanying increase of 2.2 per cent in the total value of FDI. “This reflects investors’ optimism about the region, bolstered by growth prospects and regional potential in an increasingly unstable global economy,” says the report.
Driven by the UAE, Kuwait and Qatar, intra-regional FDI flows also have been exerting an increasing influence on FDI projects says E&Y, with a rise in the share of total projects from 14 per cent in 2007 to 24 per cent in 2011. For the first time, in the first half of 2012, intra-regional activity accounted for the most investment in the Middle East in terms of number of projects, value and jobs created.
Economic diversification in the UAE has reduced the portion of GDP based on oil and gas resources to about 25 per cent. The country has introduced a strategic plan for the next few years that is focused on further diversification and the creation of more opportunities for nationals through improved education and increased private sector employment.
Part of the diversification is the Dubai International Financial Centre (DIFC), which was established as a global financial hub in 2004. The centre now claims as clients 19 of the world’s top 25 banks, 11 of the world’s top 20 money managers, eight of the ten largest insurance companies and six of the top ten global law firms.
“One of Dubai’s biggest advantages is its geographical location,” says James Miller, head of Middle East and Africa at Royal Bank of Scotland (RBS). “Through a combination of world class port and aviation infrastructure, Dubai has become a key hub connecting markets in Europe, Asia and Africa.”
While the absence of an international financial centre does not preclude companies from entering a market, the benefits of such a centre should not be underestimated. “International financial centres deliver more specialist offerings, which generally leads to more innovation and sophistication in that market,” says Miller. “The DIFC has been great for Dubai and has also benefitted the financial organisations and companies operating there as well as the wider UAE economy.”
Asif Raza, head of treasury services and investor services Middle East and North Africa at JP Morgan says international financial centres facilitate trade, attract capital market investment and FDI. “International financial centres give banks the flexibility to operate in a regulated environment. Dubai is important because the UAE is becoming an important transit and trading hub and many multinational companies have set up their regional headquarters in the city.”
There are some “must haves” when it comes to financial centres, he adds. These include an “investor friendly” environment, good infrastructure, links to the global marketplace, a beneficial tax environment, strong regulation and a financial accounting framework. “These ingredients will build credibility and confidence for companies in which to operate.”
The same elements are cited by Chris Jameson, head of sales, Ceemea ex-Russia, global transaction services at Bank of America Merrill Lynch (BAML). He also adds political stability and talent to the list.
Political stability is essential; the UAE has established strong ties with its neighbours in the Gulf Cooperation Council (GCC, comprising the UAE, Bahrain, Saudi Arabia, Oman, Qatar and Kuwait) as well as with the US, China and Europe, says Jameson. Despite being in a politically unstable region, there are few concerns about Dubai’s location, he says.
Talent – both expatriate and local – is also important for a successful international financial centre. Dubai has strongly promoted its cosmopolitan environment and outdoor lifestyle along with a favourable tax regime for residents. There is now a shift to promoting local talent. “The idea is to continue to improve the education system for young Emiratis, and combine that with the experience of expatriates,” says Jameson. “This will create a local base of knowledge and build further success in the future. Banks can contribute a great deal to the development of talent in Dubai through training and local hiring schemes. This development of local talent also feeds back into the stability of Dubai and the UAE as a whole.”
The UAE Ministry of Education began an accreditation process in October 2009 to bring public and private schools up to international standards. The accreditation criteria were developed by the Ministry in collaboration with the Centre for British Teachers Education Trust, a non-profit provider of education services. According to Unicef, 94 per cent of males in Dubai aged 15-24 and 97 per cent of females can read and write.
Regulatory balance is also important for the success of an international financial centre, says Jameson. “By this I mean that the regulations need to be strong enough to provide comfort to foreign companies and banks investing in the country but also sufficiently lenient so as not to kill any entrepreneurial spirit. There are global standards of regulation, however there always will be differences in their interpretation.”
The same point applies to the tax environment; with the G8 recently discussing anti-tax evasion measures. Jameson says there needs to be a balance between tax efficiency and evasion prevention. Inconsistent approaches to taxation could lead to tax arbitrage, with companies seeking locations with less stringent regimes.
During the next five years around $58 billion worth of infrastructure projects will be undertaken in the UAE. Dubai is the third largest re-export hub in the world and home to Jebel Ali port, one of the top ten busiest worldwide. There are plans to develop Dubai World Central Airport as the world’s largest air terminal and during 2011, its first full year of operation, it carried 90,000 tonnes of air freight.
The UAE has a well-developed and technologically advanced telecommunications infrastructure and has high mobile telephone and internet penetration (70.9 per cent of the population are internet users). The majority state-owned Emirates Telecommunication Corporation (Etisalat) operates, maintains and develops the national and international fixed-line network, mobile telephony, internet access and cable TV services but its monopoly has been cancelled. Etisalat and alternative operators are increasing broadband capabilities, offering packages over a mixture of asymmetric digital subscriber line, mobile broadband and fibre to the home in a market that already has one of the highest broadband penetration rates in the Middle East. UAE governments at both the federal and emirate level have strongly promoted and encouraged IT and internet use. Government policy has also included encouragement of media, IT and internet related businesses and Dubai has become a regional centre for the industry.
“When it comes to infrastructure and technology, international banks have a role to play,” says Jameson. “We have the platforms, systems and tools created over many years that can be replicated in local markets such as Dubai. These elements can be deployed into new financial centres to enable them to hit the ground running.”
International banks can also work in close partnership with the local banks, he adds. For example, BAML and Abu Dhabi Commercial Bank (ADCB) announced a strategic relationship in January 2011. It enables BAML clients requiring services in the region to access the capabilities provided by ADCB and for ADCB’s clients to access BAML’s global network of corporate banking and cash management capabilities.
The DIFC has also strengthened its position as an international financial centre by implementing a legal and regulatory framework based on international standards and principles of common law. Elements include companies, contract, arbitration, insolvency and data protection laws as well as collective investment, investment trust and payment systems finality laws. There are also provisions for single family offices, special purpose company regulations, preferential creditor regulations and strata title laws. “The development of the DIFC legal framework has been an important step, because it makes life much easier for a large multinational entity, used to operating under international law, to set up operations in Dubai,” says Jameson.
Many observers believe global standards help financial centres. The closer an international financial centre’s legal and regulatory framework is to global standards, the more comfort that will give to companies and investors.
Many factors contribute to the success of a financial centre, says Mandeep Ahluwalia, managing director and global head of banks at Lloyds Bank Commercial Banking. “Political stability, an established and robust legal system and an economic policy that encourages international business and money flows obviously play a key role. And following the global financial crisis, effective regulation and increased market transparency are ever more important.”
The fact that London is rated as the leading global financial centre provides great opportunities for UK-based banks, not least a vast talent pool and strong supporting professional services such as law and accountancy support, he adds. “The good news for emerging financial centres is that with increasing global workforce mobility, they can benefit from this experience via skills transfer. And different financial centres can tap into opportunities arising from their geographical location. The DIFC, for example, has a unique position linking Europe, Africa and Asia. In addition, Dubai has been very successful in building an excellent infrastructure and creating a safe and stable business environment,” he says.
RBS’ Miller agrees, adding that the DIFC brings homogeneity and well understood corporate and legal governance frameworks to the Middle East region. “This is very important because in the banking world there needs to be understanding and trust within the environment in which we are working in order to lend money and provide services. It is very difficult to do business in an environment without a well understood legal and regulatory environment.”
Any visitor to Dubai or other centres in the Middle East will realise that growth has returned after a downturn following the global financial crisis. According to an economic insight published by the Centre for Economics and Business Research (CEBR) on behalf of the Institute of Chartered Accountants in England and Wales, countries in the GCC recorded 5.6 per cent growth in 2012. This was down from 7.4 per cent the previous year but significantly higher than some of the emerging Asian economies. The growth was driven by continued high oil prices, government infrastructure investment and spending on public services.
The report stressed that Middle Eastern economies must diversify in order to weather any future shocks to oil revenues. UAE was cited as a leader in diversification, becoming a major financial, logistics and business hub. In addition, Qatar has grown its non-oil sector faster than the hydrocarbon sector.
Doug McWilliams, chief executive of CEBR said when the report was published in December last year: “Global growth is weak at the moment, so it is impressive that Middle East regional growth remains strong, even if it has slowed slightly. However, the fact that growth rests primarily on oil revenues should be a concern. Ferocious infrastructure investment programmes and large rises in public spending have boosted the figures, whilst pay increases of up to 60 per cent for the public sector have naturally driven consumer spending power. But this can be sustainable only if oil prices and demand remain high.”
An international financial centre will bring the financial discipline necessary to help infrastructure projects “get across the line”, says Miller. “The growth in the Middle East region is obvious and it is where financial services companies and multinationals want to do strategic business to help the growth agenda around economic and social infrastructure. The infrastructure experience that international financial institutions can bring attracts further external investment.”
Another important element when it comes to doing business in the Middle East, adds Miller, is relationships and trust. “Developing long term and trusted relationships is very important to doing business in this part of the world. To help clients locally, you have to be present in the local market and understand well with whom you are working.”