Federal law on debt to manage liquidity
DOMESTIC FUNDING SOURCE WILL REDUCE RELIANCE ON BANKS
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The UAE Central Bank on Sunday welcomed the recent issuance of a Federal law on public debt aimed at effectively managing liquidity in the financial system.
“The new Federal Government debt law lays the foundations for the development of a bond market in dirham denomination in the UAE. This is important as it will create deeper, more resilient financial markets, benchmark the yield curve, provide more diversified sources of financing, mobilise additional domestic savings and attract capital inflow,” said Mubarak Rashid Al Mansouri, Governor of the Central Bank of the UAE, said in a statement.
According to the International Monetary Fund (IMF), lower oil revenues during the past few years had weakened medium-term prospects of the economy, pointing to the need to diversify the economy away from reliance on oil and the development of capital markets including Islamic finance, enabling companies, governments, and government related entities (GREs) to reduce their reliance on bank financing.
“Governments would have a domestic funding source to tap if needed. This would help them diversify sources of ■ funding and reduce reliance on bank financing, external borrowing or withdrawals from SWFs,” the IMF said its latest country report on the UAE.
Additional instrument
In addition to a new source of funding, the creation of a government bond market is expected to provide the UAE Central Bank an additional instrument for managing liquidity by conducting open market operations in the context of the dirham’s peg to the dollar. In addition, a domestic debt market would make the supply of liquid assets less dependent on oil prices and the peg.
From the financial stability point of view, analysts said issuing domestic securities could increase the pool of domestic securities that qualify as high quality liquid assets (HQLA) for the Basel III liquidity requirements of banks and financial institutions. “The development of vibrant public and private bond markets (including sukuk) will also facilitate compliance with liquidity requirements (Basel III), and allow investors to balance risks in more diversified portfolios,” said Al Mansouri.
For banks, government bonds work as collateral that could be used for interbank operations and borrowing from the central bank, including under emergency liquidity provision. Additionally, these instruments would help create a yield curve at long-term tenors to provide a benchmark for bank lending.
Domestic government debt issuance could help develop a domestic corporate bond market and interbank repo market. It would provide a useful pricing benchmark and firms would have an opportunity to diversify their finances. As the market develops, smaller companies could follow larger ones in issuing debt, supporting economic diversification. Finally, developing the domestic debt market could attract more foreign investors to stimulate domestic activity.
“Overall, this is in line with the nation’s vision to press ahead with further diversification of the economy, and will underpin the UAE’s position as a growing regional and global financial centre, and further improve the UAE’s credit rating,” Al Mansouri said.