Cost of local-currency borrowing soars

15 August 2008
Regional banks review return to dollar financing as the increasing demand for riyals outstrips supply.

Dramatic increases in the charges regional banks make on local-currency loans to other regional banks is a further sign that the region is experiencing the side effects of the global credit crunch, bankers tell MEED.

Demand for local currencies is now outstripping supply and, according to some local bankers, the rising cost of borrowing in local currencies may drive firms to return to dollar financing.

Tamer Zayat, senior economist at National Commercial Bank (NCB) in Saudi Arabia, says the region is experiencing a tightening of the local currency credit markets. “The riyal is really difficult to find at the moment,” he says.

The global credit crunch has pushed up the cost of dollars, driving many companies and project sponsors to seek cheaper local-currency funding. But the latest figures show this alternative funding window may be closing.

The Saudi Arabia interbank offered rate (Saibor) for riyals is now more expensive than the London interbank offered rate (Libor) for dollars, while the Emirates interbank offered rate (Eibor) has also climbed strongly in recent months.

In Saudi Arabia, banks are charging 3.92 per cent for three-month riyals, meaning the spread between the benchmark rate set by the Saudi Arabian Monetary Agency (central bank) and the actual borrowing cost is 192 basis points. This is the highest the rate has been since October 2002. In the UAE, the three-month dirham rate is 2.66 per cent.

In contrast, three-month dollar funding is being charged at 2.79 per cent, meaning that riyal funding is now more expensive than dollar funding for the first time since early 2006.

Bankers predict this could make it difficult to raise large amounts of project finance, and will lead to a return to dollar funding. “The interbank rates indicate that liquidity in both dollars and local currencies is tight, just as the volume of projects expected to come to the market is starting to pick up,” says one project finance adviser.

For corporate loans and bonds, a return to dollar-denominated deals is anticipated.

“I do not see a wholesale shift back towards dollar funding by local corporates, but I expect there to be more balance between local currency and dollar funding by Middle East corporates,” says Declan Hegarty, head of capital markets at HSBC in Dubai.

Liquidity is also tightening as foreign investor appetite to take bets on GCC currency revaluations wanes, and negative real interest rates act as a deterrent to leaving money on deposit.

The lack of capital flowing into the banking system is a particular problem, as it is coming alongside increasing demand for project finance. Private sector credit has grown by 20 per cent over the past year, according to NCB, mainly because of corporate loans.

“I think project finance will be really difficult to raise for upcoming projects,” says Zayat. “Banks are still trying to avoid lending in dollars, and riyal liquidity is low.”

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