Focus on Eibor is a distraction

11 September 2009

Reducing the cost of borrowing has become a major policy challenge; The central bank is treating the symptoms rather than the cause

The Emirates interbank offered rate (Eibor) is the odd one out in the Middle East. Despite the government pumping billions of dollars into the banking sector, Eibor has remained stubbornly high compared with the interbank rates in neighbouring countries, such as Saudi Arabia.

Reducing the cost of borrowing has become a major policy challenge for the Central Bank of the UAE, as high interbank rates depress the mortgage market and put additional pressure on indebted consumers and corporates. But the UAE’s latest moves to address the problem, by changing the makeup of the panel of banks used to calculate Eibor, is unlikely to have the desired effect.

Banks in the UAE are not used to tight liquidity. They have been awash with foreign capital flowing into the country over the past few years to bet on a revaluation of the dirham. When it became clear revaluation would not happen, this ‘hot’ money quickly left. Coupled with the effects of the financial crisis, this meant Eibor rose to about 4.8 per cent in late 2008. Although other Gulf states witnessed a huge increase in interbank rates in late 2008, they have managed to bring rates down to less than 1 per cent since then. In the UAE, the rate remains at more than 2 per cent.

While Eibor has fallen from its peak as banks attracted more deposits to lower their overstretched loan to deposit ratios, it is only falling slowly, and is still expected to be relatively high at the end of the year.

Bankers acknowledge that the current Eibor rate is probably too high, but it is a reflection of the difficult banking market in the UAE compared with the rest of the Gulf, where the liquidity crisis has largely passed.

In trying to change the way Eibor is calculated, the central bank is trying to treat the symptoms of the crisis rather than the cause. Other measures, such as lowering the cost of borrowing directly from the central bank, are the real solution.

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