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10 December 2023

Government urged to establish bond market

The development of local currency debt markets represents a vital investment in the economy. (EB ILE)

By CL Jose

The Government and the UAE Central Bank should work together towards establishing a stable debt market that will have debt instruments issued in different maturities up to 10 or 30 years of tenure, according to the chief economist of the DIFC Authority.

Talking to reporters on the sidelines of a function organised to release the latest DIFC Economic Note, Dr Nasser Saidi, Chief Economist of DIFC Authority, said the development of a deep and liquid debt market in the Mena region requires proactive efforts from government authorities, regulatory bodies and market participants.

"Governments need to implement a proactive debt management programme and ensure a large and diversified issuers base. A focused issuance programme of government securities is essential to establish benchmark bonds," he said.

The region has trillions of dollars worth infrastructure projects in the offing with $2.3 billion (Dh8.4bn) worth of the projects earmarked for the GCC alone, and to finance them, long-term bond would be the ideal means.

"We should realise that short-term funding cannot finance long-term projects as they will inevitably lead to mismatches that may result in payment defaults," Dr Saidi told Emirates Business. He said many in the region commit the mistakes of signing up short-term financing arrangements for long-term projects in properties and infrastructure.

Markets in the region are still underdeveloped, with a lack of breadth, depth and liquidity, a low investor base and the absence of a clear legal and regulatory framework. Other critical issues facing the region include the lack of a credit rating culture, unsatisfactory market transparency; the lack of benchmarks, long maturities and a broad spectrum of institutional investors; and the absence of a derivatives market for managing interest rate and credit risk.

Presenting statistics on the global scene on different modes of financing, Dr Saidi said while debt instruments comprise approximately one-third of financings in most regions, it is only 5.6 per cent in the Middle East. Financial depth across the region shows the relatively low dependence of the Middle East on debt instruments.

According to a 2008-end data from International Monetary Fund (IMF), the world capital markets consist of an average 38.9 per cent bond instruments, 15.6 per cent equities and 45.4 per cent bank assets. In the Middle East, the capital market is dominated by bank assets and equities which together make up 94.4 per cent of finance.

The development of debt markets can enhance the ability of governments and corporates in the Middle East and North Africa (Mena) region to raise funds efficiently and cost-effectively for infrastructure and development needs, according to the Economic Note issued by the DIFC Economics Unit.

The DIFC Economic Note 7 titled 'Local Bond Markets as a Cornerstone of Development Strategy' said an active and liquid local currency debt market brings several benefits including stable access to capital; diversification of monetary policy instruments; improved resource allocation; creation of a yield curve for the pricing of financial assets and tailoring risk management tools; and increased choices for both retail and institutional investors.

Dr Saidi said: "The development of local currency debt markets represents a vital investment in the economy, similar to any other public investment. Even in the absence of a pressing need among governments to borrow, the creation of a debt market is a key milestone on the road to the development of an advanced economy. "

He said the debt market provides an instrument for the banking system in the region to manage liquidity and risk in an effective manner; and allows central banks to control liquidity. Diversification of financing and investment options contributes to the stability of financial markets and to greater corporate and government transparency.

"With GCC countries investing heavily in infrastructure, it is opportune to raise this financing through debt securities that are based on future cash and revenue flows, as is the case in project finance."

In addition, well functioning debt markets will help reduce dependence on bank finance at a time when the banking sector is in a process of deleveraging. It will also enable monetary policy by providing central banks with a market for open market operations, and be the cornerstone of housing finance through an active mortgage market. All these make local currency bond markets a cornerstone of development strategy.

In the wake of the financial crisis, the debt market has emerged as an attractive financing alternative in the GCC. Tightened access to liquidity; losses in the region's equity markets; and the prohibitive cost of long-term bank borrowing in the face of the global liquidity crunch has led to a substantial increase in debt market activity.

The Economic Note said during the first 10 months of 2009, the volume of GCC bonds and sukuk reached $60.8 billion, a substantial increase from the previous year when the total volume had dropped by about 40 per cent. The GCC's corporate debt market is going through a revival while the sovereign debt market – conventional and sukuk- is re-emerging strongly after the 2009 crisis.

Benefits of debt market

- Bonds help central banks control liquidity

- Even in the absence of a pressing need among governments to borrow, the creation of a debt market is a key milestone on the road to the development of an advanced economy

- The development of debt markets promotes market discipline, transparency and accountability because governments, firms and projects financed through tradable bonds are subject to constant scrutiny


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