March | 2015 | World Finance

How will financial services evolve?

Posted on March 9, 2015April 27, 2015 by World Finance

World Finance discusses how structural reforms may herald a new dawn for financial services.

The financial services industry is changing, with demands to make it more inclusive. With me is Brett Scott, financial activist and economic hacker.

World Finance: So Brett; lets start with the occupy movement. Now, this give macro-level critique of structural flaws in our economic and social systems; and you say a new world of financial activism is coming. But can the little people really make a difference? And do the big financial institutions care what they think? And more importantly, should they care?

Brett Scott: Large financial intermediaries rely on small people. For example, people support banks with their deposits; people support the investment management industry with their pensions.

So actually a large part of the power dynamic in the financial sector is between a kind of diffuse group of lots of people, who then support these sort of centralised intermediaries who have lots of power.

And the question is ,when you sort of think about financial reform, is how do you mobilise the power of the diffuse, ordinary people in society, to try to balance and contest the power of financial institutions. And I think people are trying to work out ways in which you do that now.

World Finance: Perhaps the crux of the matter is that they don’t understand financial systems; I think you used the phrase “financially illiterate.”

Brett Scott: People on a sort of ground level have quite a good understanding of their day to day finances. I mean, a lot of financial literacy work goes around, how do I balance my personal budget and so on. There is a lot of good stuff around it, and actually people are quite good at that.

What tends to be missing from a lot of financial education – for example you would never find this in schools – is any kind of education around the political dynamics of the financial sector; and actually the philosophy that underpins it. For example, what even is investment supposed to be for?

World Finance: Well I read you said you’d like to see the financial system be more like Wikipedia; how so?

Brett Scott: Well I mean, Wikipedia is an example of an open source platform. You can sort of see a few different features of Wikipedia.

In the one sense, it is open to people participating, so you could actually go in and produce stuff on Wikipedia. So in a sense there is a lot of work to be done in opening up the production of financial services to the average person: for example, through things like peer to peer finance.

On the other hand, Wikipedia is also something that has widespread access, so there is a whole lot of work around financial inclusion: how do you expand access to the financial system? And then there is a third element of this analogy with Wikipedia, which is that it has a transparency process, or an accountability process, where people can contest changes.

World Finance: So in essence you’re talking about a free for all, maybe even getting rid of regulators. Might we not see a Snowden situation?

Brett Scott: The point is, you want to create a more diverse financial system. So right now the system that we have is very, sort of, passive consumers of financial services; then these quite aggressive financial intermediaries; and then regulators that have to try and keep the financial intermediaries under control.

You would actually want to try and create more of a balance between regulators, smaller financial institutions, and more citizen power in the process.

World Finance: Your book talks of zones of finance that feel intuitively wrong to a lot of people, what are we looking at exactly?

Brett Scott: People have a sense that the financial sector is some kind of mysterious thing outside of themselves. And they sort of think of Canary Wharf and these big towers.

And part of that is because of this issue of financial literacy; but also there are a lot of things that the financial industry does that is very large scale and quite opaque and complex; it give a sense of alien-ness to it.

World Finance: But isn’t this true of any industry, I mean the layman doesn’t understand, you know, most industries; so why does it even matter?

Brett Scott: Its true, I mean for example, we don’t understand necessarily how the bridge that goes across a river stays up, because we haven’t studied engineering and so on. But on average it seems to work, and in a way it doesn’t affect our day-to-day lives: the fact that we don’t necessarily understand that.

I would argue, personally, that in the realm of finance people’s day-to-day lives are constantly impacted by this; and they are constantly having to interact with the financial sector in quite a personal way.

So that lack of understanding has a lot more problematic dynamics, especially considering the fact that the financial industry has played such an important part in the overall economy, and it has a lot of political power. Not understanding it continues to help it get that political power in Westminster and other places.

World Finance: You’ve referred to an unspoken class cohesion between financial professionals and politicians who attend the same universities. So are you suggesting a problem with our education system, rather than isolating just one section of society?

Brett Scott: The political power that the financial sector has within the UK economy… there’s a lot of, sort of, class dynamic to that. The same person who is a fund manager also probably is friends with people who are politicians.

So to some extent there is a class analysis that you can do, and that obviously links up to education in this country.

For example Oxbridge. I did a masters degree in Cambridge University, and certainly in Cambridge University there is a very big implicit understanding that what happens there is that some people go to becomes politicians, some people go to become financiers or accountants or lawyers; so the high end. And others go and do other things.

But there is a definite sense that these universities bring together the elite class cohesion.

World Finance: So how do you foresee the landscape of the financial industry in the future?

Brett Scott: It’s very hard to know what will happen, there are so many chaotic different forces in the world.

I think one thing you could definitely say is that there is a generation change occurring over time. So for example, a lot of the management level in banks right now were educated say in the 1970s, 1980s. They had certain attitudes about the world.

The new generations that are now moving up the management ranks of banks have different viewpoints. They tend to be more liberal, they tend to have more understanding of environmental issues. That’s a positive trend.

I think it will be hard to see banks of the future not caring about, say, sustainability. Although you don’t know how long that will take. On the other hand, there’s also the element of technology: huge, big-data technologies to sort of, crunch consumer profiles, and target people and so on. So those are some potential trends.

The rise of the Islamic economy

Posted on March 8, 2015February 19, 2016 by Ashton Wenborn

The last decade has seen a sharp rise in Islamic banking services, which are starting to offer a real and attractive alternative to the sort of financial services most people have grown used to. Across the Middle East, Africa, and Asia, Islamic banking has grown to become a prominent means of financial management, while it is also emerging in Western economies that have not typically been associated with it in the past.

Islamic banking has fast gained prominence across the world. Globally, Islamic banking assets (see Fig. 1) were estimated at around 17 percent in 2013, while Islamic funds and sukuk led year-on-year growth with 14 percent and 11 percent respectively. Other key sectors of the Islamic economy have experienced success too. The global expenditure of Muslim consumers on food and lifestyle sectors grew 9.5 percent from previous years, and is expected to grow at a compounded annual rate of 10.8 percent until 2019. Global Muslim spending on tourism increased by 7.7 percent in 2013, while consumer spending on pharmaceuticals and cosmetics increased by two and one percent respectively.

This global pattern of growth has been repeated closer to home in the UAE, supported by significant efforts by the UAE government to drive and consolidate the country’s Islamic economy. The UAE is among the top countries in global Muslim spending on halal goods, tourism and cosmetics. Islamic banks in the nation have been growing at an average rate of 14 to 18 percent in recent years, compared to four to eight percent for conventional banks.

Islamic banking’s emphasis on shared responsibility and community also creates a more
inclusive economy

Clearly, the demand for an Islamic economy and Islamic banking is on the rise.

The benefits
Islamic banking is based on the core principles of sharia law and, owing to its principled approach and high value proposition, nevertheless, it has gained popularity beyond the market of practising Muslims.

Islamic banking offers a plethora of products for customers or investors looking to participate. However, defined by a ‘real and rooted’ approach, with a focus on assets, it avoids the excessive complexity and ambiguity of some conventional products. For example, Islamic banking embraces risk-sharing as opposed to risk-transfer. In an Islamic finance (Islamic mortgage) and based on the Murabaha structure, the bank takes the responsibility of purchasing the item and re-selling it to the buyer at a profit. This arrangement enables the buyer to repay the bank in instalments. The bank protects itself against default by asking for strict collateral.

This joint approach to financing protects the buyer and the bank – while still providing for both parties to benefit. In essence, the Murabaha structure compels the bank to take on and manage risk, while providing payment stability to the customer. Another example of risk sharing is seen in Islamic trade finance, where banks actually own goods in transit and have to insure against loss or damage.

In addition, sharia law prohibits engaging in activities or transactions that are considered harmful to people, society or the environment. This ethical approach is at the core of Islamic banking and avoids transactions involving usury, interest, speculation, gambling, or industries contrary to Islamic values. So for investors that share these principles, irrespective of religion, Islamic finance provides a range of options.

Islamic banking’s emphasis on shared responsibility and community also creates a more inclusive economy. For example, several Islamic financial instruments are designed to assist investors with ‘zakat’, one of the five pillars of Islam that mandates giving a portion of your wealth to charity. In addition, Islamic banks donate all late payment fees and forfeited income to charity. Islamic banks have no incentive for extensive or nontransparent fee charging, since they will not be allowed to recognise it as revenue.

In addition Islamic finance has an ‘inbuilt anti-crisis mode’, which is perhaps one of the most compelling reasons why Islamic finance is so relevant to investors across the globe. For a world reeling from the after-effects of the global financial crisis, Islamic banking offers a steadier, safer approach. This is reflected in the in-depth screening process that eliminates companies deemed too risky because of excessive leveraging. The partnership structure of Islamic financing prompts both parties to be mutually responsible thus protecting individual investors. While profit is encouraged, it is just one of the reasons to participate in economic activity with community welfare taking equal, if not higher precedence. Money has no intrinsic value except as a medium of exchange and transactions have to be backed up by real assets and activities.

Indeed, in the aftermath of the global financial crisis, many proponents of Islamic banking pointed out how institutions offering these services tended to be far more resilient to the crisis than those at the heart of the crisis. The IMF produced a report in 2010 that showed how Islamic banking institutions contained the fall out of the crisis by having lower leverage and no investments in risky, non-sharia-compliant products.

Challenges of growth
Despite the growth of Islamic finance, there remain some hurdles to its growth.

There is an urgent need to standardise sharia regulations and unify sharia rulings across banks and markets. Multiple interpretation of the law by sharia scholars can leave the industry as well as investors unclear about certain aspects of Islamic banking.

In addition, there is a need for specific regulations related to Islamic banks against the current banking regulations being tailored towards conventional banking, i.e not taking into context the specific nature of Islamic financing. Islamic banks take on a higher exposure to real estate for example. There is also a need to differentiate Murabaha from normal lending as well as differentiate Musharaka from equity investments etc.

There are several other challenges: liquidity management tools remain limited for Islamic banks, locally and globally. There is also limited consumer awareness of Islamic banks’ offering and on the overall competitiveness of Islamic financing solutions. In addition, Islamic banks still have to count on conventional banks for international market access/global deals. There are also limited sharia-compliant avenues across the globe. The debt markets remain dominated by conventional offering with limited sukuk and other sharia-compliant debt capital market instruments available.

Dubai’s vision
The Islamic economy is here to stay, and will grow to form a sizeable part of economic activity. We have already started to see signs of success, with Dubai being the third-largest sukuk venue globally, with $20.38bn in total value of sukuk listings. The UAE itself is second after Malaysia in sukuk issuances worldwide (see Fig. 2).

Emirates Islamic has made significant contributions with the recent launch of the NASDAQ Dubai Murabaha Platform, a comprehensive Islamic Murabaha platform to provide local and regional banks with sharia-compliant financing solutions as part of Dubai’s Islamic Economy vision.

Emirates Islamic also has a deep commitment to innovation in Islamic finance, by providing a range of segments, products and services, including customised solutions. The bank’s customer-centric approach, focused strategy and product innovation has also led to its expansion. In a span of a few years the bank has increased its customer base by more than 30 percent, developed and launched multiple products and services to every segment whether mass or niche, and grown its branch network by over 50 percent, making it the fastest growing bank in the UAE. Emirates Islamic has over 55 branches and more than 150 ATMs/cash deposit machines across the UAE – a testament to the growing demand among customers for a more ethical and transparent way of banking.

Fuelled by such unprecedented growth rates, Emirates Islamic now stands as one of the three largest Islamic banks in the UAE, with one of the largest branch networks in Dubai. The efforts of the bank in recent years have been recognised by the general public and by prestigious publications – Emirates Islamic has received numerous accolades, both regionally and in the international arena, such as Best Islamic Bank, UAE 2015 by World Finance, Best Domestic Retail Bank 2014 by Islamic Business & Finance, and Best Corporate Bank 2013 by CPI Financial, among others.

Women share, men cut throats, and we all choose our own salary

Posted on March 8, 2015March 6, 2015 by World Finance

World Finance speaks to Eve Poole, author of Capitalism’s Toxic Assumptions, who questions our philosophy of ‘business as usual’.

Come back later for a full transcript of this interview.

KFH Capital Investment Company: GCC is opening up to real estate

Posted on March 7, 2015February 19, 2016 by Ashton Wenborn

In April last year, the first Islamic Real Estate Investment Trust (iREIT) was listed in the GCC and it was none other than NASDAQ Dubai, which got a new and innovative investment class on its trading board. Emirates Islamic REIT, which raised $175m in its IPO in 2010, was then oversubscribed by 3.5 times. Although the US signed legislation to create the US REIT industry in 1960, the increased interest in iREITs was triggered by Malaysia in July 2006, with the innovative launch of the world’s first iREIT, Al-Aqar KPJ REIT.

By definition, REITs are an investment vehicle for all types of investors to participate in an asset class that has traditionally required large investment sizes, and iREITs must observe the principles of sharia. In addition, REITs provide the benefit of easy liquidity, meaning investors can buy and sell their units (if publicly traded) – something not possible with physical real estate. It is more like a mutual fund that invests in real estate, yet it differs on aspects of regulation.

It is important to understand that REITs are a wonderful combination of two different types of returns – regular income and capital appreciation. The income is generated mainly through a periodic cash flow – for instance, rental income from a house – while the capital appreciation comes by way of increase in value, such as price appreciation of a stock or in the value of a real estate property you own. REITs invest in income-generating assets and can vary from hospitals to commercial/retail properties, which provide rental income periodically.

It is important to understand that REITs are a wonderful combination of two different types of returns – regular income and capital appreciation

International pedigree
On a more international level, REITs are affiliated to key circles of the economy like apartments, self-storage centres, office buildings, hospitals and so on. In simple terms, REITs assure long-term, committed revenues to their shareholders. As per the Dubai Financial Services Authority (DFSA), a REIT is restricted to leverage at 70 percent of its total assets; not allowed to invest more than 30 percent in property under development; and must distribute 80 percent of audited income to shareholders.

As reported by REIT.com, the REIT industry in the US has flourished extensively in the past few years recroding $191.65bn in recession-hit 2008 to $670.33bn in 2013. This super growth of 249.8 percent shows that investors are looking for the promising aspects in REIT, especially in terms of hedging against inflation and as a regular income generator. The story does not end there however. The past 20 years in the REIT industry have revealed that across the 10 major categories, the Mortgage REIT has given a robust return of 77.35 percent, while the self-storage REIT has witnessed wonderful annual positive returns, with a mere three years of negative returns in its 20-year history. When it comes to average returns, REITs have yielded a very smart return, with a minimum of 10.84 percent to a maximum of 17.53 percent in last two decades (see Fig. 1).

From the Asia Pacific side, Malaysia has got the highest number of REITs listed on the exchange since the first iREIT launched in 2006. The Islamic Republic currently has 14 REITs, three of which are sharia-compliant, with each REIT specialising in a different asset subclass. On average, REITs are returning 6.83 percent to investors. Specifically, YTL Hospitality – a diversified REIT, is earning the best yield of 9.56 percent while the minimum of 5.12 percent was awarded by Pavilion, a mall-oriented REIT.

Stunted growth
The concept of REITs is not new in the GCC, but it is indeed very fresh in terms of its implementation and adaptability. In the past, REITs in the GCC have not gone on to fulfil their potential for several reasons.

REIT return by industry

One such reason was the global financial crisis in 2008. From 2006, most of the GCC members were trying their best to formulate a regulatory framework, but when the crisis struck, it took with it any realistic chance of progression. Kuwait and Bahrain along with the UAE (especially Dubai) were front runners, as major real estate players in these three countries were looking towards real estate-friendly, small investors to invest in a REIT pool. Unfortunately, the eruption of the 2008 crisis, which caused property prices to crash by more than 50 percent, forced them to roll back their plans.

Another hindrance is a lack of clear regulations in the industry. Only Dubai, via Dubai International Financial Centre and Bahrain took a lead and rolled out REITs-type regulations in 2006 and 2009 respectively. Saudi Arabia, the biggest market in the GCC, is yet to disclose any legal structure pertaining to REITs.

In addition, there are no tax benefits. The biggest incentive of REITs is not to pay any tax, but as the region does not book any rule on tax; and investors earn most of their income tax free, it remains highly inapplicable in such a format.

Finally, there are limits in place for foreign ownership. Though Saudi Arabia has planned to open its stock market for foreign institutional investors, many GCC nations have limitations on foreign ownership for real estate, thus making the development and growth opportunities of these trusts less appealing worldwide.

Changing fortunes
In the past, specifically before the crisis, investors avoided these type of products, mainly because they wanted a quick appreciation in their investments, which REITs do not offer because of their structure. Furthermore, private and closed REITs (not listed) further intensified the liquidity pain for investors due to their illiquid nature. However, after 2008, the sector underwent quite the turnaround and investors began to realise the importance of regular returns, attached with such a product. They began to reassess this unique real estate specialised product with an affirmation and adoption. Investment managers also conceded to add a ‘public trading’ feature, so as to make REITs more viable and adaptable among the investor community.

Moreover, to infuse higher interest for the product, particularly among Islamic investors (high-net-worth individuals), iREITs became priorities for various investment companies and market regulators. These developments did not happen overnight; the intense efforts of the Securities Commission of Malaysia remained a key force behind this change. The legal body took a lead by providing a suitable environment through clarity of regulation and incentives to support the development of iREITs across the globe. Investors, for whom the stock market was the sole investment option apart from fixed deposits or similar traditional investment products, have already started looking affirmatively towards REITs, in a bid to diversify their assets class.

REITs in the GCC

Currently, most of the REITs running in the GCC region are private and closed, either due to lack of regulations or by their nature, with Emirates REIT an exception (see Fig. 2). Though, Kuwait was the first to launch an iREIT in 2007 (in the GCC), the public listing of Emirates REIT has infused a new investment phenomenon among GCC investors who feel that it is the right time to seek income producing assets/vehicles, rather than taking persisting volatile risks of market.

Even though iREITs have witnessed a few issues in the GCC and Middle East during the past eight years, the prospects for the trusts in the region are still promising. Reviving sentiments in the industry are assuring for a better REIT market; as unveiled during the Emirates REIT listing. Property prices and rents are on the recovery path, which are quite favourable to REIT. iREITs are becoming more popular primarily due to their permissible structure as per sharia law and, believing in its potential, one should not be surprised if the industry taps a significant share in the trillion dollar Islamic finance industry.

REITs’ affiliation with low correlation, common stocks (as a potential hedge against inflation), high dividend yields, and the higher certainty of income, are just some of the characteristics which are attracting the attention of high-net-worth individuals. The rising interest in iREITs, as shown in the Asian Pacific region, across Singapore and Malaysia, and the regular floating of REITs IPOs, suggests that the GCC remains a region of opportunity due to the massive wealth it carries, and the limited availability of this product.

Did Greenspan overestimate OPEC?

Posted on March 6, 2015 by World Finance

World Finance speaks to Kay Ellen Consolver, supervisory board member of Thyssen Petroleum on the future of the energy sector.

Come back later for a full transcript of this video.

A look at President Xi Jinping’s impact on China

Posted on March 6, 2015 by Ashton Wenborn

March 2013

Aged 60, communist party veteran Xi takes over the presidency with a ringing promise to rejuvenate the nation under a programme called ‘Chinese dream’. Taking control of an unusual number of portfolios, he announces an attack on corruption, a foreign policy that some see as anti-American, rapid economic reform, and a tougher line on civil obedience. His vision is nothing short of “Singapore on steroids”, according to a reporter from Foreign Affairs magazine.

April 2013

President Xi appoints like-minded Li Keqiang, son of a local party official, to replace the retiring Wen Jiabao as premier. Another communist party careerist, Premier Li once won awards for his knowledge on the thoughts of Chairman Mao. However, the number two in China’s hierarchy soon gets a reminder of the limits of his power. When one of his observations fails to reflect precisely the official line, it is quickly removed from the government sites.

Mid 2013

The new president’s crackdown on corruption takes no prisoners. As well as slashing the budget for official banquets and cars, he presides over a 30 percent increase in the number of corruption cases coming up for official review – over the full year the party punishes over 180,000 officials. The military do not escape the dragnet – a senior-ranking officer is caught selling positions in the armed forces. The going rate for a major general is reportedly $4.8m.

Late 2013

The official line becomes the truth. Billionaire bloggers Pan Shiyi [pictured] and Charles Xue, entrepreneurs with millions of followers on social media, are virtually shut down overnight. Ironically Pan had also been a vocal campaigner for the improvement of air quality in Beijing, which is something that Xi has promised to work towards. Nevertheless, the posting of ‘rumours’ on the internet can lead to a three-year prison sentence.

Early 2014

Describing foreign political concepts as unpatriotic and possibly dangerous, Beijing launches another crackdown, this time against academic research. Universities are barred from researching and teaching no less than seven catch-all topics: universal values, civil society, citizens rights, freedom of the press, privileges of capitalism and independence of the judiciary. The seventh off-limits subject is, unsurprisingly, mistakes made by the communist party.

March 2014

Beijing takes ‘internet sovereignty’ up a notch. When Malaysia Airline Flight 370 disappears, it prompts a flurry of theories on the net within China. In short order an unknown number of the theorists are arrested as part of a systemic repression of free thought. Over a four-month period the authorities suspend, delete or sanction more than 100,000 accounts on micro blogging platform Weibo for exceeding the boundaries of permissible expression.

September 2014

Hong Kong’s students erupt in anger over China’s attempts to rig local elections of the former crown colony’s chief executive in favour of its own candidates. As thousands block city centres and streets, China orders out troops and even triad members to intimidate the protesters. Although it’s a peaceful protest, many of the rebels are jailed. State-controlled media accuses the West of ‘instigating’ the protests because of the UN’s disapproval of Beijing’s measures.

2015

President Xi’s campaign against corruption could be rebounding. Many of China’s best and brightest want to emigrate. According to a local publication, more than 65 percent of Chinese citizens with assets of $1.6m upwards have either already left the country or are making plans to do so. A further 80 percent of those with $1m or more intend to send their children out of China for education. The president’s family is one of the richest in the country.

Petroamazonas brings energy efficiency to Ecuador

Posted on March 6, 2015March 3, 2015 by Ashton Wenborn

In order to find a place in a world that demands sustainable, long-term solutions, an increasing number of oil companies are having to transition from simply producing oil to becoming energy companies focused on creating ‘win-win’ scenarios for all stakeholders. Gone are the days when a marketing facelift could present the same business in different packages.

The problem arises when policy and decision makers on the world stage lay out objectives and non-binding agreements without paving the way for funding, local competence and other essentials to provide the deliverables and potential game changers required in the industry. The fact of the matter is that the gap between policy makers and people who actually can get things done is widening.

There is no green oil for which a customer is willing to pay a premium or black oil for which there is
no market

This is due, in part, to policy makers and ‘hands-on’ people speaking different languages (the voices of the hands-on people are usually absent at high-level meetings). Another reason for the widening gap is that in a cash-restricted market, energy efficiency will not be high on the pecking order of an oil company, given the fact that it requires long-term, out-of-the-box thinking. What is more, some decision makers within oil companies perceive energy efficiency projects as fund parasites that threaten their core business.

Most energy efficiency programmes, therefore, are either driven by regulations, consumer pressure (public opinion) or need some external incentive to make the transition from conference talk to boots on the ground. The exception being when energy efficiency is detrimental to the survival of the company; such as is the case in the airline industry.

Why is energy efficiency a fact of life in the airline industry, the downstream oil industry (mainly refineries), utility companies and the car industry, but not in the upstream oil industry?

Upstream oil
The upstream oil industry is not subject to a competitive environment; each drop of oil eventually will find its way to the market – at whatever price dictated by the market. Production facilities, pipelines, ports, and such are essential in getting the cash flowing towards the oil companies and shareholders, while energy efficiency indicators, in today’s business environment, will not be a deal breaker. In today’s oil industry there are no standards to which oil companies are held accountable in terms of their energy efficiency per barrel of extracted oil. There is no green oil for which a customer is willing to pay a premium or black oil for which there is no market.

Anything upstream in the oil industry is usually developed on an individual and local scale; not conceptualised on having a lasting impact and contributing to the prosperous development of a major region, beyond the border of oil fields.

Generally the perception is that the governments should not interfere in how each oil company develops its power generation/distribution requirements – not taking into consideration that the conceptual design selected by each oil company or industry has a direct impact on the income and wellbeing of the stakeholders on a national and local level, and is a determining factor in achieving the global sustainability of non-renewable energy resources. Why should the government not intervene if, by means of project clustering, all local and global parties benefit?

As strange as it may seem, project clustering is very common among oil companies when it comes to building pipelines, but for some unclear reason this is not applied for power generation and power distribution facilities. When an integrated project cluster approach makes sense to all stakeholders but individual incentives are not there to enforce the idea, the government should step in to guarantee sustainability indicators are met and, why not, make sure the footprint has a lasting positive impact, even after it has served its initial main purpose.

Such narrow and short-term thinking has resulted in oil companies flaring millions in standard cubic feet of associated gas on a worldwide scale (gas which is freed when oil is extracted from its reservoirs), focusing strictly on gross hydrocarbon production whereby often the end justifies the means.

Everybody wins
Ecuador, through its state-owned oil company Petroamazonas, decided it was time to move away from an era in which there were always winners and losers in the oil industry. With this in mind, the country, through Petroamazonas, decided to invest in a $1.2bn programme named Optimización Generación Eléctrica and Eficiencia Energética (OGE&EE). The programme consists of a cluster of 120 projects in an area covering 25,000sq km, 17 oil blocks, 56 oil fields and 66 facilities. The scope of the project can be summarised as following: multiple power plants using associated gas/crude oil as fuel adding up to an excess of 325MW; over 900km of power distribution facilities to deliver power based on economic and environmental merits; and approximately 100km of gas gathering and transportation facilities, bringing deteriorated facilities up to standard and implementing waste heat recovery systems. Interconnecting the integrated oil industry electric grid to the national grid will pave the way to optimise excess hydro power during off-peak hours – in essence transforming water into oil.

The project also covers research and development in areas such as flexible fuel solutions, which are capable of using associated gas, crude oil, condensates, or a combination of each . Developments will also cover monetising stranded associated gas by means of virtual pipelines, and making it technically and economical viable to bring to market small volumes of remote associated gas. The previous has been implemented before for natural gas but not for associated gas, with low volumes at the source and high CO2, heavier hydrocarbons and water content.

From the very beginning the potential economic benefits of the project (savings of up to $700m per year, depending on oil prices) and environmental benefits (CO2 emissions reduced by up to 800,000T per year) to Ecuador were clear, but it was by no means a done deal when selling it to industry decision makers. To develop a project cluster at this scale it is necessary to breakdown old habits and corporate cultures, and translate the OGE&EE programme into oil industry language. Projections show that the project could lower the number of barrels per day (BPD) required to meet demand considerably (see Fig. 1). The impact of the OGE&EE programme translates into increasing the net oil output by as much as 30,000 BPD – the equivalent of over 200 million barrels over a 20 year period – which at an investment cost of $1.2bn is very competitive compared to what a traditional oil project of that size would cost.

A sensitivity analysis was undertaken and proved the resilience of the project, demonstrating that, in the event of oil prices dropping to $41.18 per barrel, the internal rate of return (IRR) would still be 30 percent. With a crude oil price of $11.18 per barrel the IRR drops to 15 percent, although this does not take into consideration savings attributable to centralised power (instead of having over 600 individual power units).

The halfway point
As it stands, 50 percent of the project has been implemented so far, but with the price of oil recently dropping from $100 per barrel to between $45-$50, we have once again reached a critical point. It is one thing to ask for investment with crude oil prices hovering in the range of $80-$100 per barrel, and another to ask for it when prices drop to the numbers we are seeing today. It is during these times that bridges need to be put in place between objectives discussed at high-level meetings and projects that deliver on the promises made. In the past, various programmes and mechanisms on an international and regional scale have still not delivered, leaving it up to Ecuador and Petroamazonas to lead the way.

Under current circumstances, part of the programme will continue to be developed using state funds, but for some of the infrastructure to be developed external funds are essential. Petroamazonas has identified facilities that can be developed through build own operate transfer (BOOT) project structures.

Another development model consists of Petroamazonas handing over equipment and material it has already purchased to a strategic partner, such as power generation units, electrical equipment, process equipment and conceptual and basic engineering design criteria. Through this structure the strategic partner is required to close any pending engineering and procurement and assume construction work and start-up of the facilities. Immediately after provisional take over Petroamazonas will proceed with making payments sufficient to amortise the investment of the strategic partner and cover operations and maintenance expenses.

Given the urgency to reduce emissions, implement sustainable solutions and create win-win scenarios, it is essential to implement funding structures allowing for the transition from high- level, non-binding commitments, to technically and economically viable solutions. This will require strong top-down commitments, local competence, integrity and funding, helping programmes like OGE&EE weather the kind of storms that any such project will face over an eight to 10-year implementation period.

China headed for economic slowdown, warns Premier

Posted on March 6, 2015February 7, 2017 by Ashton Wenborn

In the annual state-of-the-nation speech on March 5, the Chinese Premier told the 3,000 delegates present that further economic slowdown can be expected this year. The country’s GDP growth target has thus been reduced to approximately seven percent as a result of deflation and rising deficit.

It is vital for China to pay greater focus to the strategy that caused its exponential economic growth in the first place

During the speech, which lasted over an hour and a half, Li expressed the importance of maintaining “medium-high-level growth” and creating new growth drivers. Areas of improvement that were pledged included the labour market, the ease of doing business for new enterprises and living standards – particularly in rural areas.

“China’s economic development has entered a new normal. Systemic, institutional and structural problems have become ‘tigers in the road,’ holding up development. Without deepening reform and making economic structural adjustments, we will have a difficult time sustaining steady and sound development,” Li told the Chinese parliament.

Last year China’s GDP grew by 7.4 percent, signalling a continuing pattern of falling steadily since 2010. The country’s shift to a market-based economy in 1978 initiated its rapid expansion, which averaged around 10 percent GDP growth per year. According to the World Bank, this incredible feat lifted over 500 million people out of poverty.

A series of large infrastructure projects were also unveiled by Li during his address, including investing $128bn into the railway sector and promoting the railway construction industry in overseas markets. Yet economists have warned against the economy’s current reliance on infrastructure construction due to its inherent lack of sustainability. As such, it is vital for China to pay greater focus to the strategy that caused its exponential economic growth in the first place, namely the implementation of market forces.

India plays catch-up with the rest of the technology world

Posted on March 6, 2015 by Ashton Wenborn

Despite an abundance of first-rate engineering and scientific minds, India’s technology sector has not got anywhere close to the sort of innovation and profitability seen in other parts of the world. While Silicon Valley-based firms have shaped the digital world of the last two decades, successful tech start-ups have also sprung up from across other parts of the world, including the UK, Israel, South Korea, Japan, China and Sweden.

However, India has developed more of a reputation for being the home of many major international companies’ call centre operations, with a lot of backend and low-paid tech jobs being outsourced to Indian firms. Unlike many Asian cities, the gleaming tech hubs and manufacturing plants that produce the latest gadgets seem absent from India. President Narendra Modi has made it one of his key targets to change this perception. As with many of India’s economic operations, Modi intends to completely reform the tech sector and shift it away from low-end industry to more leading, innovative, and high quality firms.

For many years India has had a somewhat unfair image of being the home of global call centres, and the place where disgruntled customers get their phone calls transferred to. However, while a large industry has grown in the country over the last few decades, the trend recently has been for many companies to move their call centre operations to other regions like the Philippines or to even bring them back in house. Indeed, last year it was reported that India had lost as much as 70 percent of its call centre business to the Philippines. As a result, India has needed to refocus its strategy towards higher end digital services.

Around 400 million Indians living in poorer parts of the country could have better access to healthcare, as well as more efficient diagnosis and distribution
of medicines

Keeping up with the competition
While many cities in India have been dubbed technology hubs, they have struggled to see the sort of high-end innovation and revenues of competing cities around the world. Bangalore, the capital of the state of Karnataka and third most populous city in India, has long been known as the Silicon Valley of India, with leading tech firms like ISRO, Infosys and Wipro are based there. It also houses a number of leading research institutes and universities.

As a result of the innovation in Bangalore, there have been many leading IT service and consultancy firms that have carved out core roles for themselves in the global digital market. However, the successes have not matched those of many other countries, and it is perhaps India’s notoriously complicated regulatory system that has helped stifle many of the smaller entrepreneurial services that prove so successful elsewhere. As a result of Modi’s election last year, however, it seems that he plans to overhaul much of the way the country operates.

Last August, Modi announced plans to set up a national digital initiative, dubbed ‘Digital India’, which would see around $19bn spent on providing broadband internet to around 250,000 villages, as well as providing blanket mobile network services. The government would also be dramatically improving the online capabilities of its own services, meaning a more efficient platform for people to access key government services.

Speaking in the US earlier this year, India’s Communications and Information Technology Minister Ravi Shankar Prasad encouraged international tech firms to look at India as a place to invest their money and resources. “Use of technology is an important tool to fulfil this idea of aspiration. The creative energy of India is waiting to show its accomplishments again under Narendra Modi. Indians want to realise their dreams in view of the extraordinary vision of Modi.” He added, “There is enormous scope for investment, growth and also very exciting business prospects. India today is a happening place.”

According to some observers, Modi’s push to make India ready for the digital age is vital to the country’s future, and that he should focus his attention on a number of key areas. Dr Ganesh Natarajan, CEO of Indian tech firm Zensar Technologies and Chairman of the National Association of Software and Services Companies (NASSCOM) – an Indian tech industry trade association – wrote in November of a “mood of high expectation created by the early actions and successes of the Narendra Modi government.”

Writing for the DNA India website, Dr Natarajan added: ‘If the government takes the agenda forward and does not leave any of the constituent parts gasping for funds, the opportunities are huge for the country in general and for willing participants in the IT sector as well. What is important to understand is that like any elephant, Digital India has many parts and each has to be addressed to make the big vision a reality.”

The areas Dr Natarajan believes the Modi government should focus on include spreading broadband throughout the country, therefore enabling poorer communities to enjoy the benefits of a digital economy. This will add an extension of the National Optical Fibre Network, and NASSCOM believe that should cover as many as 600,000 villages nationwide. He also believes the Digital Literacy Mission should be a priority, with computer services forming a key part of school curriculums, as well as an expansion of the government’s Common Service Centres (CSCs).

Investing in opportunity
Smart cities should also be aided through a number of public-private partnership initiatives, with large international firms like IBM and CISCO being encouraged to continue investing in parts of India. “Major multinationals like IBM and CISCO and a plethora of start-ups have developed solutions which need to be integrated, and country-wide connectivity initiatives for healthcare, education and small and medium manufacturing enterprises need to be designed and implementation commenced expeditiously so that an eco-system for employment and value creation can emerge through the smart city programme.”

It’s not just in consumer electronics where India has fallen behind its rivals. Renewable energy technologies have been heavily promoted by China, even though Asia’s biggest economy continues to consume colossal amounts of fossil fuels. By contrast, India has long banked on the coal industry for its energy needs. Last November however, Modi’s government announced plans for a massive investment in renewable energy that could transform the country’s energy market.

Over the next few years $100bn worth of investment is due to be pumped into the renewable energy market, according to India’s Minister for Coal, Power and Renewable Energy, Piyush Goyal. Telling reporters he wanted the country to become a renewable energy superpower, Goyal said last October: “Our commitment to the people of India is that we should rapidly expand this sector, reach out to every home, and make sure we can do a diesel-generator free-India in our five years.”

Wider technological innovation will also help Modi realise his plans for a modern, digital India. Falling costs and increased reliability mean that adoption of technologies like cloud computing and mobile internet can happen far quicker than would have been possible a few years ago. The impact that these new services will have on India’s wider economy could be vast. According to McKinsey Global Institute (see Fig. 1), the country could see benefits derived from improved digital services of up to $1trn annually. For example, around 400 million Indians living in poorer parts of the country could have better access to healthcare, as well as more efficient diagnosis and distribution of medicines. Elsewhere, remote teaching and improved educational services could help to empower citizens throughout the country. Modi’s digital strategy for the coming year will rely not only on domestic innovation, but also help from overseas.

Speaking in January to the Indian Science Congress, Modi talked of how the science and technology would form a key part of all trade negotiations with other countries. “There is a growing trend of international collaboration in research and development, not just among business enterprises, but equally among researchers and scholars at universities and laboratories. We should take full advantage of this. For this reason, I have place science and technology at the forefront of our diplomatic engagement. As I have travelled abroad, I have personally sought out scientists to explore collaborations in areas like clean energy, agriculture, biotechnology, medicine and healthcare.”

India is having to play catch up in the technology world, and it will not be easy to shed the image of it as a country full of low-end tech and science jobs. While all this investment from the government should be welcomed, one area in which India must do better is to retain the top scientific talent that emerges from its universities or go and study abroad. There are huge numbers of leading Silicon Valley figures that grew up in India, only to seek their fortunes abroad. Enticing these figures back to the country will go along way to helping India become one of the leading digital economies in the world.

Europe’s dead airports: a big waste of taxpayers’ money

Posted on March 6, 2015February 7, 2017 by Ashton Wenborn

A disappointing truth has hit taxpayers in the form of a 2014 report by the European Court of Auditors (ECA), which examined the financial sustainability of 20 EU-funded airports. Of the €666m ($756m) that has gone towards the construction and refurbishment of 20 airports in Estonia, Greece, Spain, Italy and Poland, auditors found that at least seven of those aren’t yet profitable, and around 28 percent – €129m ($146.4m) – of the capital went towards improvements that “were not needed at all.” And it’s not over yet – those that have failed to turn a profit thus far will continue struggling to remain operational unless they receive further injections of public money.

Essentially, the EU has invested millions of euros in failing enterprises; some of which have never seen their daily flights reach double digits, even at the height of summer. Not only are passenger numbers and revenues at astonishingly low levels, but perhaps most puzzling of all is just how far out the proposed forecasts are. Figures for all three of Poland’s refurbished airports – Lodz, Lublin and Rzeszow – show that three million passengers were predicted to pass through their doors every year, yet in 2013, that figure was just over 1.1 million. Forecasts are very rarely entirely accurate, granted, but two million is a rather significant overshot, all external factors considering.

Essentially, the EU has invested millions of euros in failing enterprises; some of which have never seen their daily flights reach double digits, even at the height of summer

This of course begs several questions surrounding why the funding was provided in the first place when so few advanced plans had been presented, and how such incredibly faulty forecasts could have been produced. Chris Chalk, Aviation Practice Leader at Mott MacDonald and Chairman of the British Aviation Group, pointed out a central issue that the report sheds very little light on: the investment start dates on the various airports ranged from 2001 through to 2012, yet in the report, barely any regard is given to the global financial crisis of 2008-09.

Disregarding the facts
“What I have an issue with is that the report hasn’t reflected on the recession, it basically says ‘these people can’t make a decent forecast’, but to be truthful, I don’t think anyone could have forecast the length and depth of the recession”, said Chalk. “The actual ability to develop traffic for most of these airports was out of their control because of the effects of that recession, and that simply doesn’t come through in the report.” When the financial crisis hit, it was around the time that many of these member states expected air travel to kick off, yet traffic across Europe fell sharply as people looked to cut costs, with many opting for domestic travel instead.

Not only were less people flying during that period, but as 2008 alone saw more than 30 airlines go bust, the remaining survivors began looking to streamline their destination inventories in an attempt to narrow profit margins. Budget carrier Ryanair slashed 44 flights to nine European destinations per week in 2009, affecting around 600,000 passengers over the year. Carriers naturally chose to continue flying to more financially viable ‘hub’ airports – which together capture 78 percent of total European air traffic – as opposed to regional airports in remote areas. Given that many of the airports mentioned in the report fall into the latter category, having been built for the socio-economic benefit of connecting more isolated, outlying areas with centres of economic activity, it’s understandable that many would be adversely affected by this industry wide move.

Of course, it’s incredibly difficult for auditors to take into account every external factor potentially impacting the success of a business or enterprise. However the report seems to look at the airports in total isolation: separate from the state of both the global economy, and that of where it’s located. Greece is a victim of this – its economy has been deeply troubled for years now as it finds itself in the depths of a dark recession that almost pushed the country out of the euro. Considering this, to say that the airport’s failure to attract passengers lies solely with the authorities behind it is an unfair judgment.

The public safety net
However, that’s not to say that mistakes weren’t made. Historically, state-owned and/or funded facilities have never been as financially sustainable or successful as private enterprises. This is for a variety of reasons, but mainly because the decision-makers aren’t spending their own money: there’s less at stake by default, so less time and effort goes into everyday operations.

Private-for-profit business models often enjoy superior consumer-orientated management and marketing strategies, as well as more sound investment decisions, all of which originates from their corporate-style governance. Because all operations are centred on returning a profit, far closer attention is paid to cost-cutting measures, and procurement procedures are both more efficient and cost-effective. This was proven when the move to privatise France’s airports was first made back in 2005, and as a result they have become far more successful, undergoing a rapid transformation into profitable enterprises that boast proven sustainable business models.

Before considering building or expanding upon a major enterprise like an airport, Chalk says a 15-20 year plan must be produced, outlining how much traffic will grow in that time, how that growth will be accommodated, and how it’s going to be funded. “Just building something like that doesn’t necessarily mean that the business will come”, he said. “There’s countless examples around the world where these things aren’t properly thought-out, and they simply end up being a long-term drain on local economies.”

Heated competition
A central issue highlighted by the ECA within the report is that many of these airports were built in unnecessarily close proximity to each other. “For 13 out of 18 audited airports, significant overlaps exist with the catchment areas of neighbouring airports, and in many cases there are overlaps with several catchment areas”, reads an excerpt. It goes on to explain that several of these overlapping airports went on to invest in similar infrastructure, such as terminals and runways, without considering the improvements made to neighbouring airports – “which would have been necessary for rational planning and optimising the use of EU-funds.”

The plans for Catania and Comiso airports in Italy, both of which received significant EU funds, double-counted a huge chunk of their catchment areas’ population

So a lack of planning is evident, on top of a lack of cohesion between the member states in question. While some did carry out catchment area analysis, no common catchment area had been established so the results were simply unreliable and sloppy. For example, the plans for Catania and Comiso airports in Italy, both of which received significant EU funds, double-counted a huge chunk of their catchment areas’ population.

In Spain, the proximity issue came down to competitiveness between electoral communities, whereby airports began springing up as a way of proving each community’s worth over its neighbours, and saw each airport “cannibalising each other’s traffic”, as Chalk puts it. He suggests grouping the airports as a more financially sustainable solution; another strategy that was proven to significantly reduce overheads when put into practice in France. However with issues of civic pride rife, the grouping of these enterprises would be a big political step. This was also an issue in Poland, where decisions on the location and size of new airports were left to local governments. Andrzej Korzeniowski, who was responsible for drafting the civil aviation plan for Poland, told Reuters in December 2014: “That was the biggest mistake, for which we’re now paying the price. The local governments decided, ‘I’m a prince in my domain, the government doesn’t tell me what I’m supposed to do, we do what we want.’”

It’s not just other airports they have to compete with. AVE, Spain’s high-speed railway network, has been expanded upon drastically in recent years, with connections to France having launched in December 2013. And although air travel is often the cheapest mode of transport within Europe, there are countless reasons why customers would opt for alternatives. This was seen most notably when the HSR service Eurostar began connecting London and Paris via the Channel Tunnel in 1994, snatching up a mammoth 66 percent of the London-Paris rail/air market by the early 2000s.

While the report doesn’t at any point hint at suspected corruption or foul play, it reveals a huge discrepancy in planning which is in itself immensely problematic. The auditors advise member states to ensure they have “coherent regional, national and supranational plans for airport development” from this point onwards, but in so many of these cases, the damage has been done. Authorities urgently need to reassess the financial sustainability of the projects already undertaken, and seriously consider overhauling operations – perhaps by grouping neighbouring airports together, to start with – to ensure they begin turning profits soon. With the eurozone economy’s future uncertain, the local communities affected simply cannot continue to prop up what are essentially multi-million euro failures.

Will Abenomics get a new lease of life?

Posted on March 6, 2015 by Ashton Wenborn

The key economic strategy of Japan’s Prime Minister Shinzō Abe upon being elected for a second term in December 2012 was dubbed ‘Abenomics’ for its radical departure from conventional economic thinking. Based around the so-called ‘three arrows’ of fiscal stimulus, monetary easing and structural reform, Abenomics was seen as a necessary strategy in the aftermath of what many observers had seen as two lost decades for Japan’s economy. Japan had been slumped in recession for years, and Abe’s policies of encouraging private investment, targeting inflation of two percent annually (see Fig. 1), setting negative interest rates, huge quantitative easing, and reforming the Bank of Japan were a dramatic economic cocktail designed to drag the country back into growth.

During the first few weeks of Abe’s government, he introduced two of the three arrows of his policy. This included the JPY 10.3trn stimulus bill, alongside the appointment of Haruhiko Kuroda as new head of the Bank of Japan, who was given the task of getting inflation to sit around two percent through a wave of quantitative easing.

The impacts of these policies were immediate, with a sharp weakening of the yen by as much as 25 percent against the dollar, a four percent fall in the rate of unemployment, and an increase in consumer spending. The stock markets also rose considerably, with the TOPIX index jumping 55 percent by May 2013. The quantitative easing implemented by the Bank of Japan has been at an unprecedented level, and far surpasses anything instigated by the likes of the US Federal Reserve and the Bank of England.

Agriculture, labour markets, healthcare and female participation in the markets are all areas that need urgent and ambitious reform

An initial wave of quantitative easing was started in April 2013, with the Bank of Japan buying between JPY 60-70trn each year. In October 2014 it expanded the programme, with a second wave of bond buying of around JPY 80trn each year.

The effect of quantitative easing has been the yen falling sharply against the dollar, but whether it will help to save Japan’s economy in the longer term remains to be seen. While the EU has only just started its own form of quantitative easing, both the US Federal Reserve and Bank of England have ended their own bond purchase efforts.

Too good to be true?
The moves have not been made without resistance, however. Some politicians wanted lower corporate tax rates, while other observers felt the experiment would ultimately fail. BNP Paribas analyst Ryutaro Kono wrote in 2013 that by 2015, Japan’s economy would be engulfed in high inflation and huge public debt.

Others called for a change in tact last year; with the IMF’s Deputy Managing Director, Naoyuki Shinohara, claiming as recently as October last year that Abenomics wasn’t working: “Abenomics is not showing the expected results. There had been considerable fanfare about structural reforms and deregulation, but it ended up with no substance”, Shinohara told Bloomberg Business. According to Ayako Sera, a market strategist at Japanese investment firm Sumitomo Mitsui Trust, the difficult economic climate in the country is likely to mean foreign investors stay away from Japanese stocks.

Sera told Bloomberg Business in December that in order for sentiment to improve, a move away from monetary policies was essential. “We need to see a framework where growth isn’t dependent on monetary easing. If not growth, then at least a way to increase productivity. For now there’s nothing like that, so I imagine it’ll be hard for stocks to keep going higher and for foreigners to take an interest in them.”

Despite the optimism seen from foreign investors in 2013 for Abe’s policies, it’s believed that a sales tax hike implemented in April last year led to the economy sinking back into a recession. The consumption tax rise was the first increase in 17 years and an attempt by Abe to bring Japan’s public debt back under control. However, the impact was devastating to the country’s economy, and meant that foreign investors deserted Japanese stocks. Abe delayed a further planned rise in the consumption tax for an additional 18 months.

However, many others believed that Abe’s policies had in fact got the economy growing once again. Marcel Thieliant, an economist at Capital Economics based in Singapore, told The Financial Times in January that despite the improving economic conditions in the country, Japan’s central bank needs to do more to prevent inflation from slowing even further. “The labour market continues to tighten, as the economic recovery is picking up speed. However, the continued slowdown in inflation suggests that the Bank of Japan still has more work to do.”

In December, Thieliant told The New Economy that Abenomics had in fact brought about a period of modest growth, and so abandoning it would be counterproductive. “All in all, Japan’s economy has done fairly well since the start of ‘Abenomics’, considering the sizeable demographic and fiscal headwinds. To the extent that the policy helps eradicate deeply ingrained deflation with all its economic costs, some short-term pain for consumers is surely no reason to abandon it.”

He added, “Japan’s growth performance in recent years has not been as poor as often believed. Most of the growth shortfall relative to other large advanced economies can be explained by the fall in the working-age population, while productivity growth has been fairly strong. Nonetheless, there is still scope to close the sizeable gap in the level of productivity relative to the US.”

Election gives mandate
With more and more people looking for a change in strategy, Abe called a snap election in November in order to shore up his mandate and get ready to implement the third arrow of his reforms. Securing his victory in December, Abe has maintained that he will push ahead with the structural reforms to Japan’s economy that had taken longer than expected during the previous term.

According to some, the election victory has given Abenomics another chance to properly restructure Japan’s economy. Former German ambassador to Japan and academic Volker Stanzel wrote in December that while his first two years of attempting such reforms had been bogged down in trouble, the monetary easing and huge public spending had been successfully implemented.

Stanzel wrote that if Abe fails to push through serious structural reforms that include a series of free trade agreements, he would have put Japan in a worse position than when he came to power. “His election victory now gives him two additional years to achieve what he promised to achieve. If he does not succeed, Japan will be the worse off for it.”

While his efforts to fire off the third arrow of Abenomics in June were delayed by the aftermath of the consumption tax hike, this year will likely see him start again with attempts to restructure the economy. Part of the plans include hefty reforms to the country’s healthcare market, opening it up to outside investment and cutting lots of red tape. There are also proposals to aid both local and foreign businesses by cutting back on overly burdensome regulations. This third arrow will, however, prove most difficult to implement. It presumes that many of Japan’s ageing and entrenched sectors are willing to be reformed, as well as there being a desire to overhaul many of the regulations that have been in place for so long.

Agriculture, labour markets, healthcare and female participation in the markets are all areas that need urgent and ambitious reform, according to Adam Posen, President of the Peterson Institute for International Economics. He told The Financial Times last year that while Abe’s reforms are to be welcomed, the Prime Minister needs to be much more ambitious. “Mr Abe has prioritised a few key reforms – notably increasing female labour force participation, consolidating farms, breaking down labour market divisions and raising competition in healthcare – which are sensible and feasible. The government has not wasted momentum on administrative initiatives before starting its economic reform efforts.” He added, “In short, the Abe government has understood Japan’s economic problems correctly and concentrated its efforts on areas where it can do most good. But the efforts have been insufficient. Far greater ambition is required. True, half a loaf of reform is better than none. But it is probably not enough to return the Japanese economy to sustained strength.”

Moving into 2015 and Japan’s economic outlook has failed to bounce off the back of Abe’s re-election. Inflation fell even further in January to just 0.5 percent, partly as a result of the falling global price of oil. It represents the lowest rise in prices for around a year and a half, and has led to some analysts to predict that Japan might fall back into deflation during this year. Despite this, economic activity has been increasing in Japan, with industrial production rising by one percent and the rate of unemployment falling to 3.4 percent (see Fig. 2).

In a speech in January, Abe maintained that he would be pressing ahead with the third stage of economic reforms. “We will try to quickly implement the economic stimulus package compiled at the end of last year and make Abenomics bear fruit.”

Still, today there remain difficulties facing Japan. While Abe pursues growth for the economy, the country is one with an ageing population. Instead of growth, the country should instead be trying to consolidate the living standards for its existing population. As a result of targeting two percent inflation, living costs are likely to rise while incomes fall, meaning that Japan’s ageing citizens will find things much tougher in the future.

The year ahead is likely to prove one where there are plenty of opportunities for Prime Minister Abe to restore the optimism in the country seen when he took power in 2013 and give a new lease of life to the flagging Abenomics ideology that he stands for. However, the task of undertaking such heavy structural reforms in a country so set in its ways is likely to prove exceptionally difficult.

A history of corporate bribery scandals

Posted on March 6, 2015April 13, 2018 by Ashton Wenborn

In December 2014, former Chief Secretary for Administration of Hong Kong Rafael Hui and Hong Kong property developer Thomas Kwok – one of Asia’s richest moguls – were jailed for bribery. Kwok had made payments totalling more than $4.3m in return for confidential information about construction contracts.

That’s just the latest high-profile case in a string of corruption scandals. It’s a phenomenon that dates back several decades, and one that continues to be apparent across the globe despite action taken to prevent it. Such action includes the Foreign Corrupt Practices Act (FCPA), implemented in 1977 in the US to prohibit bribery, and the OECD Anti-Bribery Convention, implemented in 1999 and since signed by 41 countries.

In spite of those laws, a report by the OECD discovered more than 400 foreign bribery cases closed between 1999 and 2014, over half of which occurred in just four industries: construction, extraction, transportation and IT/communication (see Fig 1). Most were among larger companies – SMEs accounted for just four percent of cases analysed (see Fig 2). A glance at some of the biggest scandals provides further proof of that.

Foreign bribery cases 1999-2014

53%

of cases involved corporate management or CEOs

1 in 3

cases were instigated by self-reporting

2%

of cases were instigated by whistleblowers

75%

of cases involved payments through intermediaries

261 fines were imposed on individuals and companies

69%

of cases were settled with sanctions

15 years

was the longest time taken to reach a sentence in a foreign bribery case

$149m

was the highest amount forfeited by an individual in a foreign bribery case

These bribery scandals have caused reputational damage to the companies involved, but their impact can be much more far-reaching, affecting the economy at large, damaging competition and skewing market dynamics, according to Patrick Moulette, Head of the OECD Anti-Corruption Division. He said: “It distorts investment and the normal way companies do business… There are big economic arguments to fight bribery.”

As the OECD continues to push for governments to fight against the crime on a statewide level, it’s hoped bribery will gradually be combated. For now, however, it continues to be rife. Here are some of the most notable scandals that have ruptured the world of business over the past few decades.

Siemens
German conglomerate Siemens AG – Europe’s biggest engineering firm – was embroiled in the largest foreign bribery case seen in history a few years ago. In 2008, the company – whose services span healthcare, infrastructure, energy and industry – pleaded guilty to breaching the FCPA by bribing officials across four continents to secure government contracts. Bribery payments between 2001 and 2007, the majority of which were made via external consultants, totalled a staggering $1.4bn.

“Bribery was Siemens’ business model,” said German investigator Uwe Dolata, The New York Times reported. According to prosecutors, it’s a model that the company had used ever since shifting its focus to emerging economies shortly after the Second World War ravaged the firm.

Among the biggest examples was a $40m bribe payout to the president of Argentina to obtain a billion-dollar contract for producing national identity cards. Other payouts included $20m to construct power plants in Israel, $16m to build rail lines in Venezuela and $14m for medical equipment in China.

The company’s telecommunications division alone made payouts of over $800m between 2001 and 2007, according to court documents. Executive Reinhard Siekaczek, who worked in the sector, admitted to looking after a yearly bribery budget of around $40m to $50m. “We thought we had to do it,” Siekaczek told The New York Times. “Otherwise, we’d ruin the company.” The division bribed Nigerian officials with $12.7m and gave Bangladeshi officials (including the prime minister’s son) $5m in order to obtain a mobile phone contract.

Prosecutors claimed the numerous cases of bribery had given Siemens an unfair advantage over rival companies, who were unable to secure the contracts for themselves as a result. They added that local consumers in the countries bribed had to suffer the consequences of rising costs for hospitals, roads and other basic services.

As a result of the investigation into the bribery charges, the firm ended up paying a total of $1.6bn in fines in Germany and the US, in addition to a further $1bn in charges for lawyers and accountants carrying out the investigation. A number of executives involved were charged in both the US and Argentina – the highest-ranking of whom was Uriel Sharef, former officer and member of the company board. Siekaczek, meanwhile, was given a $170,000 fine and sentenced to two years’ probation. Unsurprisingly, issuing civil and/or criminal fines has proved the most popular punishment for bribery (see Fig 3), with monetary sanctions peaking in 2013 at $1.2bn (see Fig 4).

Following the case, CEO Peter Löscher hauled in lawyer Peter Solmssen to help salvage the company’s tattered reputation. Solmssen set about replacing the majority of high-level executives and transformed the company culture from top to bottom. According to Moulette, the scandal has – somewhat ironically – allowed Siemens to become one of the most transparent companies globally: “They have a corporate compliance programme which is now recognised as one of the best in the world, so it’s an interesting example.”

Kellogg Brown and Root
In 2009, Texas-based engineering and construction company Kellogg Brown and Root (KBR), along with parent company Halliburton, pleaded guilty to paying government officials in Nigeria in order to win engineering, procurement and construction contracts worth more than $6bn for a liquefied natural gas plant in the Niger Delta. The payments, made to Nigerian National Petroleum Corporation and Nigeria LNG officials, as well as members of the government, went on for a decade and totalled $180m.

Former president Albert ‘Jack’ Stanley and other employees hired two agents as intermediaries to make the payouts. KBR and three other companies involved in the joint venture gave around $132m to a Gibraltar-based consulting company and over $50m to a Tokyo-based global trading firm, according to court documents.

Stanley was sentenced to seven years in jail after pleading guilty to violating the FCPA. KBR and Halliburton were meanwhile forced to pay a total of $579m in fines ($402m, plus a further $177m in disgorgement of profits) – then marking the second-biggest fine in the history of the FCPA, according to FBI agent Andrew R Bland in a statement. In the UK, subsidiary group M W Kellogg meanwhile agreed on a £7m ($10.5m) settlement with the Serious Fraud Office (SFO) over the case.

After the prosecution, KBR made special efforts to bolster its transparency, agreeing to monitor and report back on the implementation of its compliance programme over a three-year period.

BAE Systems
One of the world’s biggest defence companies, BAE Systems was the subject of a high-profile probe over claims the company had bribed foreign officials with payments worth hundreds of millions of pounds to obtain defence contracts in Saudi Arabia, Hungary and a number of other countries in the 1980s and 1990s. The case was believed to have been linked to the £40bn ($61.5m) al-Yamamah UK-Saudi Arabia arms deal – the UK’s largest ever export contract – but the SFO halted that investigation in 2006 out of concerns for national security.

In 2007, BAE found itself subject to six investigations in the UK with regard to deals in Chile, the Czech Republic, Qatar, Romania, South Africa and Tanzania, and the US launched its own probe with regard to the company’s adherence to FCPA regulations.

Some three years later, the firm admitted to having made false statements regarding FCPA compliance, confessing to “intentionally failing to put appropriate anti-bribery preventative measures in place, despite telling the US Government that these steps had been taken”, according to the US Department of Justice (DoJ). It paid $400m in US penalties to settle the case. The company also pleaded guilty to failing to keep accurate accounting records regarding the sale of a radar system in Tanzania in 1999, paying a further £30m ($50m) in a settlement with the SFO in the UK – the largest corporate criminal fine ever seen in the country, according to The Independent.

Since the case, BAE has gone to extensive lengths to turn its damaged reputation around, introducing ethical and compliance plans following an agreement with the DoJ. SFO Director Richard Alderman recognised the progress made: “I am very pleased with the global outcome achieved collaboratively with the DoJ… I’d also like to acknowledge the efforts made by BAE to conclude this matter and I welcome its declared commitment to high ethical standards.”

Moulette believes the case had a resounding impact on the wider sphere, adding that it may well have been a contributing factor to the creation of the Bribery Act 2010. He told World Finance: “It’s interesting how cases can have consequences not only for the companies and for the actors themselves, but also beyond that.”

Lucent Technologies
According to the DoJ, American telecommunications equipment company Lucent Technologies paid for around 1,000 Chinese officials (employed by government-owned telecoms firms) to go to Las Vegas and other destinations in a bid to win contracts on behalf of the company. Lucent confessed in 2007 and forked out $2.5m in penalties, according to The Wall Street Journal.

Then in 2010, after joining up with Alcatel to form Alcatel-Lucent, the company admitted to further allegations, confessing it had bribed foreign officials in a number of firms in countries including Costa Rica, Honduras, Malaysia and Taiwan between 2001 and 2006.

The firm – the largest supplier of landline phone networks in the world – paid $137m in fines after being charged with violating the FCPA. “Alcatel and its subsidiaries failed to detect or investigate numerous red flags suggesting their employees were directing sham consultants to provide gifts and payments to foreign government officials to illegally win business,” SEC Enforcement Director Robert Khuzami said in a statement.

The DoJ agreed to end the case after a three-year period, on the condition that Alcatel-Lucent step up its compliance programme. In response, the company paid an external monitor to keep a check on its anti-bribery compliance and banned the hiring of consultants and sales agents – the intermediaries through which bribery payments had been made. “We take responsibility for and regret what happened and have implemented policies and procedures to prevent these violations from happening again,” Alcatel-Lucent General Counsel Steve Reynolds said in a statement.

GlaxoSmithKline
In September 2014, UK-based pharmaceuticals giant GlaxoSmithKline (GSK) was fined $490m by the Chinese Government after it was found guilty of bribing doctors and hospitals in China – reportedly with cash and sexual favours – to promote the company’s products. GSK made an estimated $150m in illegal profits, the BBC reported, and the fine marked the biggest ever seen in the country’s history. Mark Reilly, former head of GSK’s Chinese division, received a suspended three-year jail sentence and was deported from the country.

GSK released a statement apologising to the Chinese Government, saying: “GSK sincerely apologises to the Chinese patients, doctors and hospitals, and to the Chinese Government and the Chinese people. GSK deeply regrets the damage caused.”

The firm took several other steps in an attempt to save its damaged reputation. That included removing its incentive scheme for sales staff (whereby employees had been paid in alignment with meeting sales targets) and developing a better payment monitoring system. CEO Sir Andrew Witty reduced his bonus by £245,000 ($368,140) in response to the scandal.

According to Mick Cooper, an analyst at Edison, the implications for GSK were significant and the company still has a way to go before its reputation is back to being squeaky clean. “GSK is still in the process of recovering,” he said. “It has tightened up its operating procedures in China to minimise the likelihood of bribery occurring again in China, but the whole case led to a large drop in sales in the country and it will take a long time for GSK to recover its lost market share.” Cooper added that the company has reviewed its operations across the world, particularly in emerging markets, to safeguard it from similar cases in the future.

Titan
San Diego-based defence corporation Titan received what were at the time the biggest fines seen under the FCPA, when it coughed up a total of $28.5m in 2004. The fines comprised a $13m penalty for committing foreign bribery, assisting with a false tax return and falsifying invoices, and a $15.5m settlement with the SEC.

Titan pleaded guilty to bribing government officials in Benin, with the aim of pursuing a telecoms venture in the country and making management fees for it more expensive. The company reportedly funnelled more than $2m in bribes into the 2001 re-election campaign for the president of Benin, Mathieu Kerekou – some of which were reportedly spent on buying t-shirts depicting the president and campaigns slogans. According to court papers, Titan also provided the president’s wife with earrings worth $1,850, The Washington Post reported. The documents added that the money, the majority of which was paid in cash, was invoiced as “consulting services”, with two of the payments sent electronically to an offshore account based in Monaco.

Government officials quadrupled the company’s management fee not long after President Kerekou was re-elected, according to the BBC. The president himself was not alleged to have been aware of the bribes, however.

Titan agreed to be supervised for three years and to follow FCPA compliance rules following the scandal. “We are relieved that this chapter in the company’s history is drawing to a close,” Titan’s Vice-President for Compliance and Ethics, David W Danjczek, said in a statement. “Titan will not tolerate ethical breaches or violations of the law.”

By the time it was resolved, however, the case had already caused significant damage to the company’s reputation and stock. Plans of a $2.2bn buyout by aerospace firm Lockheed Martin had fallen through in June 2004 as a result of the then-ongoing investigation, and share prices plummeted in anticipation of the collapse.

Daimler
In 2010, the German car giant Daimler was charged with bribing foreign officials across 22 different countries. It eventually paid a fine of $185m after two of the company’s divisions pleaded guilty, and forked out a further $500m in accountant and lawyer charges as part of an investigation that went on for five years. The case marked the seventh-largest seen in the history of the FCPA.

The bribery payments, worth “tens of millions of dollars” according to the DoJ, were allegedly made over the course of a decade and had the goal of winning contracts to sell its vehicles in North Korea, China, Vietnam, Nigeria and numerous other countries. As a consequence, the company received over $50m in illegal profits.

This kind of public procurement proved to be the most popular purpose for bribes in the OECD study (see Fig 5). Among the alleged bribes was a €300,000 ($342,669) S-class Mercedes, given to a Turkmenistan official, and $41,000 worth of presents for employees of a government-owned bus company in Indonesia, The Guardian reported when the investigation was still underway.

It wasn’t the first time Daimler had found itself in reputational distress: former employee David Bazzetta, previously an accountant at the firm, had already won a settlement after he claimed he’d been sacked when he questioned the company’s use of bank accounts.

“Using offshore bank accounts, third-party agents and deceptive pricing practices, these companies saw foreign bribery as a way of doing business,” Principal Deputy Assistant Attorney General Mythili Raman of the Criminal Division said, adding that the prosecution “should serve as a message to other companies subject to the FCPA and conducting business around the world that corrupt business is bad business”.

In 2013, seven Latvian officials, including the former transport advisor to the mayor of Riga, were prosecuted for accepting Daimler bribes – totalling €4.3m ($4.8m) – linked to contracts for supplying buses, the FCPA reported.

Kerry Khan and Michael Alexander
These two former US Army Corps of Engineers officials faced hefty prison sentences – 19 and six years respectively – after being at the receiving end of what Emmet Sullivan, US District Judge, deemed bribery on a “staggering” scale. For four years the pair, along with other officials in the group, accepted bribes from contractors who were looking to skew business toward them. Six companies were implemented in the scandal. In addition, the group stole over $30m from the Army Corps via made-up invoices and overstated bills. Kerry Khan, then head of the group and programme manager, received more than $12m in bribes, according to government evidence and reported in an FBI statement. He reportedly used the money to buy everything from real estate to flat-screen TVs and Rolex watches.

Judge Sullivan increased Khan’s recommended 15-year sentence by an additional four years, partly on the grounds of a disturbing SMS conversation where Khan spoke of meeting up with a prostitute aged 15, the Federal Times reported. Sullivan deemed Khan’s behaviour to be “shocking, vicious and cruel”.

“You made history for the wrong reasons,” he told Khan. According to US Attorney Ronald C Machen Jr, the case constituted the biggest bid-rigging and domestic bribery scandal seen in the history of federal contracting.

Futureview: financial services set to soar in Nigeria

Posted on March 5, 2015March 3, 2015 by Ashton Wenborn

After an impressive 5.17 percent rise in the third quarter of 2013, the National Bureau of Statistics reported a year later that Nigeria’s GDP had grown at an annualised rate of 6.23 percent (see Fig. 1), showing, if nothing else, that the country was heading in the right direction. However, the figures in isolation obscure the problems facing Nigeria today, with falling oil prices, currency volatility, heightened political tensions and foreign capital outflows all having short-changed the economy in months past. The economic outlook for the country is therefore a mixed one at best, and with important indicators set to worsen in the months ahead, the coming year will be anything but plain sailing for local firms that refuse to adjust their strategies accordingly.

Still, the financial sector has exhibited impressive gains amid tough economic circumstances, spearheaded by a number of pioneering names that have taken major strides to overcome the aforementioned challenges and set the country on the straight and narrow. “The industry has fared well, as more corporates seek financing for expansion and financing means outside of conventional bank lending, which has become attractive due to the longer tenor, greater flexibility, and mostly lower cost”, says Elizabeth Ebi, Group Managing Director and CEO of Futureview Group.

Bonded in history
The company featured prominently in Nigeria’s investment banking landscape for the last 20 years, and the investment banking outfit was one of two stockbrokers and financial advisers appointed by the federal government to advise on the first NGN 150bn ($833m) bond to the public in 2003. That was the country’s largest ever offering of debt securities at the time, and Futureview is remembered even today for having a hand in a pivotal point in Nigeria’s financial history. Still, the firm’s contributions do not stop there, and the investment bank has since played a key role in supporting the Nigerian financial services sector and wider economy.

Steps taken by policymakers recently have been successful in reducing the banking industry’s exposure to risk, and Nigeria’s banks are in a far more advantageous position today than they were a year ago

“As Futureview basks in its past and present achievements as a company, we realise the importance of the legacy we hold to our customers and the financial industry in Nigeria as a whole. We are committed to excellence in providing optimal service and results to our customers and growing our base beyond Nigeria and into the world”, says Ebi. “After 20 years, we remain one of the best because of our willingness to evolve and adapt to the changes surrounding us.”

The company contributed to raising amounts totalling in excess of NGN 4trn ($23.8bn) in the Nigerian capital market, on behalf of public and private clients, and was co-arranger on raising NGN 82bn ($500m) for Seplat – the first indigenous company to be listed on both the Nigerian stock Exchange and the main board of the London Stock Exchange. “In plain words, we can offer the bespoke, prompt client service that we proudly know of and hone our staff to work optimally for the client’s success first. We strive to explore the in-depth needs of our clients when it involves their investments and position ourselves to be their solution provider or at the very least, their first point of consultation towards financial success.”

The harsh truth of the matter, however, is that Futureview is based in a Nigerian economy where change is constant; where currency shifts are volatile, oil prices are low and civil unrest is threatening to destabilise the market. “All this has led to significant volatility in investment assets and the performance of economic indicators for the period”, says Ebi. “The benchmark oil price for revenue projections in the budget for 2015 was twice reviewed downwards by the federal government, with proposed reductions in infrastructure development and capital projects.”

On the upside, steps taken by policymakers recently have been successful in reducing the banking industry’s exposure to risk, and the country’s banks are in a far more advantageous position today than they were a year ago. The Central Bank of Nigeria’s (CBN) contractionary monetary policy and improved initiatives to facilitate growth in agricultural production have each stemmed the country’s decline by keeping to the bank’s single digit inflation target – 7.90 percent as of November 2014.

At the CBN’s most recent Monetary Policy Committee (MPC) meeting, held on November 24 to 25 last year, the benchmark interest rate was increased to 13 percent from 12 and the Cash Reserve Requirement (CRR) for private sector deposits was increased to 20 percent from 15, while that of public sector deposits was retained at 75 percent.

No room for complacency
Ebi also highlights that the exchange rate was moved from NGN 155 against the dollar to NGN 168, and the band around the midpoint was also widened by 200 basis points from +/-three percent to +/-five percent – a decision that formed a major part of the CBN’s plans to stablilise the domestic currency, curb excess liquidity in the system and encourage real sector lending. While the economy is still struggling to realise its full potential, the reforms made by the government and central bank bode well for Nigeria’s future prosperity.

Even still, the economy is expected to encounter a number of challenges in 2015, and proposed reductions in government expenditure, particularly in regards to infrastructure development and capital projects, together with stricter liquidity requirements and elections in the first quarter, are likely to undermine economic growth. Therefore, in order for companies like Futureview to weather this rocky outlook, they must adjust their strategies accordingly and look to bolster their products and services on offer.

“Futureview contributes to the Nigerian economy by facilitating this growth and development in the public and private sectors”, says Ebi. “The company contributes directly in a number of ways. By building human capacity and building resource capacity through access to cheaper funding for all levels of government and economic endeavours, especially infrastructure; by providing innovative capital raising means and corporate and financial advisory services; by acting as a liaison and providing a platform for foreign investors with portfolio investments, as well as sourcing them to lucrative projects or funding opportunities for select government initiatives; and by bringing new and existing companies to list on the exchange.”

In keeping with the rate at which Nigeria’s financial services are evolving, Futureview has, after 20 years in the market, decided to embark upon a major rebranding process. “Our decision to embark on this rebranding heralds a new phase of business model restructuring and process automation to improve efficiencies for the timely delivery of exceptional value to our clients”, says Ebi. “We will continue to evolve our service as well as products and processes to ensure that the high standards of service we pride ourselves on delivering to our clients will reach even greater heights. We are confident in our quest to sharpen our competitive edge.”

The firm’s focus does not rest simply with Nigeria, and Futureview’s decision to rebrand is rooted in its wider ambitions to boost its presence in the continent and beyond. “Further expansion always means altering processes, changing roles and most often the personnel administering the expansion efforts. Change can be good and in our case very necessary, but it can also be uneasy knowing sometimes you may tread in unfamiliar terrain. But with new challenges also comes an opportunity to learn and grow, and we most certainly embrace it”, says Ebi. “Even at the current point of our rebranding exercise, we are boldly coming out of the financial turmoil since 2008.”

As it stands, Futureview has branches in Lagos, Abuja and Port Harcourt, which have each been chosen as strategic commercial locations within Nigeria that allow the firm to better serve its clients and introduce new business opportunities. Beyond Nigeria, the company has close ties with partners in Ghana, South Africa, Ethiopia and Tanzania, with a strong regional presence. However, Futureview’s ambitions are far from confined to its own continent, “we aspire to grow and establish a stronger physical presence in those countries and span across to other parts of the world,” says Ebi.

“Futureview aspires to be named among the best investment banks in the world. When it is all said and done, the company should always be named the first in the African continent and consistently among the top five in the world.” In the coming year, the firm will continue its strategic efforts to serve its home base while also gaining ground in upward trending, economically sound African nations. By also forming partnerships with ‘high interest in African investment’ countries, particularly those in Europe and Asia, Futureview will be looking to lead by example and show that, while Nigeria is perhaps not the brightest economy, its financial services sector should be recognised among the world’s best.

For further information visit futureviewgroup.com/financial-services/

A Texan recession is on the horizon thanks to oil price drop

Posted on March 5, 2015April 13, 2018 by Ashton Wenborn

It was all going so well. Contributing 35 percent of all US crude oil production in 2014, Texas – the oil capital of the US – has long enjoyed a thriving economy as a result. Many argue that the state largely carried the US out of the depths of its economic crisis on the legs of an energy boom: one in seven jobs created in the 50 months following the recession were in Texas, and unemployment in the state is a whole percentage point lower than the national average.

But as oil prices threaten to fall below $40 a barrel after nearly five years of stability at around $110, economists have warned that 2015 could be when it all crashes and burns. While the rest of the world rejoices at the reduced cost of heating their homes or filling their cars, energy-export-dependent regions like Texas have been hit by significant revenue shortfalls.

“While the overall US economy is going to be affected in a positive way by the fall in oil prices (see Fig 1) – household income will rise overall – in places like Texas, the impact is certainly going to be negative,” said Paul Dales, a senior US economist at Capital Economics. “This is simply because so much of their money is dependent on the oil industry. Employment will likely fall, household income will shrink, there’s going to be fewer jobs and it’ll hit the housing market too.”

The oil and natural gas industry makes up a significant chunk of the US economy: it contributes around $1.2trn to GDP per year and supports more than 9.3 million permanent jobs, either directly within the sector or as a result of the multiplier effect on local economies, according to a study by the Perryman Group. And that multiplier effect is not to be underestimated – the American Petroleum Institute found that each direct job in the oil and natural gas industry supported approximately 2.7 jobs elsewhere in the US economy in 2011.

From boom to bust
The luxury homes market has been thriving in Texas for years, particularly in areas with a high concentration of well-paid energy sector jobs. Wealthy Houston residents purchased 1,194 homes valued at $1m or higher in 2014, up from 688 five years prior and a 13 percent increase from 2013, according to a report by the Texas Association of Realtors. While the highly skilled, highly paid jobs are the safest in case of a downturn, instability is bound to be on the minds of potential buyers. For example, a buyer eyeing a $3m property may opt for a $1m property instead, as a safer option.

Now predictions for job growth in the Houston area have been halved from last year, and cuts have already been announced by some of the leading oil producers in the area – Baker Hughes and Schlumberger have axed 7,000 and 9,000 respectively. More are expected well into 2015, and this kind of activity has made analysts justifiably uneasy.

Fracking in the US has boosted oil production by

90%

since 2008

US oil demand growth was

1%

in 2015

Average oil price per gallon was

$2.60

in 2015

Which gives consumers an extra

$60bn

to spend in 2015

Source: CNN

In December, JPMorgan Chase’s Chief US Economist Michael Feroli warned: “We think Texas will, at least, have a rough 2015 ahead, and is at risk of slipping into a regional recession,” CNN Money reported.

But while some especially nervous market-watchers throw around speculation that the state could soon see another 1980s-style crash, when oil prices completely folded and the Texan economy was hit hard as a result, such extreme predictions are largely unfounded. Aside from that being the last time such a drastic price tumble took place – the price of oil has fallen by more than 40 percent per barrel since June 2014 – the similarities tend to end there. Not only did the price of natural gas also fall in 1986 – which rapidly exacerbated existing revenue shortfalls – but since then, the state has endeavoured to learn from the past.

Following the painful recession of that period, Texas sought to diversify its economy so as to be less dependent on an occasionally volatile commodity like shale gas. Now, it’s attracted workers from other industries including medicine, finance, education and technology. Dallas Fort Worth’s office rental market is now more saturated by tech companies than any other industry. Furthermore, the oil sector has come a long way in those almost-30 years, having undergone significant technological changes that have increased both the efficiency and profitability of extraction. When the 1986 crash happened, the effect couldn’t be prevented from seeping into the real estate market: home prices dropped 14 percent from their peak, with Houston, the most energy-concentrated area, hit the hardest. Housing permits nose dived a drastic 75 percent in the months following.

Admittedly, it might not be a dramatic crash echoing that of 30 years prior. But even so, the price has tumbled by more than 40 percent in a worryingly short period of time, and that simply cannot be ignored. “There are some reasons to think it may not be as bad this time around, but there are even better reasons not be complacent about the risk of a regional recession in Texas,” Feroli added.

While most markets remain relatively untouched at this point – real estate firm CBRE claims a strong fourth quarter in 2014 for both the residential and commercial real estate sectors – most are bracing for a tumultuous 2015. The cracks have already begun forming: evidence from the Houston Business Cycle Index shows growth to have slowed from 7.4 percent in October to six percent the following month. An excerpt from the report reads: “Lower oil prices and declines in drilling activity will likely take considerable steam out of the region’s economic engine in coming months. While prospects for the Houston region are more uncertain, the outlook is for positive, though weaker, growth.”

Keeping a watchful eye
Although warnings of a recession may be somewhat premature, the Lone Star State is certainly one to watch in 2015. Sara Rutledge, Director of Research and Analysis at CBRE and based in Texas, says that her team is keeping a close eye on the real estate market for energy-related headwinds, as they expect firms to be cutting capital expenditure and potentially streamlining their workforces.

Forecasts vary drastically. Credit Suisse warned that new-home construction could tumble by as much as 20 percent in Texas this year, while Rutledge said the figure is between two to three percent, due to the ideal position the market already finds itself in. Quarter after quarter of unabated growth in the residential real estate market has prepared it well for an eventual slowdown.

“We’ve been growing at an incredibly robust pace on multi-family rentals, at eight to 10 percent for a few years now, so we had expected that to slow down anyway, as that momentum is simply not sustainable,” Rutledge added.

According to Rutledge, the minimal impact on growth thus far is due to supply never having been able to catch up with demand throughout the industry’s peak. While six months worth of property supply is the standard recommendation for a healthy inventory, for single-family homes, Texas’ stands at three months even now. That figure drops to 2.7 months in Houston, where the highest concentration of energy companies can be found, so a decrease in activity will take even longer to throw that market into turmoil.

It may not be such a breeze for commercial real estate, however. Despite the sector also coming in to 2015 fighting with the strongest net absorption since 1997 and 5.5 million square feet of office space leased across the state, Rutledge does anticipate some fallout from the drop in oil prices in the near future. This is expected in both leasing and construction – more office space is currently in construction in Houston than anywhere else in the US, and if companies begin downsizing their operations, those new spaces will only further flood the market.

The missing detail
When considering the job cuts that have already announced, it’s important to remember that a Halliburton-Baker Hughes merger was announced in November 2014, valued at $34.6bn. Based on combined revenues, the deal will create a new company – which will trade as Halliburton – worth $67bn and with 140,000 employees. It’s undoubtedly a massive deal, but still only makes the new entity half the size of industry leader Schlumberger, which has a market capitalisation of $125bn.

What fervent analysts are failing to acknowledge, however, is that the majority of these job cuts are likely to be as a result of the merger, as opposed to falling revenues. The counter argument is that the deal itself only took place because the sudden drop in prices caused the two companies to panic: it will insulate the two from a slowdown in drilling, and may allow them to keep prices slightly higher than if they were in competition with each other.

Halliburton derives around half of its total revenue from North American operations, so a bit of nervousness is to be expected. But the more likely argument is that as the two companies have a considerable overlap in their key product segments and similar geographical footprints, it’s an ideal opportunity to cut costs and improve profit margins as a result. Halliburton estimates that the combined entity will yield annual cost synergies of around $2bn, in fact.

Plus, as Rutledge pointed out, just how many of those cuts relate to Texas-based roles has yet to be announced. In December, Halliburton said it was slashing 1,000 jobs in its Eastern Hemisphere offices amid tumbling global oil prices, affecting Europe, Asia, Africa, the Middle East and Australia, yet leaving the Americas untouched. Further takeovers are anticipated in the future, as falling prices put increasing pressure on exploration companies to cut their capital expenditure and eliminate competition. The extreme result of that would see a very limited number of gargantuan companies controlling the entire global energy market; a worryingly dystopian image, and certainly one that anti-competitiveness watchdogs will be working hard to avoid.

An alternative way of looking at the sudden drop in prices is that it could give the energy industry the makeover it needs. For decades now, a shortage of engineers and similarly highly skilled workers has seen oil companies awarding obscene bonuses and offering unfathomable benefits packages to its employees in an attempt to win over the strongest talent.

Perhaps the reduced revenues for these companies will come as a blessing in disguise, allowing them to better consolidate their outgoings. Even so, whichever way you look at it, paying staff less will have an adverse effect on household income and therefore overall domestic spending.

While the energy sector plunges into an uncertain future and a likely state of turmoil for 2015, Texas has successfully spent the last few decades shielding itself from such downturns. A slowdown can certainly be expected, and some sectors will be hit harder than others, but a strong performance from the wider US economy combined with other thriving industries within the state should help it weather the storm with minimal damage incurred.

How banks are leading the push for diversification in the Gulf

Posted on March 5, 2015April 19, 2018 by Ashton Wenborn

The banking sector in Kuwait remains solid, robust and unaffected by regional events, due in part to the accomplishments of organisations such as Kuwait International Bank (KIB). Its CEO, Loai Muqames, has overseen a successful growth strategy characterised by consistent profit increases and asset value, a flourishing branch network, and corporate restructuring that assisted in making it one of the country’s leading organisations.

Second only to the oil industry in terms of economic importance (see Fig 1), the banking sector has posted steady growth since the global recession of 2008 (see Fig 2). Kuwaiti banks have also benefitted from high liquidity and enjoyed above-average capitalisation relative to the global standards set by Basel III, with the first half of 2014 seeing Kuwait’s banks earn record profits that accelerated even further in the second half of 2014.

The Kuwaiti banking industry comprises 10 fully fledged banks, one specialised industrial bank and 12 foreign banks. These institutions have shown that they can compete in the international market, becoming highly innovative lenders that offer a diverse selection of financial products on par with international standards. The operating environment can be described as low risk thanks to the country’s central bank regulatory role and conservative approach, while exceptionally high asset quality, a steady reduction in non-performing loans and continued profitability reflect the strength of the Kuwaiti banking sector.

Kuwait’s oil and non-oil revenue shares

92%

Oil revenue

8%

Non-oil revenue

Source: KIB. Notes: 2013 figures

Up 8.7%

In Kuwait’s Islamic banking assets

Up 11.2%

Islamic deposits

Source: The Banker. Notes: 2013 figures

“Stress tests conducted by the Central Bank of Kuwait have shown that Kuwaiti banks are more than prepared to weather potential shocks should they arise,” said Muqames. “I am delighted to say that KIB is no exception, with Fitch Ratings having upgraded our bank’s rating to A+ at the beginning of 2014.”

Low-risk banking
In order to provide further stability to the Kuwaiti banking sector, the government has taken concrete steps to attract foreign investment by means of greater controls. Increasing transparency and regulations have been a prime goal of the current administration, with the formation of the Capital Markets Authority (CMA) to regulate equity markets and the Central Bank of Kuwait exercising greater oversight over the financial industry. Kuwaiti banks are also cooperating by tackling money laundering, terrorist financing and other issues targeted by the Kuwaiti Government.

All this has helped shift market preference towards Islamic banking in recent years, as witnessed in many parts of the world. The growing adoption of the Islamic banking model has illustrated the strong national demand for products and services that are compliant with Sharia law, with Islamic banking assets now growing at a faster pace than the overall banking sector – a trend that is expected to continue into 2015.

Despite a highly competitive operating environment, Kuwaiti banks enjoy a prized position as key players in the country’s monumental development plan. “We expect local banks to continue adopting universal banking standards while further developing their retail, private and corporate banking services”, adds Muqames. “Kuwaiti banks also pose to benefit from international expansion as this will diversify risk, increase returns and ultimately raise their share values.”

Muqames attests that KIB has managed to remain competitive by focusing on the bank’s status as a transaction and profit-oriented institution. “KIB professionals are highly effective in identifying and pursuing transactions, which we know will provide a competitive advantage”, explains Muqames. “We operate based on a deep understanding of these transactions, their risks and our ability to properly mitigate them. Additionally, we are keen on identifying and exploiting unmet needs in market segments which competitors have not yet sufficiently entered. These factors all contribute to KIB’s continued high returns.”

Cross-department collaboration
Internally, the structure of KIB is designed to ensure high levels of collaboration and information sharing among all its different banking divisions, allowing each to make attractive value propositions to its broad range of clients. Muqames gives one example of the benefits gained from this sort of collaboration, which can be seen in its International Banking Group, through the provision of correspondent financial services, syndications, commodity trade finance, treasury services and corporate banking, providing the institution’s clients with immediate access to the complete range of banking services associated with a fully fledged bank.

The agile nature of KIB, therefore, allows for customised offerings that include various types of wholesale facilities, retail banking for employees, foreign exchange, flexible asset financing, real estate appraisal, and even property management if required. “It is through this integrated approach,” said Muqames, “that we have succeeded in cementing a reputation as a reliable partner with powerful capabilities for clients of all sizes.”

Another key factor in the bank’s success in the eyes of its CEO has a great deal to do with its corporate culture. Over the years, it has made efforts to develop a customer-centric approach that has been set up in order to effectively deal with the complex nature of the current local market. KIB prides itself on taking note of its customers’ needs, and responding to them in an efficient manner through target-specific products and offers.

In the same stroke, it continues to invest in human capital to ensure that its team has the best experience and expertise to scale the business to new heights. This is achieved by maintaining its search to recruit from top talent pools in the local market and abroad. A considerable number of young graduates are returning from top-tier universities in the US, Europe and Canada, and are able to pair their experiences of living in a western society with long-running Kuwaiti traditions of relationship building and hospitality.

KIB has managed to cultivate a culture among its employees that offers transparency and performance, along with a defined career path, ongoing training and development, as well as a host of attractive rewards to ensure that it not only hires top talent, but is able to retain it too; something that is increasingly important in today’s market. At its core, the bank’s human resources objective is to establish KIB employees as model Islamic bankers.

Knowledge sharing is encouraged to engage the many banking experts working full time at KIB, organising regular in-house seminars on topics ranging from financial contracts to healthy living habits. Moreover, it has implemented a talent management programme to identify and nurture outstanding performers already within the organisation. The approach provides KIB with a sharp competitive edge that would be costly for competitors to try and imitate.

Government connections
KIB is also taking steps to increase awareness of its status as a reliable partner in the Kuwaiti market. This effort involves a dedicated unit within the bank tasked with building bridges between KIB and the many mega-projects being floated by the Kuwaiti Government.

Its team leverages the bank’s longstanding relationships with top governmental and commercial bodies in a bid to better identify ways to facilitate business in Kuwait for its clients. It does this by maintaining a constant contact not only with the main governmental institutions, but also with other ministries, local and international contractors and the foreign banks that support them. Part of being a successful Islamic financial institution involves supporting the local community in a meaningful way. As KIB began to penetrate new banking frontiers in 2007, its capacity to do so grew substantially, permitting KIB’s aggressive support for local SMEs – which are recognised as having a strategic economic importance for the nation – through products tailored specifically to their needs.

“We recently took the opportunity to chair the fourth annual SME Forum for Arab countries, a leading platform for discussing challenges and opportunities facing the region in terms of advancing SME development,” explained Muqames. “KIB is also highly active in its social responsibility role. From this perspective, we have adopted a unique youth-focused social responsibility programme [which aims] to prepare the youth segment for [its] vital role in shaping Kuwait’s future.”

This altruistic culture at the heart of Islamic finance has been taken to new heights by KIB, as it has partnered up with a UNICEF-affiliated organisation to develop special educational sessions on topics such as the purpose of money in society, distinguishing between saving and spending, and educating the public on how to invest money wisely. KIB regularly sponsors and participates in youth development programmes in Kuwait, which is of particular interest to KIB since a large percentage of the local population is under the age of 25.

Muqames told World Finance: “Looking back, long before our 2007 conversion into an Islamic bank, we have always benchmarked our business success to the bank’s involvement in Kuwait’s economic development initiatives and, since our establishment more than 40 years ago, we have built a unique heritage as a national pillar in the banking field: a crucial area for Kuwait’s efforts to diversify its economy beyond oil and gas. Our real estate appraisal division became a key reference for numerous governmental authorities, banking institutions, investment and real estate companies.”

In 1986, the division gained central bank approval to appraise real estate debt settlements, rendering KIB one of the few entities in Kuwait capable of providing such a service. KIB has made itself an essential pillar within the economic machine and simultaneously helped it secure close ties within the government as a result of this unique position.

KIB is also helping to strengthen Kuwait’s ever-important position in the regional Arab banking arena, with its chairman, Sheikh Mohammed Jarrah Al-Sabah, representing Kuwait at the Union of Arab Banks, having gained multiple recognitions for his contribution to the regional banking sector, including the Arab Golden Coin – Pioneer in Banking and Business Leadership and Outstanding Contribution to the GCC Economy Awards.

Converting to Islamic finance
The move from real estate specialist to fully fledged Sharia-compliant institution was conducted through careful assessment of the long-term trends in both the Kuwaiti and regional markets, before the bank concluded that the Sharia model would best serve its growth aspirations. By moving forward with the decision, KIB ventured into unchartered territory, as there had previously never been a case where a specialised conventional bank had managed to transform into a fully fledged Islamic bank. Being a bank that thrives on challenging itself, KIB was eager to break new ground.

The conversion to Islamic finance was initiated in early 2007, immediately preceding the global financial crisis that so dramatically shook the industry. “The emerging operating environment characterised by volatility and uncertainty only reinforced our belief in the wisdom of adopting the Islamic banking model, hence KIB accelerated the transformation process to fill new gaps created by the crisis,” explained Muqames.

“Diversification into the retail sector took priority with the launch of standalone retail banking operations. While financial institutions were conducting layoffs, KIB was pursuing an aggressive recruitment campaign aimed at acquiring top talent from Kuwait and abroad. In this respect, we could not have chosen a more ideal time to make our transformation.”

Embracing advancements in technology – particularly the implementation of social media – is crucial for all businesses that hope to keep up with market trends and customers. For KIB, technology has proven indispensable in its efforts to become a more customer-centric and responsive bank. It has invested in a unified CRM system aimed at enriching, better managing and extending its entire customer lifecycle.

Since adopting this tool, the quality and efficiency of the bank’s customer service has dramatically increased, while its CRM system has allowed for more effective cross-selling, in addition to aiding product development and acting as a key reference for marketing purposes. “We utilise social media to keep our finger on the pulse of the market, obtain honest feedback from our customers and pinpoint areas for improvement. We oversee a dedicated digital team who works closely with all departments to integrate our digital presence with the core of the organisation,” said Muqames. “Social media in particular has proven useful in generating valuable word-of-mouth brand promotion among customers. As this medium matures, we anticipate additional benefits for banks that are able to harness social media correctly.”

Technology has also been at the forefront of KIB’s banking channel development strategy, which works to maximise access and convenience for its customers, taking numerous steps towards enhancing its ATM systems and the digital facilities on offer for its customers. Having fully embraced mobile banking, a tool that customers now see as essential, KIB has taken it one step further: it has managed to look beyond just the standard app by taking a cross-channel approach, allowing customers to do more than access their information. For example, KIB has chosen to partner with Kuwait’s telecoms providers to offer SMS banking for those account holders without a mobile internet connection. These are important steps for further penetrating the retail sector, because they demonstrate to customers that KIB is flexible to their needs and cares about their convenience.

The bank has successfully utilised technology to streamline many of its processes, improving efficiencies and bolstering response time. For example, its finance tracking systems have decreased decision-making time for financial inquiries while helping reduce the number of non-performing loans on its balance sheet. The bank is also capable of developing new useful key performance indicators for staff performance in ways that were previously out of its reach, as a direct result of implementing new systems.

Process optimisation, particularly of those processes related to compliance and risk, has been a priority for the organisation, with its IT department moving to automate several otherwise time-consuming and often costly operations with the help of recent technological developments.

However, with automation comes an underlying challenge: security. “We recognise this and, therefore, have brought our information security systems up to speed with the latest global developments,” said Muqames. “With assistance from international specialists, we ensure that the integrity and confidentiality of our customers’ data are secured at all times. In this respect, KIB was among the first banks in Kuwait to attain Payment Card Industry Data Security Standard 3.0 certification by SISA following a meticulous audit of our systems.”

Kuwait in numbers

$42,038

GDP per capita (PPP)

56%

Gross national savings (% of GDP)

$63.3bn

Current account balance

20.5%

Investment (% of GDP)

Source: IMF. Notes: All figures 2015 predictions

Going forward
The global financial crisis significantly disrupted the banking and financial sectors of Kuwait, offsetting the large gains that were made during previous periods. Falling asset prices have had a negative impact on balance sheets, and several institutions within the country faced rising numbers of non-performing loans. Banks were forced to set aside large provisions that strengthened their financial positions going into the post-crisis period. Kuwaiti banks also benefitted from a central bank guarantee on deposits aiming to promote confidence in the minds of customers and depositors.

However, KIB did not face significant problems during this period, despite also being in the midst of its transformation from a conventional bank to an Islamic bank. It even managed to post minor losses, and eventually made a full recovery in 2010. The primary factor for its successful ride through the economic downturn that spelled disaster for so many other institutions the world over is due, in part, to its solid financial standing going into the crisis, coupled with having already adopted the prudent policies required by Islamic Sharia.

“In our view, the Islamic banking framework provides a natural advantage against macroeconomic shocks due to its inherent emphasis on transparency, minimal use of leverage and asset-based finance,” said Muqames. “Credit is also due to KIB’s exceptional leadership at the time for navigating the bank through the most acute period of the crisis. Our senior management, which I was not yet a part of, not only succeeded in adapting the bank’s strategy to fit with the new operating environment, but they instilled confidence among all KIB employees which I believe serves as the primary test during a crisis.”

Not one to dwell on past accomplishments for long, KIB has and is still investing in those sectors related to the $100bn government-funded national development plan that is currently in motion. These sectors include infrastructure, oil and gas, energy, and real estate. “KIB possesses numerous distinctive capabilities in its arsenal which I am pleased to report are greatly benefitting the investment positions of the bank,” explained Muqames. In terms of banking sector growth, KIB’s investment strategy has targeted the international, investment and retail banking sectors, with the former primarily operating in the commercial sphere. Its dedicated international banking team is focused on establishing KIB as a partner for international companies wishing to conduct business in Kuwait.

“The past 12 months have seen the Islamic bank enhance its correspondent banking capabilities following the sharp increase in the number of lines of credit between KIB and international banks,” said Muqames. “On the retail side, we see significant room for growth despite tough domestic competition. KIB is expanding its branch network to extend reach into new target markets.”

Proper segmentation and tailoring innovative products and services to meet the needs of these markets has fuelled KIB’s success in this area, and 2015 looks set to be another busy year for KIB as it plans to acquire an ever greater share of the market as a fully fledged Islamic finance institution.