JEDDAH — A flurry of merger and acquisition activity among Gulf Cooperation Council (GCC) banks has emerged in recent months, and this is credit positive for the region›s banks, Moody’s Investors Service said Tuesday.

Consolidation is being driven by a combination of lower oil prices, which have slowed economic growth, and stiff competition as numerous banks serve small populations. “We believe the trend will be beneficial for the sector, boosting profitability through operational synergies and giving the banks greater pricing power.”

Moreover, the report said sluggish and concentrated with a few large depositors dominating the market. In most GCC banking systems the government is the largest depositor and, together with related government bodies and service providers, in some countries contribute half of total deposits. As oil prices declined in 2014, some governments tapped into their deposits to fund their deficits creating funding shortages for the banks. In response, the banks started increasing deposit rates to attract more deposits. Additionally, interest rates in the GCC were also rising due to hikes in US Fed rates owing to the currency pegs. As a result, funding costs increased for the GCC banks. Recent oil price rises and international debt issuances by some governments have largely eased funding pressure. Despite that, competition remains high as the GCC governments are still away from the prior period (pre 2014) surpluses which drove strong deposit and credit growth.”

Banking sector growth is largely dependent on GDP growth and government spending in these economies. Low oil prices in 2014 and through 2016 hit government budgets and slowed economic growth across the region, intensifying competition for deposits and borrowers, consequently dampening GCC banks› profits.

“Consolidation across the region is being fueled by slower economic growth and subdued credit demand since oil prices fell in 2014. Growth in the GCC banking sector is largely linked to oil prices as hydrocarbon revenues - a primary source for government revenues - support the government spending which drives economic growth,” the report said.

Oil prices started to decline in 2014, falling below $30 in January 2016 before recovering more recently. In some instances, GCC countries have cut oil production to support prices and as a result real GDP growth has slowed down markedly across the region, culminating in a contraction in 2017 in some countries. Our current oil price forecasts assumes spot Brent crude will average $75/bbl in 2019 and $65/bbl in 2020, below the $55/bbl level at which spot prices started the year.

Too many banks often serve small populations in the region. Many banking systems in the GCC are also dominated by a few large banks with a large number of smaller banks competing for the rest of the market.

Most GCC banking systems are heavily reliant on government deposits and competition is high, resulting in pressure on margins. Consolidation will result in the banks having greater pricing power. Mergers will improve profitability in the long run. Despite integration challenges in the early stages, merged banks will gain market share, and benefit from greater pricing power and cost synergies.

“Despite economic recovery across most Gulf regions and positive growth forecasts for 2019, we expect further consolidation following the completion of deals currently in the pipeline,” Moody’s said. — SG