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Bank performance can be viewed from two perspectives. The first is from the perspective of bank profitability, liquidity, and solvency, or financial performance. The second is from the perspective of bank effectiveness in fulfilling their intermediation function in financing the economy and providing inclusive banking services, or economic performance. This Part VI of this seven-part series on Arab banking examines financial performance.

A major aspect of bank performance is the ability to manage credit risk in order to limit the relative size of nonperforming loans (NPLs) and cope with calls on their liabilities under various circumstances. Minimum capital requirements are meant to act like general reserves that would enable a bank to cope with shocks not specific to a particular asset. Provisions for nonperforming loans are tied to the concerned loans and are idiosyncratic to a particular asset.

Banks in the GCC area and Morocco appear more robust than those in the rest of the Arab countries. On average, Arab countries have higher ratios of NPLs than middle-income countries (MICs) or the world average, or comparator countries such as Malaysia or Turkey. At the same time, the average provisioning ratio for Arab countries is lower than for MICs, but higher than the world average. Variations are significant across Arab countries. Egypt, Oman, and Saudi Arabia have the highest ratios of provisions. Non-GCC Arab countries have capital adequacy ratios at or below minimum requirements, as well as below the world average or that of MICs.

Arab banks appear more cost efficient than the average for MICs or the world. Banks’ overhead costs to assets and banks’ costs-to-income ratios are lower than the average for MICs or the world. Among Arab countries, GCC banks would on average be more cost efficient than non-GCC banks. Moreover, spreads between deposit and lending rates are lower than the average in MICs or the world, but roughly double the average in Malaysia. Again, the spreads are lower on average in the GCC country banks. The foregoing spread features seem to carry through to net interest margins that are smaller than world or MIC averages. Finally, noninterest income in Arab countries is in line with world and MIC averages, with GCC country bank ratios lower than those in non-GCC countries and the rest of the world, except Malaysia.

Before and after tax returns on asset performance of non-GCC banks are generally poorer than for MICs, and the world averages and well below results for Malaysia or Turkey. Returns for the GCC country banks are higher than world and MIC results, below Malaysia’s both before and after tax, but below Turkey’s only before tax. The latter outcome reflects that the low GCC country tax rates more than compensate the difference in before-tax results between Turkey and the GCC. Before-tax returns on equity in non-GCC countries are close to the world average and a little lower than outcomes in MICs. However, higher tax rates than in the rest of the world adversely affect the relative performance of after-tax return on equity. The high taxation in Egypt, Morocco, and Tunisia creates a significant wedge between before and after tax results and the countries’ relative performance in the world. Implicit taxation is nil or very low in GCC countries—well below world averages and in the range of 22 percent.

Given the mixed financial performance between GCC and non-GCC banks, the last installment of this blog series examines the economic performance of the Arab banking sector in providing intermediary and inclusive banking services.

Read Part I, Part II, Part III, Part IV, Part V, Part VII

Wafik Grais is an International Senior Adviser specializing in Islamic finance, financial regulation, investment financing, private equity management, and corporate governance with expertise in SMEs and green growth financing. He was co-founder and chairman of Viveris Mashrek, a Cairo-based, financial advisory services company specialized in private equity investments in SMEs, licensed by Egypt's Financial Supervisory Authority. He spent 28 years in international finance notably with the World Bank in Washington DC where he held several senior positions both in operations and at corporate levels. He holds a Ph.D. in Economics.