No one can deny that the past few years have been hugely challenging for the very structure of capitalism. Deutsche Bank’s Middle East chief offers his perspective on the bigger picture.
Many observers believe capitalism is going through a crisis. Do you agree?
I disagree and don’t think we can call it a crisis of capitalism, but it is going through a period of intense questioning, and will emerge stronger from it.
In the past many emerging markets were linked to state-centered socialist systems and were not successful. The downfall of communism a couple of decades ago in stark comparison to the success of the G7 and East Asian Tiger economies provided the basis for a growing preference for market based models, deregulation of markets and liberalisation of trade. This was accompanied by globalisation in financial and corporate markets.
This has had a good 15-20 year run and it is generally acknowledged that it has contributed to growth of the emerging markets and a more integrated and expanded global economy. But consequently some excesses and imbalances have also been built up over this period. The world is dealing with these pent up faultlines now.
Very few decision makers are talking about abandoning free market models, but the discussion centres more around fixing some of the excesses, global re-balancing and creating a regulatory framework which takes into account what we have learnt more recently.
Of course views on such topics are not always homogenous and it takes time to build consensus, which is natural. In fact that there is broad awareness that ensuring progress in maintaining an open global trade system is even more important now.
What are the stresses you detect in the system now?
The biggest critique of the current system of doing business is that the benefits of the good years have not been shared fairly, inequality in labor markets has grown, and a small percentage of the world population with tight networks have benefited disproportionately from globalization and free markets.
There is also a general undefined feeling amongst many political leaders that financial markets have become too powerful and could have acted with greater responsibility. All this is happening at a time when social welfare benefits are under stress in advanced economies, especially those which have trailed in terms of productivity and have built up unsustainable social benefit models in relation to their public revenue base.
In emerging markets, inflation caused by rising commodity prices have contributed to political stress and corruption has contributed to a sense of injustice. We have to take these concerns seriously and need to have an open discussion on a factual basis and remain open both to learn and explore what changes are needed to ensure sustainable growth and social stability.
I don’t believe the world is better off moving to a highly nationalised system of business or trade, in fact it will be significantly worse off.
Generally and even empirically speaking, market models based on the rule of law and sound institutions of justice, when combined with a liberal trade system have been more beneficial than harmful since the end of the second world war.
What’s your overview of the European situation?
Some of the things various governments are being asked to do now may be politically difficult but necessary for the long term sustainability of the European model, which has contributed to the longest period of peace and prosperity in the continent, and has also given them more leverage in the global system.
The markets will continue to exert pressure with regard to sustainable government finances and the health of the banking system.
Take Italy for example. We were and still are in a situation where there is excess of public debt in a country with immense private wealth. As this situation gets re-balanced, in two to three years, sovereign balance sheets will be looking better again and this will also make the banking system healthier.
The markets are already distinguishing between the different European countries, instead of painting it with one broad brush, which was a problem earlier last year. The situation in Italy, Spain, Ireland and Greece are very different. Ireland has already made progress and you see the same happening in Italy and Spain now.
A narrative of growth is also critical so that unemployment, especially youth unemployment, is reduced. Amidst the cacophony, solid progress is being made both in dealing with the immediate challenges but also in laying out an institutional framework with enforceable rules so that such excesses don't get rebuilt in the future.
Greece is a special case and has to be dealt with in such a manner. One can argue it was also a case of market failure in allowing Greece to borrow so much in the first place.
Can the free market system fix Europe?
I believe it can. One should never forget that the challenges in Europe are underlined by the nature of their economic, social and political systems, which are fundamentally based on enlightened human ideals.
They are very wealthy countries but the social model does require high levels of government expenditure to provide social services and benefits, education, healthcare and pensions all in the context of an ageing population and greater environmental awareness. So as long as they consistently maintain productivity gains through innovation, quality etc - and maintain globally competitive wage and benefit levels - they will successfully provide goods and services that both the Europeans and the rest of the world needs and thus can maintain their general well being.
Broadly speaking expenditure cannot get far away from revenues. Apart from Germany as the obvious example, many other countries in Europe have also shown that this is possible. In Germany, apart from other factors, there is the role of the trade unions, which ensured that wage levels in the last 10 years were consonant with productivity gains. In a global context, this should not be underestimated in ensuring German industry remains an export powerhouse.
Similarly four years ago employers did not resort to mass retrenchment but retained employment levels in flexible structures. Business leaders have taken consistent steps for a very long time to tap into emerging market growth and have not viewed it as a negative to European well-being, but in fact complimentary and necessary.
What about emerging markets? How will they react to the eurozone crisis?
The fundamentals in most of the emerging markets are relatively better, with comparatively high levels of growth in China, India, South east Asia and also Turkey, Brazil and other such countries. Most of them seem to be committed long-term to an open market and global trade system so that they continue to benefit as they have in the recent past.
Having said that, its not completely a benign situation and stresses from some issues left unaddressed will emerge in the coming years. They have their own set of challenges, within their own capacity to solve, and should deal with them directly and not excessively externalize their issues.
I believe the top issues for the emerging markets are:
Sound institutions and rule of law to minimize corruption and promote a level playing field.
Tepid demand from G7 countries and some signs of selective protectionism in global trade.
Inflation feeding through global commodity prices.
Undeveloped domestic capital markets at a time of some de-globalization of banking markets as some global banks retrench and go home.
Interlinkages between overheating real estate markets and the banking system.
Reducing the sheer size of government whilst diverting ever greater resources to health care and education to reduce poverty. Subsidy systems in some countries benefit the rich and the middle class and not the poor.
Excessive reliance on commodity exports in some countries and the inabilty to promote a broad based private sector to increase growth and reduce unemployment.
What about the Middle East? There have been momentous changes. How have they affected Deutsche Bank’s business here?
A: Last year, 2011, we had an absolute record year in the Middle East and our very best performance ever and 2010 was already a very good year. The board of Deutsche Bank is both very happy with the performance and very committed to the region.
In terms of the different parts of the region, our stance has been constant over the past many years. We are generally positive on the GCC countries and that's our core focus. Saudi Arabia and the UAE remain our two biggest markets and Qatar and Kuwait are coming along well. Our core clients in the Levant have been steady performers. We expect that it will take some time before we see evidence that the situation in North Africa and Iraq will stabilise and are studying developments closely and remain engaged.
Of course positive development in North Africa will contribute to the overall region but we have to be realistic in our expectations as well, but at least there is something to look forward to, before now one just stayed away.
So overall we expect 2012 to be a challenging and promising year for Deutsche Bank in the region.
We believe in controlled growth, country by country, client by client, within our global risk management framework, and we will steadily grow in this part of the world just as we invested and grew in Asia after the Asian economic and political crisis from 1997-2003. That effort then in Asia has made us a Pan-Asian powerhouse today.
Similarly consistency and staying the course in the GCC and broader MENA region is what we plan to do and our plans are to be a very relevant player in the region.
What about the UAE and especially Dubai? Rival banks have suggested they have an ‘open cheque book’ to help Dubai meet its financial challenges. How is Deutsche’s chequebook?
We stick to our strategy consistently as we have over the past decade in the region. It’s never good to have an open cheque book but to have the cheque book open when it make sense to our core clients and to Deutsche Bank's shareholders.
Banks that maintain an "open cheque book" policy get their cheque books taken away from them by the markets over time.
So we have kept it open, especially for our core clients with whom we have been working with for many years now and understand each other, whilst very selectively adding new clients.
There are many solid assets in Dubai generating healthy cashflows and dividends, and also many valuable corporates, which sometimes get overlooked and need support to grow in the region. We always have to distinguish between 'refinancing challenges' and 'insolvency situations' and all stakeholders have to be constructive around refinancing challenges.
The UAE at a federal level also seems to be providing greater support for the Northern Emirates and has the means to do so.
As a corporate and investment bank we remain very focused around serving the needs of our core clients in the UAE, a client base we are very proud of, and the way they dealt with the challenges of the past years. Generally, our client selection has been good and we need to maintain that discipline without getting carried away by a couple of good years.
Markets in the UAE are still in the doldrums. What can be done about that?
They are in the doldrums, aren't they. Liquidity is low and fragmented and some of the plans outlined earlier have not been executed at the pace one would have expected. A unitary purpose and narrative seems to be missing at the moment. So there is a general sense of drift. Most investors have lost interest, moved on to other markets in the world that have caught their attention better.
UAE equity markets do not seem to be a big topic anymore outside the UAE, even in emerging market forums. And in the UAE more broker dealers will continue to disappear as they will not be able to sustain their losses for 3 years in a row.
In the region, both regional and international investors are more focused on planned initiatives in Saudi Arabia. Let's see.
My personal opinion remains that an economy the size of the UAE should centralize all its liquidity around one stock exchange, provide a more balanced framework for both primary and secondary offerings and finalise the move away from 'frontier market' status to 'emerging market' status with the MSCI. More companies can then be listed providing breadth and depth.
On the debt side we should look to accelerate the establishment of a dirham denominated program for short and medium term maturities. It will provided much needed balance to the capital markets.
Deutsche has lost some jobs recently in UAE. What’s the significance of that?
No significance beyond normal business operations. We have increased our personnel in Abu Dhabi, Doha and Riyadh where we have added to our local presence. Dubai is our regional hub. We might have taken out 10-12 employees in a few departments in Dubai and added 8-10 in other departments in Dubai. Nothing beyond normal business operations and things we do every year or two to match revenues and costs better.
Overall we have seen a very stable employee situation in Dubai with around 160 people on the ground underlining our commitment to the region. Dubai, in particular the DIFC, has been an effective and efficient hub for our regional operations. It did help that our revenues grew in the region last year.
I expect the global revenue environment to remain challenging for the strong players; for the weaker ones, they have more fundamental product/geography questions in which they will have to make wholesale calls. For very good reasons the banking industry should continue to manage its cost base extremely tightly until capital adequacy levels are firmly established in the new regulatory framework, and shareholders start seeing adequate returns again.