Qatar is soon to implement deposit protection regime to promote financial stability, notes Sharon Countinho.                                                              

Imagine a situation where a person has played “safe” and kept his savings in his bank account, resisting the temptation to try and get a better return for his savings, because it carries with it some risk. He would rather get a lower return and sleep well at night knowing that his money was safe with the bank, and then the bank goes bust. That has happened in the past and this is where deposit insurance comes in.

Deposit insurance was developed to protect depositors against the loss of their insured deposits, in the event that a bank is unable to meet its obligations to its depositors.However, deposit insurance is more than just a protection for depositors. It is part of the safety net of a financial system and helps to promote financial stability. Banks play a critical role in the payments system as intermediaries between the depositors and consumers.

Banks lend or invest most of the money deposited with them and the depositors risk loss if the bank's borrowers fail to repay their loans when due. Customer deposits can be withdrawn on little or no notice and because banks rely so heavily on customer deposits, a bank would be in trouble if depositors seek to suddenly withdraw funds, ahead of possible bank insolvency. A sound, competitive banking system is important to a nation's economic vitality and the failure of banking institutions has the potential to trigger a recession. Many countries, therefore, maintain deposit insurance schemes to give depositors comfort that their funds are not at risk.

Initially, deposit insurance was created to protect small banks in the United States in poorer states. As of 31 January 2014, 113 jurisdictions have instituted some form of explicit deposit, whereas it was just 12 in 1974.

How it works

Generally, deposit insurance institutions are established or run by the government and are part of a country’s central bank. Some are private entities with government backing and there are some that are completely privately owned.

Many countries including the United States and Canada have more than one deposit insurance system in operation.

Conversely, a single deposit insurance system can cover several countries. For example, many banks in Puerto Rico are insured by the US Federal Deposit Insurance Corporation.

Critics of state-sponsored deposit insurance claim that the schemes encourage both depositors and banks to take on excessive risks. Without deposit insurance, banks would be competing for deposits. With deposit insurance, banks can take excessive risks because depositors do not fear for the safety of their deposits and are not seeking to move their money to safer banks. There are several examples where bank managers have lent money at high interest rates to high risk customers, such as real estate speculation, and the government had to bail out the banks.

However, if deposit insurance is provided by a business or corporation (as opposed to a state sponsored scheme), there is a presumption that the insurance company would charge higher rates or simply refuse to cover banks who engaged in risky behaviour.

Apart from the obvious advantage of providing security to the depositors and financial stability to a market, there are other financial gains for a country.

When a country has a deposit insurance scheme, foreign investors are more likely to deposit larger amounts of money in its banks.

Qatar

The Qatar National Vision 2030 (QNV 2030) aims to transform Qatar into an advanced country by 2030. It envisages a prosperous and vibrant Qatar with a high standard of living for its people, while sustaining its development.

Needless to say, the financial sector plays an important role in realising the goals of QNV 2030. With this in mind, the State has set a series of targets, for five-years called the Qatar National Development Strategies (QNDS). QNDS 2011 – 2016 has identified certain programs and projects for implementation.

The Qatar Central Bank (QCB), working closely with the Qatar Financial Centre Regulatory Authority (QFCRA) and the Qatar Financial Markets Authority (QFMA), has developed the Strategic Plan that is to be implemented by the regulatory authorities of the  State of Qatar  from 2013 – 2016,  in accordance with both QNDS 2011 – 2016 and QNV 2030.

Strengthening market infrastructure is one of the goals of the Strategic Plan, and a specific target therein, is the implementation of a deposit protection regime to promote financial stability.

The Strategic Plan states that, going forward, steps will be taken to implement a depositor protection scheme in Qatar as required by the QCB Law.  The Strategic Plan goes on to state that international experience has proven that best practice deposit insurance promotes transparency, enhances consumer and investor awareness and provides equal opportunities for all participants. As per the Strategic Plan, consideration will be given at a later stage to develop a risk-based premium mechanism.

The Strategic Plan acknowledges that an Islamic deposit insurance framework based on Shari’ah principles (Takaful) may also be required as a consequence of the increasing scale of operations in the Islamic banking sector.

The Action Plan for this target of designing and implementing a deposit investor protection regime, as per the Strategic Plan, is to:

• Develop regulations, supervisory approach and rulebook for the deposit protection regime established by the QCB Law that is aligned with international best practice;

• Envisage the development of a risk-based mechanism for setting premiums for use at a later stage;

• Promote transparency, consumer awareness and equal opportunities for participants in the deposit insurance scheme;

• Develop Islamic deposit insurance (Takaful) framework according to Shari’ah principles

Protection of depositors

While the establishment of the deposit protection insurance regime in Qatar is eagerly looked forward to, there are certain provisions for depositor protection by the QCB  in place, under Qatar law.

Law No. 13 of 2012 (the QCB Law) provides that the QCB in its capacity as the financial regulator is authorized to develop a system or establish a fund to protect and guarantee deposits either on its own or in cooperation with other locally operating banks.

The QCB requires financial institutions that accept deposits, to maintain amounts of reserve with limited ratios and can set limits regarding the amounts, type and maturity of their deposits.

The QCB is entitled to buy, sell or accept a mortgage of certificates of deposits by a  financial institution in Qatari Riyals or in any other currency and it  may, in exceptional circumstances, and against guarantees, grant loans, finance, or cover liabilities of financial institutions up to 50 percent of its own capital and reserves or up to 100 percent of the capital and reserves of the financial institution in question, if it  considers that granting such a loan, financing, or incurring liabilities, is necessary to support the solvency of that financial institution.

If it appears to the QCB that a financial institution has violated the QCB law or regulations, or that its liquidity and solvency may be detrimental to the rights of the depositors, investors or other creditors or clients, the QCB is entitled to take stringent measures, ranging from preventing the financial institution from performing certain operations or laying  down restraints on its business and directing the financial institution to take certain rectifying measures to  assuming  the management of the financial institution for a certain period of time to suspending  or terminating  the membership of any member of the Board of Directors or senior employees.

The QCB is entitled to cancel or suspend the licence of a bank/financial institution for a specific period of time in case (among other things) the depositors’ interests are endangered or threatened due to the mis-management by the financial institution.

The QCB can assume the temporary management of a financial institution if it deems that the institution is in danger of financial insolvency or at the request of the financial institution. In such event, the QCB may itself undertake temporary management or assign an external manager for the purpose.

If the licence of any financial institution accepting deposits is cancelled, the Governor of the QCB may forbid withdrawal of deposits of all kinds or prescribe the terms, conditions, and restrictions for withdrawal as he deems fit.

The QCB Law, provides that in the event a bank/financial institution that accepts deposits, goes in liquidation, then, except for insured deposits,  the claims of  the depositors will rank below  the liquidator’s fees and the salaries payable to the staff, in order of priority. Of course, if the deposits were insured, the depositors would receive all or part of their money (depending on whether the insurance was for the whole deposit or part of it).

Qatar’s move to introduce deposit insurance is indeed a welcome one.