## _cr06199

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### Summary and overall assessment
- Banking sector strengths and resilience:
  - Risk-averse portfolios, substantial capital adequacy ratios (CARs), loan-loss allowances, and liquidity buffers.
  - Profitability with returns on assets averaging over 2 percent.
  - Low-cost demand deposit base; lending rates determined internationally.
  - Effective regulatory and supervisory structure with lending limits, caps on individual and corporate indebtedness, and preapproval requirements on foreign lending.
  - Modern and efficient payment and settlement infrastructure, with room for governance improvements.
- Stress tests indicate aggregate system robustness to various credit, liquidity, and interest rate events, reflecting conservative portfolios and large capital cushions.
- Liquidity management and market development concerns:
  - Current market practice of augmenting liquidity in the government securities market through derivative products may be inadequate.
  - Recommendation to review pricing of the repurchase facility offered by SAMA to improve interbank repurchase incentives.
  - Need to increase tradable stock of government securities; much is bought and held by investors, including AGIs.
  - SAMA introduced a “Dutch” auction process for government bonds in March 2004 and plans to introduce a system of primary dealers.
- Emerging portfolio trends monitored by SAMA:
  - Increase in margin lending for equities (mainly at banks not systemically important).
  - Asset quality supported by strong aggregate corporate performance; assessment of potential asset concentration needed.
  - Household indebtedness increasing as consumer loans grow.
  - Commodity price risks in some Sharia-compliant products warrant closer attention.
- Reform momentum and institutional upgrades:
  - Domestic bank claims on the private sector: 29 percent of GDP or 51 percent of nonoil GDP.
  - New Capital Markets Law (CML) and Cooperative Insurance Law (CIL) move toward IOSCO and IAIS compliance.
  - Proposed Commercial Business Court and proposed Committee for the Resolution of Securities Disputes under the CML.

### Priority recommendations
- Bank Supervision:
  - Consider amending the Banking Control Law (BCL) of 1966 or the Ministerial Decision on Rules Enforcing Provisions of the BCL to reflect modern practices, including consolidated supervision; clarify SAMA’s authority and accountability; clarify confidentiality regarding exchanges of information under Article 19 of the BCL.
- Market Infrastructure and Safety Nets:
  - Reconsider the price at which SAMA conducts repurchase and reverse repurchase operations to support secondary market transactions in Saudi government securities and foster a robust SRl yield curve.
  - Establish a formalized board of governance responsible for payment system policy for SARIE.
  - Consider a dedicated payment and settlement system oversight team at SAMA to define policy, issue regulations, and monitor SARIE, SPAN, the Clearing House, the stock exchange’s securities settlement system, and SAMA’s settlement system.
- Capital Markets:
  - Build credibility of the Capital Market Authority through clear, transparent coordination between it, SAMA, and the Ministry of Commerce and Industry.
  - Amend the Companies Law to remove caps on corporate bond issuance.
- Financial Services:
  - Overhaul housing finance frameworks to facilitate execution of collateral and recognize creditors’ liens on owner-occupied residential property.
  - Introduce similar collateral enforcement features to expand and reduce the cost of market-based financing for SMEs and leasing.

### Macroeconomic context and vulnerabilities
- Hydrocarbons dependence and recent performance:
  - Real oil sector GDP: contracted by 7½ percent in 2002, expanded by about 15 percent in 2003, expected to grow by 5 percent in 2004.
  - Real nonoil GDP growth: annual rates of 3–4 percent in recent years; unemployment about 10 percent.
- Fiscal and external positions:
  - Oil generates 80–90 percent of government revenue and merchandise export proceeds.
  - Central government balance: deficit of about 6 percent of GDP in 2002; 1 percent surplus in 2003; projected surplus of almost 8 percent in 2004.
  - Current account surplus projected to expand to about 20 percent of GDP in 2004, from about 14 percent in 2003; oil export values expected to expand by 32 percent in 2004.
- External vulnerability indicators:
  - Gross external debt projected about $18 billion at end-2004.
  - Official foreign assets of SAMA and AGIs: $119 billion at end-September 2004.
  - Central government gross domestic debt projected at 60 percent of GDP at end-2004; almost one-third held by AGIs.
  - Reserve coverage of short-term external debt by residual maturity exceeds 800 percent (including AGI foreign assets).
  - Standard & Poor’s long-term foreign currency sovereign rating in mid-2003: “A.”
  - SRl–dollar deposit rate differential averaged 24 basis points in the first three quarters of 2004.

### Selected economic indicators (1999–2004)
- National income and prices:
  - Nominal GDP (SRl bn.): 1999: 603.6; 2000: 706.7; 2001: 686.3; 2002: 707.1; 2003: 804.2; 2004 (Proj.): 964.0
  - Oil sector (percent share): 1999: 33.5; 2000: 41.5; 2001: 37.6; 2002: 37.7; 2003: 42.4; 2004 (Proj.): 50.4
  - Nonoil sector (percent share): 1999: 66.5; 2000: 58.5; 2001: 62.4; 2002: 62.3; 2003: 57.6; 2004 (Proj.): 49.6
  - Nominal GDP (percent change): 1999: 6.2; 2000: 17.1; 2001: -2.9; 2002: 3.0; 2003: 13.7; 2004 (Proj.): 19.9
  - Real GDP (percent change): 1999: -0.7; 2000: 4.9; 2001: 0.5; 2002: 0.1; 2003: 7.2; 2004 (Proj.): 5.0
  - Crude oil production (mn. barrels per day) 1/: 1999: 7.56; 2000: 8.09; 2001: 7.89; 2002: 7.60; 2003: 8.40; 2004 (Proj.): 8.90
  - Oil spot price (average, $ per barrel) 2/: 1999: 17.45; 2000: 26.81; 2001: 23.06; 2002: 23.40; 2003: 27.00; 2004 (Proj.): 36.70
  - Consumer price index (average, percent change) 3/: 1999: -1.3; 2000: -0.6; 2001: -0.8; 2002: -0.6; 2003: 0.5; 2004 (Proj.): 1.2
- Central government finances (percent of GDP):
  - Revenue: 1999: 24.4; 2000: 36.5; 2001: 33.2; 2002: 30.1; 2003: 34.5; 2004 (Proj.): 38.1
  - Of which: oil sector: 1999: 17.3; 2000: 30.3; 2001: 26.8; 2002: 23.5; 2003: 28.7; 2004 (Proj.): 32.8
  - Expenditure: 1999: 30.5; 2000: 33.3; 2001: 37.2; 2002: 36.1; 2003: 33.3; 2004 (Proj.): 30.1
  - Balance: 1999: -6.0; 2000: 3.2; 2001: -3.9; 2002: -5.9; 2003: 1.2; 2004 (Proj.): 7.9
  - Gross debt 4/: 1999: 103.5; 2000: 87.2; 2001: 93.7; 2002: 96.8; 2003: 82.1; 2004 (Proj.): 60.0
  - Of which: held by AGIs 5/: 1999: 79.9; 2000: 67.0; 2001: 68.7; 2002: 74.6; 2003: 60.9; 2004 (Proj.): ...
- Monetary survey (selected):
  - Net foreign assets: 1999: -14.4; 2000: 18.0; 2001: 2.8; 2002: -5.2; 2003: 26.0; 2004 (Proj.): 46.1
  - Net domestic credit: 1999: 10.1; 2000: -1.7; 2001: 10.9; 2002: 11.3; 2003: 15.5; 2004 (Proj.): 7.3
  - Claims on private sector: 1999: 1.0; 2000: 6.2; 2001: 8.6; 2002: 10.0; 2003: 11.0; 2004 (Proj.): 27.4
  - Broad money (M3): 1999: 6.8; 2000: 4.5; 2001: 0.5; 2002: 15.2; 2003: 8.2; 2004 (Proj.): 15.2
- External sector (selected):
  - Merchandise exports, f.o.b. (percent change): 1999: 50.6; 2000: 77.4; 2001: 67.9; 2002: 72.4; 2003: 95.2; 2004 (Proj.): 124.2
  - Trade balance (percent of GDP): 1999: 24.9; 2000: 49.7; 2001: 39.3; 2002: 42.8; 2003: 61.3; 2004 (Proj.): 86.3
  - Current account balance (percent of GDP): 1999: 0.4; 2000: 14.4; 2001: 9.4; 2002: 11.9; 2003: 29.7; 2004 (Proj.): 51.6
- Memorandum items:
  - Official gross foreign assets ($ bn.) 6/: 1999: 69.7; 2000: 81.8; 2001: 82.7; 2002: 77.9; 2003: 98.2; 2004 (Proj.): 118.9
  - SAMA gross foreign assets ($ bn.): 1999: 39.4; 2000: 49.0; 2001: 48.5; 2002: 42.0; 2003: 59.8; 2004 (Proj.): 77.5
  - Of which: liquid international reserves ($ bn.) 7/: 1999: 17.2; 2000: 19.8; 2001: 17.8; 2002: 20.8; 2003: 22.9; 2004 (Proj.): 22.7
  - AGI gross foreign assets 5/ 8/ ($ bn.): 1999: 30.4; 2000: 32.8; 2001: 34.1; 2002: 35.8; 2003: 38.5; 2004 (Proj.): 41.5
  - Total external debt ($ bn.) 9/: 1999: 30.4; 2000: 29.7; 2001: 26.6; 2002: 22.2; 2003: 21.4; 2004 (Proj.): 18.2
  - SRl–$ interest rate spread (average, basis points) 10/: 1999: 82.0; 2000: 24.0; 2001: 25.0; 2002: 53.0; 2003: 52.0; 2004 (Proj.): 24.0
  - Exchange rate (SRl per $): 1999–2004: 3.7453

### Financial system structure, size, and concentration
- Financial system characteristics:
  - M3 equivalent to 52 percent of GDP at end-2003.
  - Commercial bank claims on the domestic private sector: 29 percent of GDP (51 percent of nonoil GDP).
  - Crossborder activity: commercial bank gross foreign assets 10 percent of GDP; net foreign assets 5 percent of GDP.
- Banking sector structure:
  - 11 commercial banks operating domestically account for about one-half of total system assets.
  - All commercial banks hold universal banking licenses and manage mutual investment funds.
  - Public ownership exceeds 20 percent in five banks and reaches 79 percent in one bank.
  - Six banks have foreign equity stakes of 20 percent or more.
  - Assets of joint Saudi-foreign banks accounted for 49 percent of total banking sector assets at end-2003 (compared with 53 percent in 1998).
- Nonbank sector:
  - Dominated by quasi-fiscal institutions; three AGIs dominate primary market for government securities and hold a range of domestic and foreign investments.
  - Five specialized credit institutions extend interest-free loans for public policy purposes.
  - Leasing companies, insurance companies, and licensed money changers together account for less than 0.3 percent of total financial system assets.

### Banking sector portfolio behavior and soundness
- Portfolio drivers:
  - Low-cost demand deposits (up to 40 percent of total deposits) fund assets and support profitability.
  - Instalment lending: some 30 percent of total loans.
  - Margin lending: some 3 percent of total loans.
  - Household sector’s ratio of bank liabilities to disposable income doubled in less than two years.
  - General Share Price Index increased by 162 percent between end-2002 and end-September 2004.
- Asset quality and provisioning:
  - NPL ratio decreased steadily since 1998.
  - Provisions coverage of NPLs at 119 percent; considered high but appropriate.
  - Need for further assessment of loan concentration.
- Financial soundness indicators (selected, 1999–2003):
  - Regulatory capital to risk-weighted assets: 1999: 21.2; 2000: 21.0; 2001: 20.3; 2002: 18.7; 2003: 19.3
  - Tier I capital to risk-weighted assets: 1999: 17.8; 2000: 17.1; 2001: 17.5; 2002: 17.3; 2003: 14.9
  - Net loans to total assets: 1999: 35.9; 2000: 34.5; 2001: 34.8; 2002: 36.7; 2003: 39.9
  - Gross NPLs to net loans: 1999: 11.4; 2000: 10.4; 2001: 10.1; 2002: 9.2; 2003: 5.4
  - Total provisions to gross NPLs: 1999: 88.0; 2000: 99.0; 2001: 107.0; 2002: 110.4; 2003: 136.0
  - Return on assets: 1999: 0.9; 2000: 2.0; 2001: 2.2; 2002: 2.3; 2003: 2.3
  - Return on equity: 1999: 9.1; 2000: 21.0; 2001: 21.9; 2002: 22.2; 2003: 22.7
  - Liquid assets to total assets: 1999: 32.1; 2000: 31.4; 2001: 30.6; 2002: 30.3; 2003: 29.4
  - Customer deposits to loans: 1999: 140.7; 2000: 144.1; 2001: 138.8; 2002: 146.5; 2003: 137.9
  - Foreign currency-denominated deposits to total deposits: 1999: 20.1; 2000: 18.6; 2001: 17.9; 2002: 18.2; 2003: 18.0
  - Net open foreign currency position to capital: 1999: 90.0; 2000: 81.3; 2001: 80.1; 2002: 23.8; 2003: 13.8

### Sharia-compliant finance
- Deposit and asset composition:
  - Approximately 40 percent of deposits are non-interest-bearing.
  - On balance sheet Sharia-compliant assets (percent of total banking sector assets): 1999: 11.2; 2000: 13.0; 2001: 15.0; 2002: 17.0; 2003: 21.0
  - Off balance sheet: 1999: 1.7; 2000: 2.1; 2001: 2.3; 2002: 2.0; 2003: 2.3
- Main instruments and market:
  - Deferred sales: 46 percent of total Sharia-compliant banking sector assets at end-2003.
  - Murabaha transactions: 31 percent at end-2003.
  - 59 Sharia-compliant mutual funds at end-2003 with SRl 39 billion of assets under management, accounting for 75 percent of total mutual fund assets.
  - All Saudi commercial banks participate in Sharia-compliant finance; Al-Rajhi Banking and Investment Corporation is Sharia-only.

### Stress testing and resilience (stylized scenarios)
- Structural shock-absorbers:
  - Almost 40 percent share of low cost liabilities (demand deposits).
  - Low loan-deposit ratios and high levels of capital and provisioning.
- Credit risk shock (Key assumption: total provisions to gross NPLs unchanged at 110 percent):
  - System average gross NPLs to total loans (percent): 7.2, 12.2, 14.4, 21.5
  - Number of banks with CARs < 8 percent: 0, 0, 1, 1
  - Aggregate capital shortfall (SRl bn.): ......2.0, 9.5 (as shown)
  - Number of banks with CARs < 13 percent: 0, 2, 2, 7
  - Aggregate capital shortfall (SRl bn.): ...2.0, 4.3, 13.9
- Liquidity shock (Key assumptions include full unwinding of interbank deposits and withdrawals of excess reserves):
  - Aggregate repurchase requirement with the SAMA (SRl bn.): ...29.3, 45.8, 63.0 (as shown)
- Interest income shock (sustained reduction in world and domestic interest rates for one year):
  - Number of banks with CARs < 8 percent: 0, 0, 0, 0
  - Number of banks with CARs < 13 percent: 0, 0, 0, 0
- Combined shock:
  - System average gross NPLs to total loans (percent): 7.2, 12.2, 14.4, 21.5
  - Number of banks with CARs < 8 percent: 0, 0, 1, 1
- Overall conclusion: Saudi banking sector robust to a range of single or combined shocks; only one bank routinely underperforms and requires careful monitoring.

### Market infrastructure, government debt market, and derivatives
- Domestic money markets are shallow; banks manage liquidity primarily through derivatives trades.
- Interbank market turnover: about 1.5 percent of deposit liabilities at end 2003.
- SAMA repurchase facility:
  - Banks may tender up to 75 percent of the market value of eligible government securities portfolio as collateral.
  - Facility usage in 2003 averaged: repurchase agreements SRl 1.9 billion per day and reverse repurchase agreements SRl 2.7 billion per day.
  - Nonpenal pricing and SAMA acting as counterpart by default has encouraged reliance on SAMA; changing incentive structure important for deepening systemic liquidity arrangements.
- Government debt and institutional demand:
  - Pension Fund and GOSI together own "some three-quarters of the central government debt stock"; both are buy-and-hold investors.
  - Treasury instruments: Treasury bills (one week to one month); floating rate notes (bullet maturities at five years and seven years); GDBs (bullet maturities at two, three, five, seven, and ten years).
  - March 2004: SAMA introduced a “Dutch” auction system for pricing GDBs.
- Derivatives market (SAMA data, 2002–03, notional volumes in millions of SRl unless otherwise indicated):
  - By market: Over the counter: 2002 = "1,404"; 2003 = "1,370"; Exchange-traded: 2002 = "457"; 2003 = "503"; Total: 2002 = "1,861"; 2003 = "1,873"
  - By contract type: Foreign exchange: 2002 = "1,662"; 2003 = "1,653"; Interest rates: 2002 = "199"; 2003 = "217"; Other: 2002 = "0"; 2003 = "3"; Total: 2002 = "1,861"; 2003 = "1,873"
  - By maturity (percent share): 0–3 months: "76.1" (2002), "77.6" (2003); > 12 months: "8.6" (2002), "8.0" (2003); Total: "100.0" (2002), "100.0" (2003)
  - SRl interest rate swaps of 1–5 years’ maturity amount to "5–10 percent of their GDB holdings."
  - Two-year SRl interest rate swaps: bid-offer spread "15 basis points" for "SRl 100–200 million." Five-year swaps: bid-offer spread "20–25 basis points" for "SRl 50–75 million."
  - "Currently, there are four market-makers for SRl interest rate swaps."

### Payment and settlement systems (SARIE, SPAN, securities settlement)
- SARIE:
  - Fully integrated real-time gross settlement (RTGS) system operated and regulated by SAMA.
  - Processes both large-value and high-volume payments; handles credit transfers and direct debits and permits intermediate payments over SAMA accounts.
  - Settlement of government securities on a real-time gross settlement basis over SARIE.
  - Daily value of transactions averaged "SRl 21 billion in 2003."
  - SARIE participants: 12 (11 commercial banks and the SAMA).
  - Intraday credits collateralized by government debt instruments; maximum intraday limit SAR 14,9 billion; needs average SAR 5,3 billion.
  - Total daily value of transactions averaged SAR 21,4 billion; interbank payments averaged SAR 19 billion; customer payments averaged SAR 2,4 billion; customer payments account for 95 percent of total transaction volume processed by SARIE.
  - Share of the largest 5 banks in interbank payments processed by SARIE: 72 percent in value and volume terms.
- SPAN (ATM/EFTPOS):
  - Over 3200 ATM terminals in SPAN in 2003.
  - Processing over 134 millions transactions annually for a total value of SAR 80 billion.
  - SAMA initiated enhancements to broaden ATM and EFTPOS services and introduce new electronic channels.
- Cheques:
  - Use of checks decreasing; volume of checks decreased by "2 percent in 1996–2000" compared with annual rate of increase "30 percent in 1992–96."
  - Total value of checks decreased from "SRl 3,296 billion in 1996" to "SRl 463 billion in 2000."
  - SAMA studying electronic checks and check imaging.

### Regulatory oversight, supervision practices, and prudential framework
- Legal and institutional framework:
  - SAMA Charter of 1957 and the BCL of 1966, supplemented by circulars and administrative guidelines.
  - BCL provides SAMA power to require information, enabling solo and consolidated monitoring.
  - Observations: legal clarity on SAMA’s authority and accountability desirable; legal protection for supervisors not addressed.
- Prudential measures:
  - January 2004 circular prescribing minimum criteria for loan classification and provisioning: Substandard loans overdue "90–179 days" provisioned at "25 percent"; Doubtful loans "180–364 days" provisioned at "50 percent"; Loss loans "365 days or more" provisioned at "100 percent".
  - Market risk amendment issued to banks with view to implementation in first quarter of 2005 (implementation noted absent at time of report).
  - Connected-party lending framework present but silent on prohibition of preferential terms and approval at higher management level.
  - Country and transfer risk: all loans to nonresidents must be approved by SAMA.
- Supervisory approach:
  - Combination of offsite, full, and limited-scope onsite monitoring; ERMS in place since 1995 supports offsite supervision.
  - Full-scope on-site supervision evolved into a triennial cycle in practice.
  - SAMA has authority to supervise on a consolidated basis, but more explicit powers needed for bank holding companies if structure evolves.
  - Cross-border cooperation currently informal; consider formalizing through MoU or letters of intent.

### AML/CFT, transparency, and governance
- AML/CFT status:
  - Saudi Arabia compliant or largely compliant with most FATF 40 Recommendations and 8 Special Recommendations (mutual evaluation September 21–25, 2003).
  - AML Law enacted August 2003; established a Financial Intelligence Unit (FIU).
  - Areas needing strengthening:
    - (i) Clear definition of terrorism financing offence.
    - (ii) Requirement that all law enforcement requests for information be routed via SAMA may delay legal assistance.
    - (iii) Strengthen customer identification for nonbank financial institutions and requirement to transmit originator information on wire transfers under Special Recommendation VII.
- Transparency and SAMA independence:
  - SAMA Charter explicit objective to "safeguard the external and internal value" of the SRl; fixed peg maintained since 1986.
  - Major policy changes require minister of finance signature; day-to-day conduct under SAMA.
  - Recommendations: publish a Quarterly Economic Bulletin; publish a technical booklet on monetary policy operations; enhance public availability of data on central bank transactions; consider subscribing to IMF data dissemination standards.
  - SAMA publishes audited balance sheets; recommendation to publish more detailed profit and loss information and rules of conduct for employees.
- Payment-system governance recommendations:
  - Consider establishment of a formalized Board of Governance for SARIE composed of senior executives from SAMA and banks.
  - Consider setting up a dedicated Payment and Settlement Systems Oversight Team within SAMA.

### Market development, corporate bonds, mutual funds, leasing, SME and housing finance
- Primary dealer and repurchase facility linkage:
  - Proposed primary dealership system could be used to overhaul debt market functioning; link privileges and appropriately priced access to market-making obligations; consider allowing primary dealers to take short positions.
  - Further liberalization of repurchase intermediation to nonbank institutions and tiered settlement arrangements for nonbanks under an independent direct account may be considered.
- Corporate bond market:
  - Saudi ORIX Leasing Company: first corporate bond issue March 2003, SRl 45 million; planned SRl 50 million private placement before end-2004.
  - Legal constraint: Article 117 of the Companies Law caps total amount of bonds a company may issue at paid-up capital; Minister may exempt companies; recommended to relieve paid-up capital constraint for financial institutions.
  - Recommend reducing procedural costs for short- and medium-term debt securities and developing a credit ratings infrastructure.
- Mutual funds:
  - Only Saudi banks permitted to publicly offer, manage, administer, or act as custodians of mutual funds; mutual funds are contractual agreements and not legal entities.
  - Recommendations: publish explicit regulatory standards, consider organizing mutual funds into separate legal entities.
- Leasing:
  - Proposed Financial Leasing Law in draft form; leasing activity negligible but growing.
  - Recommendations: create commercial register for financial contracts secured by property, create registry for fixed or leased assets, clarify tax/accounting treatment of leases.
- SME loan guarantee scheme (SIDF):
  - SME definition: assets of SRl 50 million or less; maximum 250 employees; maximum turnover of SRl 10 million.
  - Initial capitalization SRl 200 million (half by ten commercial banks, half by government).
  - Guarantee fee and SIDF handling charges about 175 basis points.
  - Guarantee ceilings: SRl 1.5 million and 75 percent of underlying loan.
  - Durations: seven years on fixed assets; four years on working capital.
  - Possible cap on bank lending rates of 400 basis points over the Saudi Interbank Offer Rate.
  - Banks to receive 75 percent of their loan within three months of declaration of default.
  - Recommendation: avoid interest rate caps to prevent distortions; assess financial sustainability carefully.
- Housing finance:
  - REDF provides zero interest, 25-year housing loans SRl 200,000–300,000 financing up to 70 percent of estimated construction cost.
  - REDF outstanding portfolio about SRl 69 billion at end-2002; new loans about SRl 2 billion annually vs. applications one quarter of that, applicant waitlist about ten years.
  - Recommendation: legal and judicial recognition of creditors’ liens on owner-occupied residential property; adapt prudential rules for collateralized residential lending; consider Mortgage Financing Law.

### Credit information, governance, and dispute resolution
- Credit information:
  - SAMA negative lists: B list (facilities over SRl 500,000), C list (consumers, ~42,000 names), E list (employees), M list (merchants).
  - Credit Center records transactions of individual and corporate borrowers SRl 2 million and above; reporting to Credit Center mandatory monthly.
  - Saudi Credit Bureau operational since March 2004; positive list replacing C list; participation mandatory for financial institutions; open to nonfinancial companies; bureau owned by banks under SAMA purview.
- Corporate governance and dispute resolution:
  - CML and CIL significant steps toward IOSCO and IAIS compliance; move toward commercial trust framework.
  - Regulators recommended to review OECD Guidelines on Corporate Governance where appropriate.
  - Gaps: no codified regulations for secured transactions, mortgages, pledges, or assignments; CIL and CML propose Committees for Dispute Resolution.

### Supervisory powers, recommended legal amendments, and next steps
- Observations and recommended legal amendments (summary):
  - Amend BCL to clarify objectives, independence, legal framework, legal protection for supervisors, and legal gateways for exchange of information.
  - Amend BCL to update definition of “deposit,” align capital requirements for domestic, GCC and foreign applicants, and require supervisory approval/notification for ownership changes.
  - Introduce capital requirement for market risk; increase frequency of on-site verification; clarify SAMA discretion on connected-party definitions and regulations.
  - Formalize powers for consolidated and global consolidated supervision, and formalize information-sharing arrangements with foreign supervisors.
  - Set formal requirements for external auditors to report breaches and supervisory-relevant information timely.
- Authorities’ response:
  - Authorities agreed with main findings; SAMA intends to issue a circular on Connected Party lending and issued a draft circular on Market risks for bank assessment.
  - SAMA recognizes recommendation to enhance transparency (quarterly publication) and is considering adding publications and posting more materials online.

*Source: IMF staff report (Selected Economic Indicators, 1999–2004) — _cr06199.*

### 1. Selected Economic Indicators, 1999–2004............................................................................9

### 1. Selected Economic Indicators, 1999–2004

### Summary and overall assessment
- The Saudi Arabian banking sector’s capacity to respond to macroeconomic shocks has been strengthened over the past decade through:
  - Risk-averse portfolios, substantial capital adequacy ratios (CARs), loan-loss allowances, and liquidity buffers.
  - Profitability with returns on assets averaging over 2 percent.
  - A low-cost demand deposit base, with lending rates determined internationally.
  - An effective regulatory and supervisory structure that contains risk-taking via lending limits, caps on individual and corporate indebtedness, and preapproval requirements on foreign lending.
  - A modern and efficient payment and settlement infrastructure, with room for governance improvements.
- Stress tests indicate the aggregate system is robust to various credit, liquidity, and interest rate events, reflecting conservative portfolios and large capital cushions.
- Liquidity management infrastructure could be strengthened:
  - Current market practice of augmenting liquidity in the government securities market through derivative products may be inadequate.
  - Recommendation to review pricing of the repurchase facility offered by the Saudi Arabian Monetary Agency (SAMA) to improve interbank repurchase incentives.
  - Strategy needed to increase tradable stock of government securities, as much of the stock is bought and held by investors, including autonomous government institutions (AGIs).
  - SAMA introduced a “Dutch” auction process for government bonds in March 2004 and plans to introduce a system of primary dealers.
- Emerging portfolio trends monitored by SAMA:
  - Increase in margin lending for equities (mainly at banks not systemically important).
  - Asset quality supported by strong aggregate corporate performance; need for assessment of potential asset concentration.
  - Household indebtedness is increasing as consumer loans grow.
  - Commodity price risks in some Sharia-compliant products warrant closer attention.
- Reform momentum and institutional upgrades:
  - Far-reaching reforms aim to diversify intermediation; domestic bank claims on the private sector are limited (29 percent of GDP or 51 percent of nonoil GDP).
  - New Capital Markets Law (CML) and Cooperative Insurance Law (CIL) move toward IOSCO and IAIS compliance.
  - Proposed establishment of a Commercial Business Court to supplement existing dispute resolution mechanisms.
  - Proposed Committee for the Resolution of Securities Disputes under the CML.

### Priority recommendations (Box 1)
- Bank Supervision:
  - Consider amending the Banking Control Law (BCL) of 1966 or the Ministerial Decision on Rules Enforcing Provisions of the BCL to reflect modern practices, including consolidated supervision; clarify SAMA’s authority and accountability; clarify confidentiality regarding exchanges of information under Article 19 of the BCL.
- Market Infrastructure and Safety Nets:
  - Reconsider the price at which SAMA conducts repurchase and reverse repurchase operations to support secondary market transactions in Saudi government securities and foster a robust Saudi Arabian riyal (SRl) yield curve.
  - Establish a formalized board of governance responsible for payment system policy for the Saudi Arabian Riyal Interbank Express (SARIE) payment and settlement system.
  - Consider a dedicated payment and settlement system oversight team at SAMA to define policy, issue regulations, and monitor SARIE, SPAN, the Clearing House, the stock exchange’s securities settlement system, and SAMA’s settlement system.
- Capital Markets:
  - Build the credibility of the Capital Market Authority through clear, transparent coordination between it, SAMA, and the Ministry of Commerce and Industry.
  - Amend the Companies Law to remove caps on corporate bond issuance.
- Financial Services:
  - Overhaul housing finance frameworks to facilitate execution of collateral and recognize creditors’ liens on owner-occupied residential property to enable effective, transparent, and predictable enforcement.
  - Introduce similar collateral enforcement features to expand and reduce the cost of market-based financing for SMEs and leasing.

### Macroeconomic context and vulnerabilities
- Hydrocarbons dependence and volatility:
  - Real oil sector GDP contracted by 7½ percent in 2002, expanded by about 15 percent in 2003, and is expected to grow by 5 percent in 2004.
  - Real nonoil GDP has grown at annual rates of 3–4 percent in recent years; unemployment remains about 10 percent.
- Fiscal and external positions reflect oil cycle:
  - Oil generates 80–90 percent of government revenue and merchandise export proceeds.
  - Central government balance: deficit of about 6 percent of GDP in 2002; 1 percent surplus in 2003; projected surplus of almost 8 percent in 2004.
  - Current account surplus projected to expand to about 20 percent of GDP in 2004, from about 14 percent in 2003, with oil export values expected to expand by 32 percent in 2004.
- External vulnerability indicators:
  - Gross external debt projected at about $18 billion at end-2004.
  - Official foreign assets of SAMA and AGIs stood at $119 billion at end-September 2004.
  - Central government gross domestic debt projected at 60 percent of GDP at end-2004; almost one-third held by AGIs.
  - Reserve coverage of short-term external debt by residual maturity exceeds 800 percent (including AGI foreign assets).
  - Standard & Poor’s long-term foreign currency sovereign rating in mid-2003: “A.”
  - SRl–dollar deposit rate differential averaged 24 basis points in the first three quarters of 2004.

### Selected economic indicators (1999–2004): key figures and trends
- National income and prices:
  - Nominal GDP (SRl bn.): 1999: 603.6; 2000: 706.7; 2001: 686.3; 2002: 707.1; 2003: 804.2; 2004 (Proj.): 964.0
  - Oil sector (percent share): 1999: 33.5; 2000: 41.5; 2001: 37.6; 2002: 37.7; 2003: 42.4; 2004 (Proj.): 50.4
  - Nonoil sector (percent share): 1999: 66.5; 2000: 58.5; 2001: 62.4; 2002: 62.3; 2003: 57.6; 2004 (Proj.): 49.6
  - Nominal GDP (percent change): 1999: 6.2; 2000: 17.1; 2001: -2.9; 2002: 3.0; 2003: 13.7; 2004 (Proj.): 19.9
  - Real GDP (percent change): 1999: -0.7; 2000: 4.9; 2001: 0.5; 2002: 0.1; 2003: 7.2; 2004 (Proj.): 5.0
  - Crude oil production (mn. barrels per day) 1/: 1999: 7.56; 2000: 8.09; 2001: 7.89; 2002: 7.60; 2003: 8.40; 2004 (Proj.): 8.90
  - Oil spot price (average, $ per barrel) 2/: 1999: 17.45; 2000: 26.81; 2001: 23.06; 2002: 23.40; 2003: 27.00; 2004 (Proj.): 36.70
  - Consumer price index (average, percent change) 3/: 1999: -1.3; 2000: -0.6; 2001: -0.8; 2002: -0.6; 2003: 0.5; 2004 (Proj.): 1.2
- Central government finances (percent of GDP):
  - Revenue: 1999: 24.4; 2000: 36.5; 2001: 33.2; 2002: 30.1; 2003: 34.5; 2004 (Proj.): 38.1
  - Of which: oil sector: 1999: 17.3; 2000: 30.3; 2001: 26.8; 2002: 23.5; 2003: 28.7; 2004 (Proj.): 32.8
  - Expenditure: 1999: 30.5; 2000: 33.3; 2001: 37.2; 2002: 36.1; 2003: 33.3; 2004 (Proj.): 30.1
  - Balance: 1999: -6.0; 2000: 3.2; 2001: -3.9; 2002: -5.9; 2003: 1.2; 2004 (Proj.): 7.9
  - Gross debt 4/: 1999: 103.5; 2000: 87.2; 2001: 93.7; 2002: 96.8; 2003: 82.1; 2004 (Proj.): 60.0
  - Of which: held by AGIs 5/: 1999: 79.9; 2000: 67.0; 2001: 68.7; 2002: 74.6; 2003: 60.9; 2004 (Proj.): ...
- Monetary survey:
  - Net foreign assets: 1999: -14.4; 2000: 18.0; 2001: 2.8; 2002: -5.2; 2003: 26.0; 2004 (Proj.): 46.1
  - Net domestic credit: 1999: 10.1; 2000: -1.7; 2001: 10.9; 2002: 11.3; 2003: 15.5; 2004 (Proj.): 7.3
  - Claims on government: 1999: 74.8; 2000: -17.3; 2001: 22.6; 2002: 14.7; 2003: 12.0; 2004 (Proj.): -41.2
  - Claims on private sector: 1999: 1.0; 2000: 6.2; 2001: 8.6; 2002: 10.0; 2003: 11.0; 2004 (Proj.): 27.4
  - Broad money (M3): 1999: 6.8; 2000: 4.5; 2001: 0.5; 2002: 15.2; 2003: 8.2; 2004 (Proj.): 15.2
- External sector:
  - Merchandise exports, f.o.b. (percent change): 1999: 50.6; 2000: 77.4; 2001: 67.9; 2002: 72.4; 2003: 95.2; 2004 (Proj.): 124.2
  - Merchandise imports, f.o.b. (percent change): 1999: -25.7; 2000: -27.7; 2001: -28.6; 2002: -29.6; 2003: -33.9; 2004 (Proj.): -37.9
  - Trade balance (percent of GDP): 1999: 24.9; 2000: 49.7; 2001: 39.3; 2002: 42.8; 2003: 61.3; 2004 (Proj.): 86.3
  - Current account balance (percent of GDP): 1999: 0.4; 2000: 14.4; 2001: 9.4; 2002: 11.9; 2003: 29.7; 2004 (Proj.): 51.6
  - Overall balance (percent of GDP): 1999: -7.5; 2000: 9.7; 2001: 0.8; 2002: -6.5; 2003: 17.6; 2004 (Proj.): 20.2
- Memorandum items:
  - Official gross foreign assets ($ bn.) 6/: 1999: 69.7; 2000: 81.8; 2001: 82.7; 2002: 77.9; 2003: 98.2; 2004 (Proj.): 118.9
  - SAMA gross foreign assets ($ bn.): 1999: 39.4; 2000: 49.0; 2001: 48.5; 2002: 42.0; 2003: 59.8; 2004 (Proj.): 77.5
  - Of which: liquid international reserves ($ bn.) 7/: 1999: 17.2; 2000: 19.8; 2001: 17.8; 2002: 20.8; 2003: 22.9; 2004 (Proj.): 22.7
  - AGI gross foreign assets 5/ 8/ ($ bn.): 1999: 30.4; 2000: 32.8; 2001: 34.1; 2002: 35.8; 2003: 38.5; 2004 (Proj.): 41.5
  - Total external debt ($ bn.) 9/: 1999: 30.4; 2000: 29.7; 2001: 26.6; 2002: 22.2; 2003: 21.4; 2004 (Proj.): 18.2
  - Of which: short-term by residual maturity ($ bn.): 1999: 15.4; 2000: 15.4; 2001: 16.4; 2002: 15.9; 2003: 20.2; 2004 (Proj.): 14.7
  - SRl–$ interest rate spread (average, basis points) 10/: 1999: 82.0; 2000: 24.0; 2001: 25.0; 2002: 53.0; 2003: 52.0; 2004 (Proj.): 24.0
  - Exchange rate (SRl per $): 1999–2004: 3.7453

  Notes on table sources and footnotes are as provided in the original indicators table.

### Financial system overview
- Financial system characteristics:
  - M3 equivalent to 52 percent of GDP at end-2003.
  - Commercial bank claims on the domestic private sector: 29 percent of GDP (51 percent of nonoil GDP).
  - Crossborder activity significant: commercial bank gross foreign assets 10 percent of GDP; net foreign assets 5 percent of GDP.
- Banking sector structure:
  - 11 commercial banks operating domestically account for about one-half of total system assets.
  - All commercial banks hold universal banking licenses and manage mutual investment funds.
  - Public ownership exceeds 20 percent in five banks and reaches 79 percent in one bank.
  - Foreign bank participation mainly via substantial equity positions rather than majority shareholdings.
  - Six banks have foreign equity stakes of 20 percent or more.
  - Assets of joint Saudi-foreign banks accounted for 49 percent of total banking sector assets at end-2003 (compared with 53 percent in 1998).

*Source: IMF staff report (Selected Economic Indicators, 1999–2004).*

### 13. The nonbank portion of the system is dominated, in terms of asset size, by quasi-

### _cr06199 - 13. The nonbank portion of the system is dominated, in terms of asset size, by quasi-

### Nonbank sector structure and concentration
- The nonbank portion of the system is dominated, in terms of asset size, by quasi-fiscal institutions.
- The largest quasi-fiscal institutions are the three AGIs, which:
  - dominate the primary market for government securities,
  - hold a range of domestic and foreign investments, some managed on their behalf by the SAMA.
- There are five specialized credit institutions, all extending interest-free loans for public policy purposes (housing, agriculture, industry).
- Most specialized credit institutions report to Boards of Directors appointed by the Council of Ministers.
- Two AGIs (the GOSI and the Pension Fund) and one specialized credit institution (the Public Investment Fund) have equity ownership in the banking sector; the Public Investment Fund holds a controlling stake in the largest Saudi commercial bank.
- Leasing companies, insurance companies, and licensed money changers together account for less than 0.3 percent of total financial system assets.
- Comparative note: “This figure is in the order of 35 percent for the 17 large developing countries reporting a full breakdown of banks assets and liabilities in the International Financial Statistics.”

### Ongoing financial system reforms (selected measures)
- Gulf Monetary Union:
  - GCC countries agreed to establish a monetary union by 2010.
  - All GCC currencies were formally pegged to the dollar effective January 1, 2003.
- Foreign Bank Entry:
  - Gulf International Bank granted a branch license in 1999.
  - Four more GCC banks (National Bank of Kuwait, National Bank of Bahrain, Emirates Bank International, Bank Muscat) granted branch licenses in 2002–04.
  - Licenses issued to Deutsche Bank, JP Morgan, and BNP-Paribas in 2004.
- Bank Supervision:
  - SAMA issued a circular prescribing minimum criteria for loan classification and specific provisioning in January 2004; NPLs clearly defined.
  - Saudi Credit Bureau established in March 2004.
  - Draft circular on market risk amendment issued; circular on country risk and transfer risk under consideration.
- Islamic Finance:
  - SAMA became a founding member of the Islamic Financial Services Board (IFSB) in late 2002.
- Capital Markets:
  - New Capital Markets Law (CML) promulgated mid-2003; led to establishment of the Capital Market Authority and a Saudi Arabian Stock Exchange with legal status of a joint-stock company (Tadawul and Securities Deposit Center).
  - Capital Market Authority’s board appointed in July 2004.
- Government Debt Market:
  - SAMA instituted a “Dutch” auction process for monthly issues of government bonds from March 2004; a primary dealership network is planned.
- Payment System:
  - Establishment of a Board of Governance for the payment system under consideration.
- Insurance:
  - New CIL creates licensing and regulatory framework; implementing Regulations issued in April 2004; oversight entrusted to SAMA.
- SME Loan Guarantee Scheme:
  - Government and commercial banks jointly funding a loan guarantee scheme with total capitalization of SRl 200 million; began operation in 2005.
  - Expected guarantee ceilings: SRl 1.5 million and 75 percent of the underlying loan.
  - State-owned SIDF to manage the scheme.
- Consolidation of Exchange Companies:
  - Council of Ministers approved license for a new commercial bank formed from merger and transfer of business of the eight largest money changing companies; new bank will carry out Sharia compliant banking business.
- Creditor Rights:
  - Financial Leasing Law being drafted; Mortgage Finance Law in concept stage.

### Financial system scale and selected statistics (Table 2, Table 3 excerpts)
- Aggregate assets (Table 2):
  - Banking sector: 1,1543.16? (source shows "11543.16" SRl bn.) — Percent of GDP: 67.5 — Percent share: 42.4
  - Saudi commercial banks: 1,0540.06 SRl bn. — Percent of GDP: 67.1 — Percent share: 42.2
  - Investment funds: 1705.3 SRl bn. — Percent of GDP: 9.6 — Percent share: 7.4
  - Specialized credit institutions: 5244.6 SRl bn. — Percent of GDP: 30.4 — Percent share: 19.1
  - Leasing companies: 20.4 SRl bn. — Percent of GDP: 0.1 — Percent share: 0.0
  - Insurance companies: 982.7 SRl bn. — Percent of GDP: 0.3 — Percent share: 0.2
  - Licensed money changers: 50.1 SRl bn. — Percent of GDP: 0.0 — Percent share: 0.0
  - AGIs: 3435.75 SRl bn. — Percent of GDP: 4.2 — Percent share: 34.0
  - Total: 3241,280.5 SRl bn. — Percent of GDP: 159.2 — Percent share: 100.0
  - Source noted as: SAMA. (Footnotes: Figures for end-2002 or November as specified in source.)
- Banking sector equity stakes and foreign investor shares (Table 3, selected lines):
  - Saudi commercial banks overall: Public sector SRl 23.0 (Percent share 18.8); Foreign investors SRl 403.3 (Percent share 99.9); Assets SRl 540.1 (Percent share 99.4).
  - National Commercial Bank: Public sector 79.3 (Percent share 0.0); Foreign investors 90.4 (Percent share 22.4); Assets 117.4 (Percent share 21.6).
  - SAMBA Banking Group: Public sector 20.3 (Percent share 23.6); Foreign investors 61.8 (Percent share 15.3); Assets 79.0 (Percent share 14.5).
  - (Table lists further banks with exact figures and percent shares; source: SAMA.)

### Banking sector portfolio behavior and soundness
- Three factors shaping portfolios:
  - Low-cost demand deposits (up to 40 percent of total deposits) fund assets and support profitability.
  - Economy's dependence on oil limits domestic risk diversification, necessitating high capital and provisioning.
  - Prudential arrangements: lending limits (including to connected parties), liquid asset ratios, SAMA approval for foreign lending, statutory caps on individuals’ indebtedness.
- Portfolio composition and trends:
  - Instalment lending accounts for some 30 percent of total loans.
  - Margin lending accounts for some 3 percent of total loans.
  - Household sector’s ratio of bank liabilities to disposable income doubled in less than two years.
  - General Share Price Index increased by 162 percent between end-2002 and end-September 2004.
- Asset quality:
  - NPL ratio has decreased steadily since 1998.
  - Provisions coverage of NPLs at 119 percent; considered high but appropriate.
  - Need for further work to assess loan concentration.
- Disclosure:
  - Transparency of credit risk on Sharia-compliant products could be improved.
  - New SAMA guidelines for consistent NPL classification and provisioning welcomed.

### Financial soundness indicators (selected Table 4 figures, 1999–2003)
- Capital adequacy:
  - Regulatory capital to risk-weighted assets: 1999: 21.2; 2000: 21.0; 2001: 20.3; 2002: 18.7; 2003: 19.3
  - Tier I capital to risk-weighted assets: 1999: 17.8; 2000: 17.1; 2001: 17.5; 2002: 17.3; 2003: 14.9
- Asset quality:
  - Net loans to total assets: 1999: 35.9; 2000: 34.5; 2001: 34.8; 2002: 36.7; 2003: 39.9
  - Gross NPLs to net loans: 1999: 11.4; 2000: 10.4; 2001: 10.1; 2002: 9.2; 2003: 5.4
  - Total provisions to gross NPLs: 1999: 88.0; 2000: 99.0; 2001: 107.0; 2002: 110.4; 2003: 136.0
- Profitability:
  - Return on assets: 1999: 0.9; 2000: 2.0; 2001: 2.2; 2002: 2.3; 2003: 2.3
  - Return on equity: 1999: 9.1; 2000: 21.0; 2001: 21.9; 2002: 22.2; 2003: 22.7
- Liquidity:
  - Liquid assets to total assets: 1999: 32.1; 2000: 31.4; 2001: 30.6; 2002: 30.3; 2003: 29.4
  - Customer deposits to loans: 1999: 140.7; 2000: 144.1; 2001: 138.8; 2002: 146.5; 2003: 137.9
- Sensitivity to market risk:
  - Foreign currency-denominated deposits to total deposits: 1999: 20.1; 2000: 18.6; 2001: 17.9; 2002: 18.2; 2003: 18.0
  - Net open foreign currency position to capital: 1999: 90.0; 2000: 81.3; 2001: 80.1; 2002: 23.8; 2003: 13.8
- Note: Table 4 source: Saudi Arabian authorities. Footnotes include that provisions exceed gross NPLs in 2001–03.

### Sharia-compliant finance (Box 3)
- Approximately 40 percent of deposits are non-interest-bearing, reflecting the Koranic prohibition of riba (usury).
- All Saudi commercial banks participate in Sharia-compliant finance; Al-Rajhi Banking and Investment Corporation offers only Sharia-compliant products and is the world’s largest in that sector.
- Segregation of non-interest-bearing deposits and dedicated Sharia branches/divisions and internal Sharia advisory boards are used across banks.
- Main Sharia-compliant investment vehicles:
  - Deferred sales: accounted for 46 percent of total Sharia-compliant banking sector assets at end-2003.
  - Murabaha transactions: accounted for 31 percent at end-2003.
- Sharia-compliant mutual funds:
  - 59 funds at end-2003 with SRl 39 billion of assets under management, accounting for 75 percent of total mutual fund assets.
- Sharia-compliant assets of banking sector (Table 5, percent of total banking sector assets):
  - On balance sheet: 1999: 11.2; 2000: 13.0; 2001: 15.0; 2002: 17.0; 2003: 21.0
  - Off balance sheet: 1999: 1.7; 2000: 2.1; 2001: 2.3; 2002: 2.0; 2003: 2.3

### Stress testing and resilience (Table 6 and narrative)
- Stress tests simulate credit, liquidity, and interest rate shocks using parameters from past Saudi experience.
- Key structural shock-absorbers:
  - Almost 40 percent share of low cost liabilities (demand deposits) is a substantial shock-absorber.
  - Low loan-deposit ratios and high levels of capital and provisioning.
- Summary of selected stress test stylized scenarios and outputs (as presented):
  - I. Credit risk shock:
    - Key assumption: ratio of total provisions to gross NPLs remains unchanged at its end-2002 value of 110 percent.
    - Key outputs:
      - System average gross NPLs to total loans (percent): 7.2, 12.2, 14.4, 21.5
      - Number of banks with CARs < 8 percent: 0,0,1,1
        - Aggregate assets (percent of system assets): ......21.5,21.5
        - Aggregate capital shortfall (SRl bn.): ......2.0,9.5
      - Number of banks with CARs < 13 percent: 0,2,2,7
        - Aggregate assets (percent of system assets): ...26.9,26.9,70.6
        - Aggregate capital shortfall (SRl bn.): ...2.0,4.3,13.9
  - II. Liquidity shock:
    - Key assumptions include: 100 percent of interbank deposits are unwound; 21 percent of gross foreign assets are liquidated; 80 percent of excess reserves with the SAMA are withdrawn; transient 500 b.p. increase in SRl interest rates reduces the market value of Saudi GDBs by 25 percent.
    - Key outputs include aggregate repurchase requirement with the SAMA (SRl bn.): ...29.3,45.8,63.0 (as shown).
  - III. Interest income shock:
    - Stylized: sustained reduction in world and domestic interest rates for one year.
    - Key outputs: Number of banks with CARs < 8 percent: 0,0,0,0; Number of banks with CARs < 13 percent: 0,0,0,0 (as shown).
  - IV. Combined shock:
    - Stylized: low oil prices and declining credit quality followed by deposit runs.
    - Key assumptions combine provisions at 110 percent, 100 percent interbank unwound, 80 percent excess reserves withdrawn, varying SRl interest rate increases reducing market value of Saudi GDBs.
    - Key outputs mirror Credit shock outputs: System average gross NPLs to total loans (percent): 7.2,12.2,14.4,21.5; Number of banks with CARs < 8 percent: 0,0,1,1.
- Overall conclusion from stress tests:
  - The Saudi banking sector is robust to a range of single or combined shocks.
  - Only one bank routinely underperforms and requires careful monitoring, given its systemic importance.
  - The banking sector’s exposure to the stock market remains limited and concentrated in banks that are not systemically important.

### Market infrastructure, liquidity arrangements, and SAMA facilities
- Domestic money markets are shallow; many banks manage liquidity primarily through derivatives trades.
- Interbank market turnover: about 1.5 percent of deposit liabilities at end 2003.
- Use of Treasury bills and certificates of deposit is negligible.
- SAMA monetary operations use repurchase and reverse repurchase agreements; benchmark rates include the Market-Related Repurchase Rate (MRRR) and the Reverse Repurchase Rate.
- Repurchase facility details:
  - Banks may tender up to 75 percent of the market value of eligible government securities portfolio as collateral for repurchase agreements with the SAMA.
  - The facility is actively used: in 2003 repurchase and reverse repurchase agreements between banks and the SAMA averaged SRl 1.9 billion and SRl 2.7 billion per day, respectively.
  - The facility effectively guarantees systemic liquidity; nonpenal pricing and SAMA acting as counterpart by default has encouraged reliance on SAMA.
  - Changing this incentive structure will be important in deepening systemic liquidity arrangements.
- Authorities’ view: deepening systemic liquidity arrangements was not a constraint to resilience at this stage of financial system development.

*Source: _cr06199 - 13. The nonbank portion of the system is dominated, in terms of asset size, by quasi- (PDF chapter content provided).*

### 21. The BCL details the regulatory and supervisory powers of the SAMA, including

### 40. The proposed introduction of a primary dealership system for government

### 40. The proposed introduction of a primary dealership system for government

### Debt market and primary dealership proposal
- The proposed primary dealership system could be used as an opportunity to overhaul the functioning of the debt market.
- SAMA’s pricing of its repurchase facility may be inhibiting market development.
- Policy linkages and market-making:
  - Appropriately priced access to the repurchase facility and other privileges could be linked to market-making obligations in the secondary market.
  - Consideration could be given to allowing primary dealers permission to take short positions.
- Broader intermediation and settlement:
  - Further liberalization of repurchase intermediation to nonbank institutions would help increase and diversify demand for government securities and their trading.
  - Tiered settlement arrangements for nonbanks under an independent direct account may be considered.

### Corporate bond market development
- The corporate bond market is still fledgling and requires amendments to the Companies Law.
- Historical and prospective private issues:
  - Saudi ORIX Leasing Company offered the first corporate bond issue in March 2003, in an amount of SRl 45 million, and plans to follow up with an SRl 50 million private placement before end-2004.
- Legal constraint:
  - Under Article 117 of the Companies Law, the total amount of bonds that a company may issue may not exceed paid-up capital.
  - The Minister of Commerce and Industry has the right to exempt any company from this article, and industrial and agricultural companies are currently exempt. The proposed Financial Leasing Law will also exempt leasing companies.
- Recommendations to support issuance:
  - Relieve the paid-up capital constraint, especially for financial institutions, including leasing companies.
  - Reduce cumbersome procedural requirements that keep issuing costs of short- and medium-term debt securities high (e.g., commercial paper, medium-term notes).
  - Broaden choice of financial instruments to better serve the economy and sectors underserved by banks.
  - Consider development of a credit ratings infrastructure to facilitate such instruments.

### Mutual funds
- Current regulatory context:
  - Mutual fund supervision relies substantially on SAMA’s overall supervisory control of local banks.
  - Only Saudi banks are permitted to publicly offer, manage, administer, or act as custodians of mutual funds. Offshore funds, public and private alike, can be offered domestically only through Saudi banks.
  - Mutual funds are collective contractual agreements between banks and unit holders, but do not form legal entities.
- Regulatory improvements recommended:
  - Public availability of more explicit and objective standards for mutual fund regulation would remove ambiguities and support market development.
  - More explicit enunciation of and public information on regulatory standards and arrangements for dispute resolution would be beneficial.
  - Consideration could be given to the benefits of organizing mutual funds into separate legal entities.
- Contextual note:
  - Regulations were introduced in June 1993 in a Ministerial Decree for Investment Funds and Collective Investment Schemes.

### Leasing operations
- Status and legal infrastructure:
  - A proposed Financial Leasing Law, now in draft form, is expected to address issues to accelerate leasing industry development.
  - Leasing activity is still negligible in size but growing.
  - Central registry for all types of “moveable” collateral is effective; there is no central registry for fixed collateral or leased assets other than land and buildings which can be registered with the Notary Public.
  - Standard leasing contracts have been formulated by the SAMA in consultation with the Sharia court to ensure compliance with the Sharia.
- Recommended enablers for a dynamic leasing industry:
  - Create a commercial register that governs financial contracts or leases secured by property (e.g., equipment, receivables).
  - Improve the enabling legal environment to ensure easier access of the lessor to the leased asset in the event of default.
  - Establish more transparent rules on the accounting for the tax treatment of leases.
  - Create a registry for fixed or leased assets.
  - Further clarity in these areas would help reduce administrative costs of leasing activity.

### SME loan guarantee scheme (SIDF)
- Scheme design and key features:
  - A loan guarantee scheme, to be managed by the Saudi Industrial Development Fund (SIDF), aims to promote commercial bank lending to the SME sector.
  - SME definition: companies having assets of SRl 50 million or less, a maximum of 250 employees, and a maximum turnover of SRl 10 million.
  - Key features include:
    - an initial contributions of SRl 200 million, funded half by the ten commercial banks (but in unequal shares) and half by the government;
    - a guarantee fee and SIDF handling charges to the banks of about 175 basis points;
    - guarantee ceilings of SRl 1.5 million and 75 percent of the underlying loan;
    - durations of seven years on fixed assets and four years on working capital;
    - possibly a cap on bank lending rates of 400 basis points over the Saudi Interbank Offer Rate.
  - Fund operations:
    - The Fund contributions will be invested by the SIDF to generate returns for the scheme.
    - Collateral, excluding owner-occupied residential housing, will be sought and held by the SIDF.
    - In event of default, banks will notify the SIDF, which will execute the collateral in accordance with the Public Collections Act, providing for an expedited collateral enforcement process without reference to the Sharia court.
    - Banks are to receive 75 percent of their loan within three months of a declaration of default.
  - Administrative note:
    - The Ministry of Finance issued a Ministerial Decision in June 2004 approving the program.
    - A Board of Advisors will be established and will, inter alia, debate the pros and cons of an interest rate cap.
- Financial sustainability and policy concerns:
  - The financial sustainability of the SIDF guarantee scheme and a possible use of an interest rate cap require careful consideration.
  - Expected revenues and losses would need to be assessed to analyze the evolution over time of the financial equilibrium of the scheme.
  - Worldwide experience: loan guarantee schemes are notorious for eroding their capital over time.
  - Risk and incentive considerations:
    - SME projects may differ greatly in risk profiles, even with the guarantee scheme.
    - The presence of caps may lead banks to “cherry pick” lending operations and promote distortions in the growth and evolution of the SME sector.
  - Recommendation:
    - It would be preferable, on a market basis, to avoid any caps and to allow competition among lenders to keep interest rate spreads low.

### Housing finance
- Current shortcomings:
  - Current resources and programs of the REDF are unable to keep pace with the demography of housing demand, while collateral issues impede bank lending to the sector.
  - REDF specifics:
    - The REDF provides zero interest, 25-year housing loans in amounts of SRl 200,000–300,000 to eligible Saudi households, financing up to 70 percent of the estimated construction cost.
    - The REDF’s outstanding portfolio of housing loans totaled about SRl 69 billion at end-2002.
    - In recent years, it has been extending new loans worth about SRl 2 billion annually, one-quarter the volume of new applications, resulting in an applicant waitlist that now stands at about ten years.
- Legal and market enablers:
  - Smooth property registration, transfer of title procedures, and the ability to transfer mortgage liens are core to an efficient residential mortgage market.
  - A current deterrence is the lack of a vehicle that recognizes creditor liens for owner-occupied property.
  - Recommendations:
    - Legal and judicial systems need to recognize creditors’ liens on owner-occupied residential property and permit and promote efficient, effective processes for protecting creditor rights in the event of default.
    - Ensure a level playing field for primary lenders to promote emergence of a competitive mortgage market.
    - Adapt prudential capital adequacy rules for banks’ assets collateralized by residential property to set the stage for risk-based pricing of longer-term loans.
- Additional regulatory frameworks:
  - As a new mortgage market develops, regulatory frameworks may need to be established for various real estate professionals (appraisers, mortgage brokers, realtors).
  - Insurance industry adaptation needed:
    - Government and SAMA restructuring of the insurance industry should enable extension of property title insurance or possibly mortgage insurance for residential housing loans.
  - Contextual note:
    - The authorities have recently established a committee comprising representatives of the Ministry of Finance, the Ministry of Interior, and the SAMA to study issues related to mortgage financing in the Kingdom, with a view to possibly introducing a Mortgage Financing Law.
    - The Implementing Regulations for the CIL were issued in April 2004, a new Insurance Supervision Department is being established within the SAMA, and corporate governance principles for the sector are pending.

### Institutional infrastructure — Credit information and risk management
- SAMA’s credit information systems:
  - Currently center on four negative lists:
    - (i) a “B” list for larger companies having credit facilities over SRl 500,000;
    - (ii) a “C” list for consumers (containing about 42,000 names) operated by the banks (with one bank as custodian) and under detailed terms of reference and criteria approved by the SAMA for listing and de-listing;
    - (iii) an “E” list for the employees of banks; and
    - (iv) a “M” list for merchants.
  - Access to the B, C, E, and M lists is open to all financial institutions regulated by the SAMA, including banks, financial leasing companies, and insurance companies.
  - A Credit Center complements the negative lists:
    - All transactions of individual and corporate borrowers in amounts of SRl 2 million and above are recorded and exposure assessed.
    - The Credit Center is an automated system that also checks for connected or related party lending.
    - Reporting by banks to the Credit Center on a monthly basis is mandatory.
- Transition to a positive bureau:
  - The new Saudi Credit Bureau, owned by banks, has been operational since March 2004 and has supplanted the “C” list with a positive list that will serve all sectors of the economy.
  - Participation will be mandatory for financial institutions but will be open to all nonfinancial companies as well.
  - The Saudi Credit Bureau will operate as a financial firm under the SAMA’s purview.
- SAMA encouragement:
  - SAMA has encouraged consolidation and expansion of the service to foster further development of the financial system and enhancement of its capacity to support economic growth.

### Institutional infrastructure — Corporate governance and dispute resolution
- Legal and institutional change:
  - Enactment of the CML and the CIL is changing the structural and legal composition of the Saudi Arabian financial market.
  - Both laws are significant tools for building commercial trust and are steps toward achieving compliance with IOSCO and IAIS principles.
  - Adoption of these laws signals a move from a social to a commercial trust framework to govern financial activity.
- Role of SAMA’s model and recommendations:
  - Insurance and securities markets should emulate SAMA’s model and leverage its built trust by requiring companies to meet stringent corporate governance standards.
  - A formal review of corporate governance is premature given ongoing reforms, but regulators are recommended to review and apply, where appropriate, the OECD Guidelines on Corporate Governance.
- Dispute resolution and enforcement gaps:
  - Specialized dispute resolution mechanisms and authority to resolve distressed businesses are of paramount importance to investors.
  - Areas not yet addressed include contract law, competition law, and testing for enforceability of rules to prevent bankruptcy.
  - Currently no codified regulations govern secured transactions, mortgages, pledges, or assignments.
  - CIL and CML provisions calling for creation of specialized Committees for Dispute Resolution are necessary innovations to settle disputes and enforce awards.
  - Both laws grant regulators authority to supervise compulsory or voluntary liquidation of broker businesses (securities) and to order winding up of insurance companies.

*Source: _cr06199 - 40. The proposed introduction of a primary dealership system for government*

### 58. In managing credit risk, the SAMA has outlined various rules and standards,

### _cr06199 - 58. In managing credit risk, the SAMA has outlined various rules and standards,

### Credit risk management and provisioning
- SAMA has outlined various rules and standards for managing credit risk that are largely consistent with the Core Principles.
- Legal framework:
  - Specifies requirements for credit exposures to connected parties but is silent on prohibition of lending to all connected parties on preferential terms.
  - Does not specify that approval for connected lending be carried out at the higher management/committee/board level.
- Loan-loss provisions and reserves:
  - SAMA requires all banks to formulate their own provisioning policies, which need to be reviewed and approved by their boards.
  - SAMA introduced a guideline on minimum standards for loan classification and provisioning to promote consistency.
  - Auditors are largely responsible for ensuring sufficient loan-loss provisions through the annual audit process and for ensuring banks comply with SAMA rules and regulations.

### Country risk and transfer risk
- All loans to nonresidents must be approved by the SAMA.
- Quarterly reporting through the ERMS of exposures to nonresidents facilitates SAMA supervisory activities, particularly offsite supervision.
- Requirement forces banks to manage exposures to nonresidents more actively.
- Onsite inspection facilitates verification of nonresident exposures.

### Supervisory expectations on governance and audit functions
- Banks are encouraged to follow Basel Committee principles and best practices.
- Required functions:
  - Internal audit function.
  - Independent credit review function.
  - Two approved external auditors who are rotated every three years.
- Internal audit and independent credit review teams must report to the audit committee.
- External auditors’ scope includes annual financial statement certification and certification for compliance with laws, regulations, guidelines, and SAMA circulars.

### AML/CFT and KYC
- SAMA is an active member of the FATF and issued a new AML Law and supplementary AML/CFT and know-your-customer guidelines during 2003.
- Onsite inspections by external auditors review banks’ AML and KYC policies, practices, and procedures.
- SAMA inspection manual is comprehensive in this area and SAMA has power to require correction of any deficiencies.

### Treatment of Islamic (Sharia-compliant) banking
- SAMA does not differentiate in implementation of the Core Principles between conventional and Islamic banking, with two occasional, non-material exceptions:
  - Banks are allowed to take certain risks to comply with Sharia principles (e.g., potential commodity risk from financing trades).
  - Banks are allowed to own and develop real estate to sell according to Sharia principles.

### Methods of ongoing supervision
- Supervision combines offsite monitoring and full- and limited-scope onsite monitoring; onsite can be performed by SAMA staff, external auditors, or jointly.
- Bank information is verified during full-scope or limited-scope onsite visits or annual external audits.
- Offsite monitoring:
  - Highly active and dependent on ERMS, in place since 1995.
  - Enables analysis of capital adequacy, country risk, market risks, asset quality, and other prudential requirements.
  - SAMA contacts banks regularly; offsite may trigger limited-scope onsite visits when concerns arise.
- Onsite cycles:
  - Full-scope onsite monitoring is not subject to a regular periodic cycle; in practice, cycle is every three years after issuance of a “correction report.”
  - Limited-scope onsite monitoring is conducted when preexisting concerns are present or requested by offsite unit.

### Legal powers and information requirements
- BCL provides SAMA general power to require any information it deems necessary, enabling solo and consolidated monitoring.
- Since Saudi banks do not currently have subsidiaries, “consolidated” and “true solo” are the same.
- SAMA does not have explicit power to supervise bank holding companies or sister companies.
- Reporting requirements are based on Articles 15 and 17 of the BCL; Article 14 requires appointment of external auditors to report on annual balance sheet and profit and loss account.
- SAMA requires banks to follow IAS and, in particular, IAS 39 for financial instruments.
- For independence, SAMA requires two external auditors selected from Ministry of Commerce approved list (in consultation with SAMA).
- External auditors must issue:
  - Certificates of compliance with rules and regulations.
  - Certificates for the adequacy of the provisions made.
- SAMA reviews and approves annual reports before publication and can commission external auditors to conduct special examinations.
- No specific provision to assess external auditors’ work quality, but SAMA could request such an assessment in practice.
- SAMA does not have explicit power to remove external auditors; alternative measures include removing auditors from the “bank approved list” or influencing bank to terminate services.
- SAMA’s relationship with external auditors follows Basel Committee guidelines “Internal Audit in Banking Organizations and the relationship of supervisory authorities with internal and external auditors, 2001.”

### Crossborder and consolidated supervision
- BCL provides means for SAMA to conduct supervision on a consolidated basis but lacks specific provisions for global consolidated supervision.
- Banks organized under BCL must notify SAMA for approval before establishing a subsidiary or branch outside Saudi Arabia.
- SAMA can supervise overseas branches of locally incorporated banks, including undertaking direct inspections.
- No legal provisions for formal contact and information sharing with other supervisors; SAMA has initiated close informal working relationships with foreign supervisors where Saudi banks operate.
- Recommendation: Consider formalizing current informal information-sharing arrangements with foreign supervisors to avoid confidentiality restrictions and facilitate on-site visits.
- Current informal arrangements have not impaired SAMA's ability to practice global consolidated supervision, including on-site inspections and sharing information with host supervisors.
- Foreign banking institutions are subject to similar regulatory requirements applicable to all banks operating in Saudi Arabia; SAMA has power to access any information on a subsidiary of a foreign banking institution.
- SAMA can share information needed by home country supervisors for consolidated supervision, but there is no written/legal requirement for a formalized information-sharing procedure; confidentiality is protected.
- SAMA can justify exchange of non-customer-specific information with foreign supervisors due to Saudi Arabia's membership in international organizations (e.g., IMF, Basel Committee) and such exchanges are approved by the Supreme Council of Saudi Arabia.

### Authorities’ responses and supervisory intentions
- Authorities agreed with main findings and considered the assessment comprehensive.
- Authorities viewed lack of a market risk amendment as not a material deficiency given small trading portfolios; considered country and transfer risks adequately monitored.
- Authorities indicated absence of explicit legal power arrangements has not historically hindered information exchange.
- Authorities indicated openness to consider recommendations and SAMA has:
  - Indicated intention to issue a circular on “Connected Party lending”.
  - Issued a draft circular on “Market risks” to Saudi banks for assessment of relevance.

### Recommended actions (summary of table entries)
- Objectives, Autonomy, Powers, and Resources:
  - Amendment of the BCL to clarify law, rules and regulation and to formalize regulatory procedures (1.1 Objectives).
  - Amendment of the BCL to minimize the influence of the Minister of Finance and National Economy (1.2 Independence).
  - Amendment of the Ministerial Decision on Rules Enforcing Provisions of the BCL to clarify scope of Article 16 BCL and to regularize non-credit matters under Article 3 (3) (1.3 Legal framework).
  - Amendment of the BCL or Ministerial Decision to address legal protection for supervisors (1.5 Legal protection).
  - Amendment of the BCL to clarify legal gateways for exchange of information (1.6 Information sharing).
- Permissible Activities:
  - Amendment of the BCL to update definition of “deposit.”
- Licensing Criteria:
  - Amendment of the BCL to align different capital requirements for domestic, GCC and foreign applicants.
- Ownership:
  - Amendment of Article 10 and 11 of the BCL to require supervisory approval and immediate notification for changes in ownership or voting rights over a threshold.
- Capital Adequacy, Credit Policies, Connected lending:
  - Introduce capital requirement for market risk.
  - On-site verification should be more frequent.
  - Regulations should explicitly give SAMA discretion to interpret definition of connected parties and introduce regulations as needed.
- Country Risk:
  - Require banks to address country or transfer risk formally.
  - Increase frequency of on-site verification and drive examination planning by risk-based methodology.
- Consolidated Supervision:
  - SAMA should consider having specific powers to deal with mixed groups or non-bank affiliates.
  - Update BCL to allow SAMA to exchange information with foreign supervisors.
- Accounting Standards:
  - Formally set requirements for external auditors to report breaches and all information of potential supervisory interest to SAMA on a timely basis.
- Globally Consolidated Supervision:
  - Address explicitly in BCL or Ministerial decision SAMA’s authority to supervise Saudi commercial banks on a global consolidated basis.
- Host Country Supervision:
  - Formalize current informal information-sharing arrangements with foreign supervisors through a MoU or exchange of letters of intent.

### Payment systems: SARIE, SPAN, and non-cash instruments
- SARIE (Saudi Arabia Riyal Interbank Express):
  - Provides real time gross settlement (RTGS) for Saudi Riyal transactions; operated and regulated by SAMA.
  - ERMS in place since 1995 supports offsite supervision (context).
  - Went into operation in 1997; functionalities and services continuously enhanced.
  - Fully integrated RTGS with open and scalable architecture.
  - Processes both credit transfers and direct debits; permits banks to make intermediate payments over SAMA-held accounts.
  - Acts as backbone for other payment and settlement systems; processes banks’ net positions in ATM/cards, cheques clearing, securities settlement for equities and government securities into a single interbank settlement position settled through SAMA accounts.
  - As an RTGS scheme, finality is achieved once settlement account entries are made; payments cannot be revoked after debit; confirmations sent to both banks; execution time is within seconds.
  - Intraday credits:
    - Banks have access to intraday credits provided by SAMA, fully collateralized by government debt instruments.
    - Maximum intraday limit in the system is relatively high, SAR 14,9 billion, compared to needs averaging SAR 5,3 billion.
    - Participants also have access to repo transactions with SAMA if exceeding limits.
    - No liquidity pressures experienced since SARIE operation began.
  - Participants and volumes:
    - SARIE has 12 participants: 11 commercial banks and the SAMA.
    - Interbank payments must be settled through SARIE; only banks are accepted as participants.
    - Total daily value of transactions averaged SAR 21,4 billion.
    - Interbank transactions averaged SAR 19 billion; customer payments averaged SAR 2,4 billion.
    - The remainder is SAMA Debits; Direct Debits value is currently negligible.
    - Customer payments account for 95 percent of total transaction volume processed by SARIE.
    - Share of the largest 5 banks in interbank payments processed by SARIE is 72 percent in value and volume terms.
  - Trends and expectations:
    - Trend for SARIE transactions in value and volume expected to have stable growth in near future.
    - SAMA anticipates interbank payments to slightly increase in both value and volume.
    - Customer payments grew positively over last three years and are expected to grow between 15 percent and 20 percent.
    - Direct Debit functionality is undergoing revitalization and expected to increase substantially.
- SPAN (national ATM/EFTPOS network):
  - SAMA set up SPAN in 1990 and enhanced it in 1993 to support point of sale transactions.
  - SPAN is a neutral national transaction system with full interoperability between ATMs of all banks.
  - In 2003:
    - Over 3200 ATM terminals in SPAN.
    - Processing over 134 millions transactions annually for a total value of SAR 80 billion.
  - SAMA initiated a project to enhance SPAN to broaden ATM and EFTPOS services, allow centralized bill payment and cash-back at EFTPOS terminals, implement smartcard-based credit and debit cards, and introduce new electronic channels including e-commerce and m-commerce banking transactions.
- Cheques:
  - Cheque payments have decreased in importance since SARIE introduction in 1997.
  - Cheques are cleared at local house maintained at each SAMA branch; clearance in three largest branches is automated.
  - Automated clearing houses (ACH) account for bulk of cheques cleared in volume and value; remaining cheques cleared manually.
  - Banks’ net positions from cheque payments are settled in SARIE.

*Source: _cr06199 - 58. In managing credit risk, the SAMA has outlined various rules and standards,*

### 78. The mission has found that SARIE observes the applicable Core Principles. In

### _cr06199 - 78. The mission has found that SARIE observes the applicable Core Principles. In

### Payment system governance: SARIE and SAMA oversight
- The mission has found that SARIE observes the applicable Core Principles.
- The four responsibilities of the central bank are observed.
- Identified governance improvements:
  - Having a formalised Board of Governance of SARIE composed of Senior Executives from SAMA and banks would create an independent corporate structure where banks are involved in the management of SARIE.
  - A dedicated Board for SARIE would:
    - increase awareness among policy makers about the crucial importance of SARIE for the Saudi financial market;
    - increase clarity in respect with the decision making and ultimate responsibilities to define and implement payment system policy.
  - This model would be in line with international practice.
- Legal/charter clarifications suggested:
  - SAMA may consider stating explicitly in its Charter or other relevant legal documentation its oversight role and objectives in the field of payment and settlement systems to increase clarity regarding its regulatory competencies in the domestic market and to foreign market players and relevant public authorities.
  - Historical context: So far, there were no need to formally specify SAMA’s competencies in the field of payment and settlement systems, as SAMA was the sole body in Saudi Arabia operating and regulating different segments of the capital market infrastructure such as payment systems, clearing houses, stock exchange and securities settlement systems.
- Organizational suggestion:
  - SAMA could consider setting up a dedicated “Payment and Settlement Systems Oversight Team” responsible to define policy, issue regulations and monitor all the payment and settlement systems operating in the Kingdom, including SARIE, SPAN, Clearing House, Tadawul’s securities settlement systems, SAMA’s settlement system.
  - The Oversight Team would be composed of staff from different business areas within SAMA such as from the Banking Technology, Banking Supervision and Economists.

### III. TRANSPARENCY IN MONETARY AND FINANCIAL POLICIES — General responsibilities and practices
- Legal basis and objectives:
  - Monetary and financial policies are the responsibility of the SAMA, according to the SAMA Charter, issued by Royal Decree No. 23 dated 23/5/1377 (15/12/1957) and integrated by subsequent decrees.
  - SAMA’s responsibility is to stabilize the external and internal value of the SRl.
  - Charter objective: to “regulate commercial banks and exchange dealers” (Article1).
  - Article 3: one of SAMA functions is “to regulate commercial banks and exchange dealers as it may be found appropriate”.
- Monetary policy implementation and instruments:
  - SAMA maintains a fixed exchange rate of the Riyal against the U.S. dollar.
  - To maintain the parity, SAMA adjusts the interest rates applied to its facilities broadly following U.S. dollar interest rates, although spreads between U.S. dollar and Riyal rates may vary according to the market demand for the Riyal.
  - SAMA influences banks’ liquidity mainly through its Repo and Reverse Repo facilities.
  - In addition it may conduct foreign exchange swap and mobilizes accounts of public entities with commercial banks.
  - Banks are subject to reserve requirements.
- Scope of SAMA activity:
  - Until now SAMA was the only financial agency. Its activity extends over the supervision of banks, mutual funds and the oversight of the payment system.
  - Under the recently promulgated Law on supervision of co-operative insurance companies, new responsibilities have been given to SAMA to regulate insurance companies.
  - The recently approved Capital Market Law has introduced a new agency dealing with the supervision of stock market (its relationships with SAMA are covered in the legislation).
- Transparency practices:
  - SAMA observes most of good transparency practices related to these responsibilities.
  - Objectives are clear and their relations with the conduct of monetary policy are explained in publications and speeches.
  - Objectives in financial policies are outlined in various laws, which while referring to the regulation of commercial banks may be extended to the oversight of the payment system.
  - SAMA provides ample explanations regarding its activity in its Annual Report and the institutional framework is understood by market participants and the public.
  - The role of the Minister of Finance could be addressed in SAMA publications.

### Clarity of roles, responsibilities, and objectives
- Findings:
  - The ultimate objectives and the relations to the actual conduct of monetary policy are clear and the institutional framework is explained in the texts of several laws and in SAMA publications.
- Recommendations:
  - SAMA may consider publishing a comprehensive publication of the institutional framework and characteristics of the Saudi Financial markets.
  - If SAMA decided to publish a Quarterly Bulletin, it may consider including articles regarding the Saudi financial system (and mention of the role of the Minister of Finance).
  - Present in the Annual Report some considerations regarding the investments of the profits that are generated in the conduct of its activity.31

### Open process for formulating and reporting monetary policy decisions
- Findings:
  - Most good transparency practices for formulating and reporting monetary policy are observed.
  - SAMA uses a variety of communication channels to explain its practices and to announce its decisions.
  - The Annual Report is the main vehicle, complemented by speeches of senior officials of SAMA.
  - The Annual Report is published only once per year and, as an accountability document, is subject to delays.
- Recommendations:
  - Publish a quarterly publication (e.g., a Quarterly Economic Bulletin) focused on monetary policy and on the main economic developments to inform market participants and the public with short lags.
  - Publish a technical booklet reviewing the instruments and procedures for the implementation of monetary policy, covering features such as characteristics of facilities, criteria for access to the facilities, and list of collateral.
  - Post such information on the website, complementing existing website material (including BIS papers on monetary policy operations in Saudi Arabia).

### Public availability of information on monetary policy
- Findings:
  - SAMA publishes a wide amount of information in the Annual Report and its two statistical publications, the Monthly and Quarterly Bulletin.
  - SAMA has launched a website that is being upgraded continuously, which includes the Monthly and Quarterly Statistical Bulletin and the statistical section of the Annual Report.
  - SAMA balance sheets data are provided with short delays and include the relevant entries for end of period stocks.
  - Main shortcomings:
    - Availability of data covering the transactions made by SAMA (i.e., the amount of liquidity provided or withdrawn in given period of time with a breakdown of the different instruments used) — only data in the Annual report are available.
    - Foreign reserves data are not as detailed as requested by the IMF DDS.
  - SAMA has started the practice to post selected speeches of senior officials on the website.
  - Systematic publication of prudential circulars on the website is a very welcome development.
- Recommendations:
  - SAMA may consider subscribing to the data dissemination standards of the IMF.
  - Continue posting publications, speeches and prudential regulations on the website.

### Accountability and assurances of integrity by the central bank
- Findings:
  - SAMA publishes audited balance sheets, including a summary of profit and loss accounts, broadly complying with transparency requirements concerning the publication of financial accounts.
  - The profit and loss account is very aggregated.
- Recommendations:
  - Consider publishing more details of the profit and loss account.
  - Provide in the Annual Report some information regarding sound practices concerning internal audit and the conduct of employees, without necessarily providing detailed accounts.

### B. Authorities’ Response and Recommended Next Steps
- SAMA recognizes the importance of explaining monetary and economic developments to the general public and is considering adding a quarterly publication and enhancing availability of material related to its instruments.
- Feasibility of such initiatives to be assessed against availability of resources.
- Many preliminary recommendations (e.g., availability of speeches, regulations and data) have already been implemented by SAMA over the past few months; the mission strongly encourages SAMA to keep the current momentum.
- SAMA will most likely post information on the rules of conduct for its employees on its website to facilitate public access.
- SAMA is considering providing some information about its internal audit practices in its Annual Report.
- The feasibility of publishing details of the profit and loss account has to be further checked.

### Table 2. Recommended Actions to Improve Observance of MFP Transparency Code — Monetary Policy
- I. Clarity of roles, responsibilities and objectives of central banks for monetary policy.
  - Enhance disclosure of information on the criteria for the distribution/investment of surplus in the Annual Report.
  - Publish a comprehensive study of the regulatory framework of the financial system of Saudi Arabia.
- II. Open process for formulating and reporting monetary policy decisions.
  - Publish a Quarterly Economic Bulletin on economic, monetary and financial developments in Saudi Arabia.
  - Publish a booklet on monetary policy operations in Saudi Arabia.
- III. Public availability of information on monetary policy.
  - Enhance publication of data on central bank transactions.
  - Subscribe to GDSS and SDSS of the IMF.
  - Continue the practice of posting on the website publications, speeches and prudential regulations.
- IV. Accountability and assurance of integrity by the central bank.
  - Publish rules of conduct for SAMA employees.
  - Cover internal audit practices in the Annual Report.
  - Publish more details of the profit and loss account.

*Source: _cr06199 - 78. The mission has found that SARIE observes the applicable Core Principles. In*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2006/_cr06199.pdf_