DIFC Moves Ahead With Plans To Set Up Legal Framework

VOL. XLV

No 21

27 May 2002

UAE

DIFC Moves Ahead With Plans To Set Up Legal Framework

The Dubai International Financial Center (DIFC), which was officially launched on 16 February (MEES, 25 February), is moving ahead with its setup plans and has started to draft the laws that will govern its various roles as regulator, stock market provider and licenser. This month, it appointed international law firm Clifford Chance to assist on the legal side, and completion of the legal framework is scheduled for the last quarter of the year, which should enable the DIFC to license financial institutions by year-end. The preparation of a full legal blueprint is expected to be finalized by the end of May and regulations will be based on international standards, such as the OECD, Financial Action Task Force (which combats money laundering), Basel II and UK’s Financial Services Authority. “We must comply with international standards in order to attract the world’s top 500 institutions,” DIFC’s chief operating officer Husain al-Qemzi told MEES. He said that regulations fall into four tiers, including a basic bill of rights, commercial and corporate laws, a financial services act (to be modelled on international business centers in the UK and Singapore) and separate laws which govern different activities such as insurance, asset management and banking.

While Dubai is a tax free area, the DIFC is steering clear of attracting companies simply looking for a tax haven. “It will be heavily regulated, but just happens to be a tax free zone,” noted Mr Qemzi. The UAE Central Bank will not govern the DIFC, given that it only regulates banks and would not have jurisdiction over other DIFC activities such as bourses or insurance, he said. Mr Qemzi noted that in Dubai, exchanges are regulated by the Financial Stocks and Commodity Authority and for other sectors, such as reinsurance and asset management, the appropriate regulator is unclear. The DIFC’s aim, he pointed out, is to be an independent autonomous regulatory agency which will govern these different activities from one institution, similar to a “free trade zone area.” The upper tier of government will be provided by a regulatory council chaired by Ian Hay Davison (formerly of Lloyds of London insurance market), which will meet in Dubai six times per year and will appoint a commissioner responsible for day-to-day operations. The DIFC will initially employ 24 regulators, although the number is expected to expand to 40-50. Mr Qemzi would not disclose how much funding the DIFC is receiving or how much the entire project will cost Dubai.

The DIFC plans to open a stock exchange, but it will be “virtual” or electronic market and will not have a trading floor, notes Mr Qemzi. The DIFC wants to retain only a minority stake in the stock market and plans to leave its running to a technology platform specialist, and is therefore in discussions on the project with the world’s major exchanges. It hopes to sign a deal with one of these exchanges before the end of the year and have the trading platform operational by mid 2003. Mr Qemzi sees no conflict with Dubai’s currently operating stock market or other stock markets in the Middle East, which are denominated in local currencies and impose restrictions on international investors. “The Dubai stock market services the domestic UAE economy and is denominated in dirhams. The DIFC will have more of a global role and I don’t see us in competition,” he said.

The DIFC stock exchange would provide a platform for stocks traded in dollars and euros and its goal would be to attract foreign companies to invest in shares of local companies. According to Mr Qemzi, local companies are likely to prefer to attract international investors through a local stock exchange because their brand names are unlikely to be recognized if they were to list on foreign stock exchanges, like the New York or London stock exchanges. He sees the DIFC stock exchange helping to fill the time gap in the international market with the close of Far Eastern markets and opening of Asian markets. While the DIFC wants to keep a minority stake in the proposed stock market, it would leave its management to its partner, he notes. He envisages that both stocks and bonds would be traded on the exchange, which could provide a vehicle for the listing of companies in the utility and financial sectors slated for privatization.

The World Bank gave the DIFC a boost this month when its president, James Wolfensohn, expressed an interest in being the first institution to issue a bond on the DIFC in the area of $100mn. The bond would be raised on the DIFC market through investment banks and the proceeds would be used to fund World Bank projects. DIFC is to meet with the World Bank in Washington sometime this year to discuss further details, Mr Qemzi said.

While the DIFC’s stock market plans have attracted the most publicity, especially after the World Bank’s show of interest, the main area of DIFC activity is expected to be provision of licenses and services for foreign companies in Dubai. It will essentially be a “one-stop shop” for licensing, liaising with regulators, visas and other administrative procedures, so that companies are not forced to go through multiple parties in setting up operations in the region, according to Mr Qemzi, who noted that red tape is regarded as one of the hindrances to setting up business operations in the Middle East. The DIFC’s primary focus will be to assist asset managers set up operations, aid those involved in the underdeveloped Islamic finance sector (where more infrastructure development projects could be funded through new Islamic instruments) and provide back office functions so that Dubai becomes a location of choice for the global back office functions of banks and other financial institutions. The DIFC also aims to become the regional centre for re-insurance and for innovative insurance product development, such as Islamic-compliant policies. The DIFC currently employs 10 workers and on the service side plans to expand that to around 30 when it is fully operational.

So far over 65 Fortune 500 global financial institutions have expressed strong interest in setting up operations in the DIFC, a DIFC press release noted this month. Around 60% of the interest has come from asset management companies, with insurance also well-represented, noted Mr Qemzi. While the DIFC has not yet been approached by any oil companies, institutions needing to raise bonds for gas and utility projects are likely to be interested, he predicted. He hopes to attract foreign investment banks which serve the region, noting that many banks are currently serving the Middle East through operations in London. Advisory board member Kenneth Courtis, vice chairman Asia of Goldman Sachs, said that “the DIFC has put in place a well thought-out regulatory and legal framework and has attracted some of the best talent to run it. There is no doubt that global fund managers will find the DIFC the only market in the entire region with internationally accepted characteristics.”

As it moves ahead with its setup plans, the DIFC’s assorted roles of regulator, stock market provider and licenser have led some to suggest it is failing to focus on a single area of expertise and spreading itself too thinly. However, DIFC executives argue that its various roles are interrelated and point out that they will fill big gaps in the marketplace not just in Dubai itself but the Middle East in general.

The DIFC is hoping to build a “certain interdependency” between its separate activities, Mr Qemzi said. He played down the notion that the goal of filling the time gap in the financial markets is ominously reminiscent of the subsequently scrapped Abu Dhabi Saadiyat Island financial center (MEES 25 February and MEES 3 April, 2000), and simply suggested that both the DIFC and Saadiyat “reached the same conclusion of need.” He also pointed out that Saadiyat was primarily touted as a banking center, while the DIFC will have a wider scope.

Mr Qemzi sees the DIFC’s role as key in Dubai’s campaign to reduce its dependence on oil from the current 15% of GDP to 1% of GDP in 2010, noting that it will help boost the contribution of finance to the economy, which now represents 10% of GDP. He noted that Dubai needs to build on its existing infrastructure and boost its financial sector by bringing in a workforce with greater expertise. While the DIFC and the Financial District being constructed in Dubai are unrelated, the DIFC will move into the Financial District, and reap the benefits of being in such a site, once the project is completed.