Bahrain: Proving Ground

Bahrain is nurturing its fintech sector with agile and progressive regulation, seeking to build a strong regional hub for innovation.

It might seem out of character, but bank regulators in Bahrain are leading their country through a dizzying series of reforms and initiatives designed to encourage innovation and entrepreneurship in fintech.

The Central Bank has created a new fintech and innovation unit, along with a regulatory sandbox for fintech firms. It has released new regulations for crowdfunding and draft rules for cryptoassets. It intends to roll out open banking before the end of this year. The initial phase of a national online know-your-customer system is on the horizon.

“The Central Bank and the authorities have been looking to bring about changes,” says Gurumurthy Jayaraman, who goes more often by Guru Jay, group head of technology at Ahli United Bank, a top local institution.

“The last two years or so, things have been happening,” says Khalid Saad, CEO of Bahrain FinTech Bay (BFB), a hub launched as a public-private partnership a year ago. The goal, he adds, is “to futureproof the financial sector and reposition the country as an innovator.” It is also part of a broader effort to diversify the economy of the Middle Eastern island nation and reduce its vulnerability to fluctuating oil prices.

Regulatory changes are encouraging the embrace of fintech, Rasheed Al Maraj, governor of the Central Bank of Bahrain, said at the Gateway Gulf Investor Forum in Manama, the capital, last year. But ultimately, he added, “what matters is the value [new technology] brings to improve the quality of people’s lives.” Beyond economic diversification and growth, broader goals include job creation and financial inclusion.

There`s a long way to go, but early returns show progress. BFB has over 50 established partners, including big names such as American Express, Cisco and Microsoft. Of its 28 associated startups, two have “graduated” beyond the hub—one in open banking, the other a cryptoasset exchange. While numbers are not broken out for fintech specifically, the kingdom’s Economic Development Board reports foreign direct investment in Bahrain reportedly saw year-on-year growth of 138% during the first nine months of 2018. “One of the biggest successes has been a mindset shift in the last year,” says Saad.

Jay described Bahrain`s regulatory environment for fintech as “progressive” and “friendly.” Some new rules, such as those for crowdfunding, have been drawn up in collaboration with the industry, with the help of the Bahrain Economic Development Board (EDB), according to Dalal Buhejji, senior manager for Financial Services, Business Development, at the public agency, and chairperson of the Women in Fintech Initiative. That collaboration has led some analysts to assume regulators will go easy on the sector.

The IMF offers praise while encouraging vigilance. “Ongoing efforts at supervisory and regulatory vigilance, and to further enhance the AML/CFT [Anti-Money Laundering/Countering Financing of Terrorism] framework, are welcome,” says Bikas Joshi in his report as head of an IMF mission that visited Manama in February. “Bahrain has been a leader in fintech, promoting opportunities while revising regulations and collaborating with other regulators.”

Indeed, clear rules provide welcome stability. “Even companies that have been around for a while always want regulation,” says the EDB’s Buhejji. “It gives comfort to their customers. But the regulations need to support growth.”

Diversification with a Backbone

An oil-rich island nation of 1.6 million people set in the Persian Gulf between Saudi Arabia and Qatar, Bahrain was forced to lean on neighbors to calm debt and currency markets when low petroleum prices helped push its public finances into disarray. Economic growth dropped to under 2% in the final quarter of 2018, according to the IMF, and is projected to remain there through 2019.

This has prompted officials to reinforce diversification efforts. Fintech counts among the priority sectors targeted, along with manufacturing, logistics, information and communication technologies, tourism, health care and education, according to Buhejji.

Financial services account for nearly 17% of GDP, ranking behind only oil and gas, at 19% to 20%. The central bank counts close to 400 institutions under its regulatory wing, including a laundry list of international blue chips such as Standard Chartered and JP Morgan. Once a true regional hub for financial services, Bahrain has lost ground to Dubai; but the sector’s backbone remains strong. “Bahrain has been a financial hub in the region going back five decades,” says Saad. “Bahrain has a long tradition in financial services.” The country could recover its place vis-à-vis Dubai by using “fintech that is forward looking … as a launching pad,” suggests Ahli United’s Jay.

Fintech also helps in appealing to a new generation of Bahraini wealth, “young inheritors and creators who are not satisfied with the products offered,” according to April Rudin, CEO of The Rudin Group, a marketing firm for the global financial-services industry. “They can finance themselves and hold a few different roles,” Rudin says. “They can be entrepreneurs and venture capitalists, and also customers.”

The innovations of fintech deliver efficiencies across the board. “There’s an ever-growing consumer demand in the area for an improved banking experience,” says Wissam Khoury, managing director for the Middle East, Africa and South Asia at Finastra, a global financial-services software firm. “[It] has led banks to explore collaboration with fintechs and adopt new innovative solutions.”

Ahli United, Jay says, approaches fintech as an opportunity rather than a threat. “Startups are often seen as competition, but we see them as collaborators,” he says. “We are not able to deliver on the same basis at the same cost. It is good synergy.”

Even the most enthusiastic boosters realize a little country like Bahrain can`t go it alone. “We are a small place but a good test bed. In a way, Bahrain is similar to Singapore,” says Saad. “At the end of the day we’ll never have the scale of Saudi Arabia. But we want to be a platform with progressive regulations, and we welcome a lot of new ideas.”

In part to ensure regional and international expansion, FinTech Bay and the EDB are both pursuing international links. The initial founding partner for the BFB was the Singapore-based FinTech Consortium. Saad described more recent accords in the works in Silicon Valley, Detroit and Singapore.

Following the lead of the UK Financial Conduct Authority, Bahrain joined a dozen other countries last year in the Global Financial Innovation Network. Saad described it as a “global sandbox to encourage cross-border testing of applications.”

The EDB has signed agreements for fintech cooperation with groups in India, Abu Dhabi and Singapore, according to Buhejji. “Fintech needs that kind of collaboration to focus on scale and create a unified vision,” she says.

Islamic finance offers a clear opportunity for Bahrain`s emerging fintech sector. In a report released last year, the EDB claimed that the country is the leading Islamic finance hub in the Middle East North Africa region and number two worldwide, citing the Islamic Finance Development Report and Indicator, by Thomson Reuters and the Islamic Corporation for the Development of the Private Sector.

A recent example of progress on this front, according to Khoury, is the partnership between the Bahrain Islamic Bank and PayPal to expand the bank’s digital offerings and offer additional services. Last year, BFB launched the Global Islamic and Sustainable FinTech Center with over a dozen international partners. “We want private projects,” says Saad. “It is still in the early stages.”

“A key opportunity for the Bahrain market is the implementation of fintech solutions through Shariah-compliant procedures,” says Khoury. “Blockchain technology, for example, can be used to enable Islamic financial institutions to improve transaction transparency. Smart contracts can also be effectively implemented for Islamic contracts, which are enforced on Shariah laws, enabling seamless execution of extensive contractual obligations.”