The UAE central bank has delayed bank targets for increasing capital reserves as a buffer for surprise losses and changed the proportion of Tier 1 capital which banks need to set aside.

The rule, which will initially require banks to maintain a Tier 1 capital adequacy ratio of 7 per cent, was added as a measure of 'prudence and caution', the central bank said, as it strives to restore confidence among lenders and spur lending.

A circular issued by the central bank on Sunday, obtained by Reuters, said banks should work toward increasing their overall reserves to 11 per cent by September 30 and that the Tier 1 component should be at least 7 per cent.

Previously, the deadline was June 30.

Banks are required to set aside a portion of their loans or other assets as a safe form of capital that can be used in an emergency should those loans default. That capital is categorised into tiers according to how secure it is.

Up to now, banks in the UAE did not have a fixed target for Tier 1 capital; rather, the previous rules required that Tier 2 capital be no more than two thirds of Tier 1.

Under the latest guidelines, banks are also required to achieve an overall capital ratio of 12 per cent of risk-weighted assets by June 30, 2010, of which at least 8 per cent must be Tier 1, the circular said.

The Ministry of Finance in October last year made available some Dh70 billion ($19 billion) in deposits for banks but on condition that banks that tap into this must increase capital reserves to 11 per cent by June 30, 2009.

'Based on the coordination between the central bank and the ministry of finance, and in view of the existing global financial crisis which continues to adversely affect various economic sectors, (it) requires further prudence and caution,' the circular said.

Bankers said the central bank wanted to ease liquidity and boost lending and had taken other recent measures to bring down interbank lending rates, or EIBOR, and interest rates on liquidity support facilities.

'The change to Tier 1 will give banks flexibility and release liquidity into the financial system -- but don't expect banks to start lending at full throttle,' said a senior Abu Dhabi-based banker.

Another banker said high capital requirements were good for banks by making them a 'safe bet', even if it does not create optimal utilisation of capital. – Reuters