Mortgage guarantee scheme: a case for transforming the Oman Housing Bank into a credit guarantee scheme to support Vision 2040

Oman’s Renewed Renaissance is continuing at a brisk pace with the announcement of several new Integrated Residentials Neighbourhoods (known as Sorouh) and various other development projects announced this month. These announcements support Vision 2040’s direction of transforming the Ministry of Housing and Urban Planning (MoHUP) into being primarily a policymaker and regulator while the private sector becomes the primary provider of housing and real estate development. This direction is supported further by the Oman National Spatial Strategy and the establishment of the Oman Real Estate Development Service Center in MoHUP.

As Oman continues to shift towards more private sector led development, off-plan and secondary housing sales will become a much more important mode of achieving home ownership. This shift toward pre-build was further accelerated when the requirements for Omanis to be granted land from the Government was tightened in 2021. Navigating this careful path between supporting private sector led development while maintaining the historical social contract of home ownership being a “perceived right” will be critical for Oman. While this shift may increase the cost of home ownership for some, it will also allow for home ownership to occur earlier for many Omanis – rather than having to wait years (or even a decade or more) for the potential windfall of granted lands – while also providing access to better planned communities and more valuable social amenities.

One question that needs to be addressed, however, is how will Omanis finance the purchasing pre-built housing? Doing so will require more financing to be available than is today.

The Oman Housing Bank (OHB): a social pillar

The Oman Housing Bank (OHB) is a financial institution in Oman that specializes in providing financing and support for housing. It was established in 1977 under the Oman Housing Law with the aim of promoting and facilitating housing development. As such, the OHB is a government run bank that accepts deposits and grants loans for building (or purchasing) houses at subsidized rates for Omanis. Rates range from 1% to 4% depending on the income of the household.

OHB had over OMR 305M in shareholder equity (i.e. paid in capital, retained earnings, and reserves from the Government) against a loan portfolio of OMR 650M of mortgages at the end of 2021. To achieve this scale of loan portfolio, the bank has approximately OMR 316M in debt owed to various creditors – including the Government of Oman, banks, and NGOs. The bank does run a profit, but also has overhead costs of over OMR 6M/year; staff in the MoHUP and MoF also provide various support to OHB that is not captured in its financial statement.

The importance of the OHB in the housing market cannot be overstated. While the total size of the mortgage market in Oman is difficult to find reported explicitly, I estimate:

• Bank Muscat – which accounts for approximately 35% of the banking market – has approximately OMR 1.9B in residential mortgage loans outstanding as of 2022 (18.9% of gross loan book per the Bank’s 2022 Annual Report).
• The entire banking sector has approximately OMR 4.0B in residential mortgages outstanding as of 2021 (around 17.5% of lending in 2021 per the Central Bank’s 2022 Financial Stability Report).

This suggests lending by OHB is equal to 15% of the conventional banking sector – a significant amount. The prominence OHB plays in the market has significant social costs:

• Deposits and lending by the conventional banking sector are lower than they otherwise could be due to Government crowd-out.
• OHB and supporting ministries add additional costs to the mortgage market (overhead costs) that could be more efficiently delivered through the banking sector with lower economic and financial costs to society.
• The opportunity costs for Government and society incurred by running the OHB is high: the capital adequacy ratio is 71% compared to the banking sector’s 19% - suggesting lending by the OHB isn’t nearly large as it otherwise could be if handled in the same manner as banks through factional lending.

That said, these costs provide one very important benefit for society: easy and affordable access to housing loans for tens of thousands of low- and middle-class Omani families.

Could there potentially be a way for Government to…

• Still offer a pathway for housing loan access to low- and middle- class Omani families; while,
• Lowering the overall cost of offering such loans; and,
• Lowering the overall opportunity cost to society…

…in order to support the shift envisioned for the housing market under Vision 2040?

Mortgage Guarantee Schemes

One such option is to transform the OHB into a mortgage guarantee scheme. Dozens of countries around the world offer government-backed credit guarantees for mortgage loans to support housing affordability and stimulate the real estate market. Examples include the United States, most European countries, and many emerging market countries. Mortgage guarantee schemes are a type of credit guarantee where the Government guarantees all or a portion of a loan offered by a lender (in this case a bank) in exchange for greater lending availability or lower interest rates. The bank can extend a loan it either a) would not otherwise offer or b) would only offer at a higher interest rate; this is because the government will step in if the borrower defaults, thereby lowering the risk profile of the borrower.

Mortgage guarantee schemes are low risk over the long run as housing:

• Is a primary expense that most households are unlikely to default on;
• Does not “move” – making it easy to repossess and sell on default;
• Usually appreciates in value over the long run; and,
• Is lending that be managed through the Central Bank’s existing macro-prudential and banking supervision/risk management framework.

Mortgage guarantee schemes are also capital efficient too: they usually do not require extensive paid-in capital or retained earnings as they can be financing via a fixed fee charged to the property buyer at purchase.

In short, moving towards a credit guarantee scheme should:

1. Enhance the lending capital of banks and the overall market.
2. Improve access to mortgage finance through the traditional banking sector.
3. Help lower the overall risk portfolio of banks through the explicit guarantee of government.
4. Facilitate the development the of a private-sector led housing market in Oman.
5. Offer economic stimulus to Oman through increased financial intermediation.
6. Strengthen partnership and collaboration between OHB, the banking sector, and developers.
7. Align with international practices by limiting Government crowd-out of private sector financial intermediation.
8. Free up Government capital currently backing the OHB for other purposes.

Transforming OHB into a credit guarantee scheme

Given the benefits of shifting Oman towards a more efficient model of lending in the housing market, how might one do it? Very gradually is the answer. Below are some of the key considerations for program design:

1. What type of outcomes would be prioritized: affordability (subsidized loans for middle-class) or access (nearly guaranteed access for low-income households)? Both of these outcomes may require different guarantee schemes.
2. How much of the loan should be guaranteed (risk sharing)? This typically inversely relates to how much down-payment should be required but may sometimes be less (requiring the bank to bear some risk) to lower the risk of moral hazard.
3. Who is the target market? Is there a cap on who can qualify? Perhaps a gradual phase-out exists on both household income and loan size.
4. How is it funded? Typically an up-front fee is charged to the borrower, but how much that fee should be and whether any contribution comes from Government must be determined.
5. Governance, monitoring, and collaboration: How does OHB shrink its profile to become less of a traditional bank and more of a financial scheme regulator? What happens to the supporting staff in MoHUP and MoF that currently deal with housing loan forgiveness requests? What role does the Central Bank play? How are claims processed in the case of default – and, who is responsible for foreclosure?

Policymakers would like need 2-3 years to design and consultant on these considerations before even considering the rollout plan. But, there are some tactical things OHB, the Central Bank, and the Capital Market Authority could consider doing now:

1. OHB could wind-down its depository services for individuals and businesses. OHB only has approximately OMR 61M in customer deposits. This could be more efficiently utilized by the conventional banking sector without meaningfully impacting OHB’s capital adequacy ratio.
2. OHB could begin to phase-out new lending to households making above OMR 1,000/month. This segment of borrowers are more likely to be able to access conventional loans. The Central Bank may be able to provide temporary risk requirements to banks until a full-fledged credit guarantee scheme could be rolled out to continue to facilitate access for this customer segment.
3. The Central Bank should consider increasing the share of housing loans banks are allowed to offer. Currently this is capped at 15%. Household mortgages make up approximately 20% of risk weighted assets in the EU (2021) while the Bank of International Settlements found a mean (average) share of 24% of bank assets are residential mortgages during a 2016 survey of 29 banks. Alternatively, the CBO may wish to consider shifting to a more flexible risk-weighted cap given the low risk mortgages pose – especially if guaranteed – but this could potentially crowd out more risk (and productive) lending to other sectors.
4. The Capital Market Authority and Central Bank may wish to consider if mortgages could be securitized in some fashion to further support liquidity and lending.
5. Government and OHB should consider how it will begin to liquidate the existing OMR 600M portfolio. Could it be securitized and listed on the MSX to support the Estidamah program and development of the local capital markets?
6. What happens to the OMR 300M in OHB shareholder equity? This is not a trivial question as this equity enables OHB to lend, whereas the conventional banking market is at its cap for lending. Re-deploying some of this shareholder equity into the conventional banking system may be necessary to facilitate additional lending in the medium term.
7. How should OHB phase-down its branch network and origination staff? A credit guarantee scheme would only need a handful of staff, while the strong retail banking expertise of existing staff may be a welcome additional to the conventional banking sector – especially in the less populated governorates of Oman. Ensuring this transition to private sector employment would be a key success factor for phase-down.

In short, OHB has proven to be an important pillar of the Omani financial services ecosystem, but the direction the Sultanate takes under Vision 2040 may require a rethink of how OHB services the housing market. Many countries have established mortgage credit guarantee schemes to great success. Oman may benefit from consider shifting OHB to play this credit guarantee role in order to further support the development of private sector lending and to expand the availability of private lending.