The Growth of Digital Banks in the Middle East

The global financial landscape is being irreversibly altered by the expansion of a transformative new entity—neobanks or direct financial service institutions that operate exclusively online without traditional physical branches. Based on a low-fee structure with fewer services, neobanks usually provide customers with higher-than-average interest rates and are garnering significant traction. Easy to use with almost zero paperwork, customers can easily download neobank apps and sign in to their accounts. Some neobanks allow customers to link their traditional bank accounts with the app for speedy and seamless transactions.

Currently, neobanks offer limited yet efficient services in savings accounts, payment and money transfer services, and financial education solutions, among other segments. Some neobanks offer money lending services through partner banks and credit union services. While their functions may vary, there’s no denying the fact that neobanks are booming on a global scale. According to reports, the global neobank market is expanding at a CAGR of nearly 46.5% between 2019 and 2026, estimated to touch a market value of $394.6 billion by 2026. This incredible growth potential is driven by the low-cost model and increased adoption by micro, small, and medium enterprises (MSMEs), millennials, and startups. Consequently, the neobanking sector has tapped the interest of potential investors, venture capitalists, and corporates, enhancing funding and investment opportunities for such entities.

With massive growth potential and a steady rise in demand, the neobank sector is expanding far and wide. Globally, neobanks have tripled in number since 2017. Currently, there are nearly 256 live neobanks. Some of the top-funded players in the sector are Brazil-based Nubank (valued at $10 billion), London-based Revolut (valued at $5.5 billion), Berlin-based N26 (valued at $3.5 billion), and US-based Chime (currently valued at nearly $14.5 billion).

History of Neobanking in the Middle East

Neobanks have been making waves globally. The Middle Eastern banking landscape is especially witnessing an influx of this transformative entity. Internet access and rapid smartphone penetration have helped traditional banks build digital infrastructure. These banks are now offering online services through their web platforms and apps. In addition, agile and technologically innovative FinTech startups are now catering to the growing demand for personalized and accessible banking services. COVID-19 lockdowns are leading to a boom in online services. As a result, demand for customized offerings and seamless services provided by neobanks has increased.

With the overhanging possibility of neobanks taking up a significant chunk of the traditional banking pie, financial institutions such as Emirates NBD, Gulf International Bank, and Mashreq Bank are offering neobanking services through Liv., meem, and Neo portals, respectively. Besides, institutions such as Commercial Bank of Dubai are partnering with neobank startups such as NOW Money to offer customers the best of both worlds. However, financial regulations have created some challenges for such initiatives. While entities will have to step up their game to reach out to the target audience, there is a definite need for strong FinTech and neobank services. Endorsing this thought is a report by the World Bank which states that nearly 168 million people lack access to a basic bank account in MENA.

The major markets in the region include the United Arab Emirates (UAE), Saudi Arabia, Bahrain, Iraq, Turkey, Israel, and Egypt, with over 20 neobanks in the Middle East and catering to nearly 15 million customers. While neobanks in other parts of the world offer basic services, Middle Eastern neobanks provide a more comprehensive range of financial products, leading to almost a full replacement of traditional banking services. Moreover, easing regulatory frameworks are amplifying the significance of neobanks in the Middle Eastern financial landscape. 

Regulatory Framework in the Middle East

Countries in the Middle East are now recognizing the immense requirement for digital and customer-friendly services and relaxing prevalent norms and regulations. For instance, the Dubai International Financial Centre has taken decisive steps toward financial innovation by devising sandboxes to test new financial and banking startups offering services in the region. However, historically, the Middle East has been defined by stringent norms on financial innovation, which have challenged the formation of such transformative entities.

According to the current framework for FinTech licenses in the UAE, companies must associate with banks through a partnership model, where the bank owns 51% of the venture. According to a recent survey by Finastra, top barriers to such collaborations in the UAE include legacy systems, change in culture, reduced control in decision-making, and complex regulations. Such norms prevent neobanks from offering satisfactory services to discerning customers. Moreover, with the UAE Central Bank outsourcing innovation on a regulatory framework to offshore regulators, the new licensing guidelines have created jurisdictional uncertainty due to their lack of authority and are considered merely advisory. 

Due to these challenges, neobanks can only legally operate in the Gulf Cooperation Council (GCC) by partnering with traditional banks and using the latter’s license in return for a revenue-share agreement. 

Types of Neobanks in the Middle East and Their Functions

Even as central banks across the world push for financial inclusion and penetration, traditional banking institutions are unable to provide a broader range of financial services to all customers at a reasonable cost. This has led to a surge in neobanks that offer a variety of services at almost zero cost to a customer. A friendly interface and seamless services have led to many takers for neobanks. Neobanks cater to customers' requirements for plug-and-play solutions based on flexibility, agility, efficiency, and ease of use. With these obvious benefits, Middle Eastern countries are also focusing on improving their neobanking sector. The UAE, Saudi Arabia, and Israel are among the countries taking the lead in this space and paving the way for a new era of neobanking in the region.

Most neobanks have been launched by incumbents as stand-alone digital banks and aim to provide end-to-end banking and financial services. Others provide niche services that cater to a certain segment of customers. Considering the variety of services offered by neobanks, there are a few major types that cater to most global requirements.

Digital front-end neobanks are subsidiaries of traditional banking or non-bank institutions. These have become quite popular with traditional banks adopting such mechanisms to offer seamless and personalized services to customers. For instance, Bank ABC, a Bahrain-based international bank, launched ila Bank (its mobile-only challenger bank) in Manama, Bahrain, in 2019. The neobank offers customers an instant virtual card for online transactions, flexible funding options, and in-app card controls and accounts. It has also created Fatema, a ‘digital DNA customer assistant,’ with artificial intelligence to answer customer questions on its website 24/7.

Mashreq Neo is a digital-only bank launched by Dubai-based Mashreq Bank in 2017. It offers a range of in-app services including opening of current or savings accounts, investments, stock trading on the go, and mobile-to-mobile money transfers.

Stand-alone neobanks are ‘made from scratch’ and require a virtual banking license to initiate business. Such neobanks operate without physical branches and offices and usually focus on a few tailored services instead of offering customers the entire gamut of the traditional banking experience. They offer customers excellent services and a personalized experience, which improve traction and demand. For example, Hala is a digital bank that has received dual banking licenses— one from the Saudi Arabia Monetary Authority (SAMA) and the other from the Abu Dhabi Global Market (ADGM) Financial Services Regulatory Authority (UAE). Another stand-alone neobank in the making is the entity created by ADQ, an Abu Dhabi-based investment firm, which announced plans to set up a digital bank after obtaining a legacy license from First Abu Dhabi Bank (FAB).

Alternatively, neobanks catering to business requirements focus on offering a gamut of services such as round the clock business banking, current accounts for business banking requirements, smart reporting and insights, user-friendly APIs for seamless banking, unified platforms for all money movements, seamless compliance, minimal costs, and the option of putting business banking on autopilot. For instance, Dubai-based neobank Xpence has launched a digital-only business current account for freelancers, solo entrepreneurs, and startups. Services offered include bookkeeping and banking.

The global neobanking transformation began a few years ago and is now in full swing, aided by COVID-19 lockdowns and exceptional services offered by popular providers such as Revolut, Chime, and N26 as well as other neobanks. While the global populace is waking up to the second wave of financial disruption, FinTech 2.0, facilitated by the influx of neobanks offering customer-centric and personalized services, the banking landscape in the Middle East is also preparing for a long overdue financial revolution led by neobanks. Even though the segment is mostly in the infancy stage, it is steering the financial landscape in the Middle East and the world by luring customers with personalized services at minimal costs.