Government deposits have extended a lifeline to Qatari banks, easing some of the damage of deposits outflow in the wake of the diplomatic row with the Arab quartet of Saudi Arabia, the UAE, Bahrain and Egypt.

However, any escalation of the dispute or it continuing over an extended period will increase pressure, affect asset quality and impact the profitability of the lenders.

“The longer the crisis lasts, the more it will weaken investor confidence [in the Qatari banking sector],” BMI, a unit of Fitch Ratings, said in a research note released on November 21. “In turn, this poses risks to banks’ funding and profitability – particularly at a time of structurally lower oil prices and rising interest rates.”

The four Arab nations have severed diplomatic and transportation ties and imposed an economic embargo on Qatar.

The diplomatic tussle has severely affected the country’s banking and financial sector and about US$30 billion of funds outflows have been reported since June, according to Citi bank.

The Qatari government stepped in to try to stabilise the banking sector with Qatar’s central bank placing deposits with local lenders. While the funds from GCC-based investors and businesses flowed out, domestic deposits rose in the banking system, primarily from public sector companies, or Q-companies as they are known in Qatar.

“We do not have a breakdown of which of these is responsible [for the deposits], but we believe the most likely candidate is the Qatar Investment Authority, which the Qatari government has claimed has in excess of $300bn in foreign exchange assets that it can deploy to help stabilise outflows and reinforce the country’s peg against the dollar,” said Farouk Soussa, Citi’s chief economist for the Middle East, in the research note.Non-resident deposits – an increasingly important source of funding amid lower oil prices, which in recent years have caused a fall in government deposits – made up 24.2 per cent of total deposits in May, prior to the outbreak of the diplomatic crisis.

At the time, GCC countries were estimated to have accounted for about 6 to 8 per cent of total deposits in Qatar. Non-resident deposits dropped by 7.8 per cent month-on-month on average in June and July and, since then, the pace of decline has slowed down, to 5.2 per cent in August and 4.2 per cent in September, according to BMI.

Qatari banks’ total liabilities had slight increases of 1.1 per cent in August and 1.4 per cent in September, after having contracted over June-July. Growth in public sector deposits, which rose sharply in the first two months of the diplomatic row, has also decelerated markedly in recent months.

To try to ease the pressure on banks and convince the expatriates to remain in the beleaguered country, the regulator has also relaxed banking and foreign exchange regulations.

The central bank at the end of October ordered conventional and Islamic banks to allow residents with expiring ­visas to conduct all their banking operations throughout the official three-month period for renewing their residency after the visa expiry.

The order also applied to foreign exchanges regulated by the central bank enabling them to continue conducting activities including foreign exchange and the transfer and receipt of money.

While the recent data suggests that the hardships of Qatari banks’ funding have eased and the pressures are manageable in the short term, the challenges are expected to be “more pronounced” for the lenders if the diplomatic crisis drags on, BMI noted.