Gulf States close in on currency revaluation

AME info, Sunday, February 17 - 2008 at 10:16

International banks in Dubai have slashed interest rates on dirham deposits to around one per cent, a sure sign that revaluation is not far off and that the banks do not want to be left holding dirham deposits. Today, the delayed Saudi Shura meeting of the king, finance minister and central bank governor is to discuss GCC-wide revaluation.

At the same time the Middle East Economic Digest reported that the UAE is about to split central bank responsibilities between a new financial services regulator and monetary policy.

Incumbent UAE Central Bank Governor Sultan bin Nasser Al Suwaidi could be replaced in a cabinet reshuffle on February 26; his present mandate expired on December 18.

This action would likely be a part of a wide ranging reform of UAE monetary policy. The GCC States, with the exception of Oman, committed themselves to a monetary union by 2010 at a meeting of heads of state last December.

Revaluation would be a logical step towards establishing a single GCC currency valued against a basket of global currencies and not just the US dollar, something like the successful Singapore dollar.

Controlling inflation
Meanwhile, a coordinated revaluation in advance of the single currency is also a logical move to head-off spiraling local inflation rates in the Gulf, and delivering a one-off relief to long suffering residents who are puzzled why the economic success of the region has resulted in this 'tax' on their salaries.

In order to make a real impact the Gulf States could choose a high, one-off revaluation of 10-15 per cent with the strong proviso that this was not going to be repeated before the 2010 common currency deadline.

From the perspective of the UAE there is a historical precedent to follow. Before independence in 1971 the dirham was a part of the sterling area, which then revalued and later moved to the fixed dollar peg.

Economists see the main benefit of an independent currency regime as being the ability to set interest rates in line with local economic conditions to avoid a boom-to-slump cycle. For the danger of having interest rates set by the US - whose economy is slumping and not booming - is very obvious.

Overheating
Overheating local economies with high inflation rates are unhealthy for long-term economic welfare, and action by the Gulf States will not be too late to make a difference.

The risk of not taking a decision is higher than taking the initiative and going for revaluation. US interest rates are set to go much lower this year and the situation can only deteriorate further.

Moreover, the recent rally in the US dollar due to the contraction of global liquidity amid the ongoing equity slump gives a golden opportunity to act on revaluation, without causing a negative impact on global dollar exchange rates.

Wise counsel and commonsense are likely to prevail in monetary policy, and the international banks in the UAE have sensed this and do not want to be left holding dirhams that might soon be converted into dollars at a new rate of exchange.