NBK report says gcc monetary union faces two main challenges / 1

NBK report says gcc monetary union faces two main challenges

Article Date: 13:56 2008/09/28

Article ID: 0028

Kuwait, September 28 (qna) -The National Bank of Kuwait (NBK) said Sunday that two main challenges faced the GCC Monetary Union, the first being that economic diversification in the coming years will begin altering GCC countries'' underlying economic similarities. In a report issued here today, NBK said that while this increased economic diversity should help foster intra-regional trade, it could also subject the region to asymmetric economic shocks and generate the need for different monetary and fiscal policy responses among member states.

As for the second challenge, NBK said that the rise and divergence in inflation rates among the GCC nations in recent years will, at a minimum, complicate and probably delay the implementation of a monetary union. Averaging just 0.4 percent from 1997-2002, GCC inflation has risen sharply to a rate of 6.9 percent in 2007, with its rate of increase more than doubling between 2005 and 2007. After hitting a recent low of 3.0 percent in 2003, the difference between the highest and lowest inflation rate in the GCC had quickly widened to 10.4 percent in 2007.

The report noted that excluding Qatar, income inequality (as measured by per capita GDP) within the GCC is relatively modest. Significant gaps in per capita incomes need not necessarily be a problem for a well functioning monetary union. When the Euro was first introduced in 1999 (as a virtual currency), for example, both Greece and Portugal, had per capita incomes one quarter that of Luxembourg''s. The degree of economic convergence to achieve monetary union within the GCC is already quite advanced. It has already achieved considerably more economic integration than the Eurozone currently possesses after more than half a century of working toward integration.

However, given their vast differences in fossil fuel endowments, the economic structures between GCC member states will increasingly become less homogeneous in the coming years. Even states well endowed with energy reserves are likely to achieve differences in the pace and scope of their economic diversification. For example, given their relatively small reserves, the need for diversifying away from hydrocarbons is clearly most paramount for Bahrain and Oman. In terms of monetary convergence, the NBK report said that the economic obstacle in both forming and maintaining a well functioning monetary union is cyclical in nature. The economic boom that started in 2003 coinciding with the rise in oil prices has dramatically increased the rate of inflation throughout the region. The inflation criterion for monetary union stipulates that the inflation rate for each member should not exceed by more than 2.0 percent the GCC weighted average rate. As for fiscal convergence, GCC government revenues, expenditures and budget balances all exhibit a high degree of co-movement due to their high degree of dependency on energy revenues. Hydrocarbon revenues as a share of central government revenues for the GCC countries in 2007 ranged from a low of 76 percent for Bahrain, Qatar and the UAE to a high of 94 percent for Kuwait.