DUBAI (Reuters) - Gulf Arab oil producers, torn between rising inflation and exchange rates fixed to a sliding dollar, could consider switching together to a currency basket to buy time for a troubled monetary union project.
A region-wide shift could catch investors unawares after months of market speculation that the United Arab Emirates or Qatar would break ranks with their neighbors and unshackle their currencies from the dollar as Kuwait did this year.
So far, most bets on currency appreciation have focused on signs that Gulf states are drifting apart after Oman chose not to join monetary union by 2010, Kuwait switched to a currency basket in May and a U.S. rate cut divided central banks in the world’s top oil-exporting region.
But signals from the banks and growing pressure on Saudi Arabia to tackle inflation suggest markets waiting for one country to revalue may be barking up the wrong tree.
“I think they will stick to multilateralism,” said Marios Maratheftis, regional head of research at Standard Chartered Bank.
“They have been hinting at a more flexible option to the dollar peg. The debate is on, at a multilateral level,” he said.
That is not the view of most analysts. Thirteen of the 17 economists polled by Reuters last month tipped the UAE as the top candidate for a unilaterally change in currency policy, with 11 saying a revaluation was likely by the end of 2008. For poll summary click on <ID:nL12723561>
Yet UAE Central Bank Governor Sultan Nasser al-Suweidi has always said he would not act alone, even while calling for a regional review of exchange rates in January. “We have to decide on a pan-Gulf basis,” he told .Commerce magazine this month.
Suweidi and his counterparts have closed ranks since Kuwait threw plans for monetary union into disarray by abandoning a dollar peg the six states had agreed would stay in place until they created single currency in 2010.
“Credibility is quite serious for central bankers,” said John Sfakianakis, chief economist at SABB bank, the Saudi affiliate of HSBC. “The likelihood of moving in unison is greater than the likelihood of moving alone.”
Kuwait said the dollar’s slide to record lows was driving up inflation by making imports more expensive. It also cited delays to monetary union as reason for scrapping the dollar peg.
With all six countries agreeing the 2010 deadline is difficult, if not impossible to meet, investors have been waiting for one or more of Kuwait’s neighbors to follow its lead.
But markets watching for a widening rift over currency policy got nothing from a weekend meeting of finance ministers and central bankers.
“There was agreement that there is no need to change the current foreign exchange policy with consensus of all member states,” Saudi Governor Hamad Saud al-Sayyari said after the talks.
The central bankers have not put up a united front on interest rates, one of six criteria agreed for currency union.
Unlike their neighbors, Oman, Saudi Arabia and Bahrain ignored a U.S. Federal Reserve rate cut on September 18, choosing to ride out pressure on their currencies to appreciate rather than risk stoking inflation.
The news fired market speculation of a revaluation that took the Saudi riyal to a 21-year high, but IMF official Mohsin Khan said talk of divergence was overdone.
“Even though there were slight gestures to lowering interest rates in the Gulf, most countries did not lower interest rates,” said Khan, IMF director for the Middle East and Central Asia.
Kuwait and Qatar left their benchmarks unchanged, cutting other interest rates instead. The UAE, which does not have a benchmark rate, reduced three key rates by as much as 25 basis points after the Fed cut by 50 basis points.
More importantly statements from Saudi Arabia, the country tipped as least likely to revalue in the Reuters poll, have begun to more closely reflect those coming from the UAE.
“There is no change at the present time,” Sayyari said of exchange rate after a September central bankers meeting, one of a series of remarks that allude to an eventual change in policy.
Signals from Saudi Arabia, the biggest Gulf economy, are crucial to understanding the Gulf debate on currency reform.
“If Saudi Arabia moves alone then the others will probably move all together,” said Sfakianakis, who said he does not expect the Saudi central bank to change policy “in the short term”.
Pressure on Riyadh’s policy has rarely been greater.
Inflation hit a seven-year high of 4.4 percent in August and is becoming a political issue in Saudi Arabia, unlike in Qatar or the UAE which have smaller, wealthier populations consisting primarily of expatriates.
As the king summons officials to explain rising prices and his advisory council calls for a national wage hike, the Saudi central bank is running out of options.
Another 25 basis point Fed cut, which economists expect this year, would take the interest rate gap between the Saudi riyal and dollar to one percentage point for the first time since 2002.
“Introducing flexibility is going to become a stronger debate by the end of the year with the possibility of more rate cuts,” Maratheftis said.