Prices threaten Gulf currency union


Inflation in the GCC ranges from 5.2 per cent in Bahrain to 13.8 per cent in Qatar. Last year, inflation across the Gulf reached an average of 7.4 per cent, compared to 4.2 per cent in the preceding five years. The most recent estimates for inflation in the UAE put it at about 11 per cent. Saudi Arabia announced yesterday that inflation in the kingdom had advanced to 10.5 per cent in April, a 27-year high.



Deciding on exchange rates for the new currency when it is introduced could be a major sticking point if inflation in the region remains as high and erratic as it has been in recent months. Valuing a new currency against existing currencies is difficult if the relative values of the existing currencies are constantly in flux.



In addition, an agreement between the GCC nations on a unified currency hinges on five criteria for the establishment of a common currency, including one that determines that the inflation rate of each country must be within two per cent of the weighted average for the region.



“The upsurge in inflation in the Gulf is the biggest threat to the single currency project timetable,” said Fitch, the credit rating firm, in its report. “It would not make sense to set bilateral exchange rates in stone while inflation is still so high and the degree of divergence between countries is so marked.” A common currency has been under formal consideration since December 2001, when the heads of state of the six GCC nations of the UAE, Saudi Arabia, Kuwait, Oman, Qatar and Bahrain agreed on a timetable setting 2010 as the deadline. Oman has since withdrawn from the union.



A customs union achieved in 2003 was the first major step towards full economic integration. But delays in such regional economic unions are not unprecedented, and many observers do not expect a unified currency until 2012. The euro, Europe’s single currency, had its launch delayed as the UK and Denmark negotiated withdrawals from the monetary union while remaining in the broader economic and political alliance of the European Union.



“It’s difficult but achievable,” said Marios Maratheftis, the regional head of research at Standard Chartered in Dubai. “Co-ordination is the biggest obstacle. We have to decide where the central bank is going to be based, and we need to make sure that the roles of these sorts of institutions are made clear. Once we have this in place it should not take long.” Support for a single Gulf currency has wavered in recent months as oil revenues have risen, lessening the urgency for economic reform. The GCC states together possess about 40 per cent of the world’s proven oil reserves. Oil prices have risen recently to record levels, with futures contracts for light sweet crude topping out at more than $ 135 (Dh496) a barrel last Wednesday.



According to the Fitch Ratings report, entitled “Inflation in the GCC – a Growing Concern”, the growth in inflation in the Gulf is attributable partly to a failure by governments to save these excess oil revenues in vehicles such as sovereign wealth funds.



When spending rises with oil revenues, more money goes into the economy. That means more people have more dirhams to spend, which tends to drive prices up. Rising demand for housing has also driven inflation, as has a surge in lending to the private sector and the lowering of US interest rates. All GCC currencies, apart from Kuwait’s, are pegged to the US dollar.



Inflation is beginning to reach levels not seen since the oil boom of the mid-1970s, when inflation in Saudi Arabia and other oil-producing states peaked at above 30 per cent.


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