Saudi Arabia committed to dollar stance
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Emerging Markets

Saudi Arabia committed to dollar stance

SAMA governor reaffirms peg as Kuwait revalues, GCC monetary union plan stumbles

Saudi Arabia’s monetary chief has reaffirmed his commitment to keep the kingdom’s currency pegged to the dollar, as Kuwait’s move to free its exchange rate cast a shadow over plans for regional monetary union. In an exclusive interview with Emerging Markets, Saudi Arabian Monetary Agency governor Hamad Al-Sayari said: “There is no change in [Saudi Arabia’s] exchange rate policy. You can discuss this further, but this is going to be my answer.”

His comments come amid growing fears that a possible shift by other Gulf states away from the dollar could precipitate a faster decline in the US currency.

The governor nevertheless voiced concern about the rate and severity of the dollar’s decline, which has come under increasing pressure in recent months. “I am concerned about the stability of the financial system. What is most important is an orderly development which does not cause a disruption to the global economy,” he said. “Maintaining a well functioning global economy is in our interests as well as all other countries.”

Al-Sayari played down suggestions that Gulf oil exporters – with $78.5 billion in foreign exchange reserves between them – could pose a threat to financial stability, as questions mount over the shifting composition of their foreign exchange reserve holdings. “Major oil exporters have experience in managing reserves, and I don’t think they represent a threat to the stability of the financial system. We have always been a responsible international citizen in that regard,” he said. (For more analysis on the Saudi economy, see "Diversification drive in Saudi Arabia.")

Kuwait’s exchange rate move on May 20 raised the prospect that other oil producing states might abandon long-held dollar pegs. A region-wide shift towards the euro, sterling and Asian currencies could lay waste to the dollar’s international standing and thereby wreak havoc on financial markets. Kuwait’s dinar revaluation was intended to dampen an inflationary surge caused by the rising cost of imports from non-dollar suppliers.

Other central bankers have also denied any plans to revalue their pegs or switch to a basket, but market perceptions vary. In the wake of Kuwait’s move, Emirates dirham six-month currency forwards moved by around 25 points, compared with less than 10 points for the Saudi riyal, while the Qatari riyal was unmoved.

Steve Brice, Middle East economist at Standard Chartered in Dubai, put the probability of a move by UAE in 2007 at 25-30%, although he emphasized that this would not be a maxi-revaluation or switch to a basket, but more likely a small upward move of 3-5%.

As to the impact on the planned GCC currency union, Brice was pessimistic that the planned 2010 target would be met, putting the probability at around 10-15%, down from 20% before the Kuwait repegging. But Walid Shihabi, head of research at investment house Shuaa Capital in Dubai, pointed out that Kuwait’s move need not imply doom for the currency union.

“There is nothing that binds the GCC to adopting a peg to the dollar for the single currency. The indications we have been given are that the unit might start off fixed to the dollar, but move to a trade-weighted currency basket after a short time. And the rate against the dollar could be determined just shortly before the union begins,” Shihabi told Emerging Markets.

Instead, Shihabi noted that Gulf policy-makers might be discouraged from following Kuwait’s example of switching to baskets, because the resulting reserve diversification could accelerate the dollar’s decline, thereby adding to imported inflation pressures.

“The Gulf states have already begun to diversify their reserves, but so far, this has been mitigated by the very large overall reserve accumulation,” Shihabi said. Kuwait’s deputy prime minister Faisal Al-Hajji told Emerging Markets that monetary union “was delayed, and therefore we went back on this decision [to stay pegged to the dollar],” in a telling hint at disillusion with fellow governments.

A leading Kuwaiti MP added that “other Gulf countries are putting their own political interests before the cause of common economic goals – so why shouldn’t Kuwait?”

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