GCC central banks follow suit as US Fed slashes rate

Several Gulf states including the UAE cut interest rates yesterday in line with a reduction in the United States as they sought to ward off currency speculation while tackling inflation at near-record peaks.

Dollar pegs in all Gulf states bar Kuwait compel their respective central banks to track the Federal Reserve to maintain the relative value of their currencies, even though inflation is spiralling and their economies are booming.

The UAE, the second-largest Arab economy, reduced its overnight repurchase rate by 25 basis points to two per cent, keeping the rate the same as the Federal Reserve's Fed Funds rate.

Qatar continued with a trend of only cutting its deposit rate, also to two per cent, while leaving its benchmark lending rate unchanged at 5.5 per cent to prevent lower borrowing costs from stoking inflation – already at a near-record 13.7 per cent.

"Even though speculation on Gulf currency revaluations has come off since the beginning of April, Gulf countries don't want it to come back again," said Monica Malik, the regional economist at Cairo-based investment bank EFG-Hermes.

Bahrain acted similarly, lowering its one-week deposit rate by 25 basis points and leaving its lending rates on hold. The one-week deposit rate was lowered to two per cent from 2.25 percent and its overnight deposit rate to 1.5 per cent from 1.75 per cent.

Investors had piled into Gulf currencies beginning late last year on speculation some states in the world's biggest oil-exporting region would cut their links to a US currency tumbling to record troughs against the euro.

That speculation has died down since Gulf central bankers decided at a meeting in Doha to get a monetary union project back on track to avert unilateral currency revaluations.

Gulf central banks, meanwhile, could get some relief later this year after the Fed hinted its seventh move since September could be the last in a series meant to buffer the economy from a credit crunch and housing downturn. The Fed has slashed rates seven times by a total of 3.25 per cent since September 18.

"The Fed looks likely to be coming to the end of its easing cycle and that will be very welcome for Gulf policymakers whose main concern remains inflation," Malik said.

Inflation is accelerating across the Gulf, almost doubling in the six months to March to 9.6 per cent in Saudi Arabia.

UAE inflation hit a 19-year peak of 9.3 per cent in 2006 and probably accelerated to 10.9 per cent last year, according to an estimate by the National Bank of Abu Dhabi.

But the pass-through effect of central bank rate cuts is minimal. The UAE repo is the Gulf state's benchmark and sets the rate at which banks borrow funds from the central bank. (Reuters)

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