Inflation in the Gulf Co-operation Council (GCC) is expected to pick up to nearly eight per cent this year, as the oil-rich region remains awash with liquidity and most members suffer from house shortages, the International Monetary Fund (IMF) said on Monday.
A revaluation or ending the peg between the regional currencies and the US dollar will not tackle the inflation problem and the best solution is to bridge the gap between housing supply and demand, said Mohsen Khan, Director of the Middle East and Central Asia Department at the IMF.
In an interview with Emirates Business at a GCC conference in Abu Dhabi, Khan (pictured above) expected growth in the GCC non-oil sector to remain as high as seven-eight per cent in 2008 and crude export revenues to exceed last year’s record earnings.
“The inflation rate in the GCC was around seven per cent last year and we expect it to be seven to eight per cent this year… that is for the whole region but taken individually, the rate is much higher in some members, particularly Qatar, where inflation is running at 14-15 per cent.
The UAE also has double-digit inflation rates, while the latest rate in Saudi Arabia was as high as eight per cent for last month. This is surprising because inflation in Saudi Arabia had ranged only between one and two per cent for years,” he said.
Khan, a Western-educated Pakistani, who holds an economics doctorate, said many factors are to blame for the worsening inflation problem in the GCC, which groups the UAE with Saudi Arabia, Qatar, Kuwait, Bahrain and Oman. He said both supply and demand had caused record inflation in the region, mainly housing supply shortages, high public spending and soaring food prices.
He said the sharp rise in rents over the past few years had been a crucial factor in inflation, adding that other elements played a smaller role.
“On the demand side, there is a big push to expand government spending and liquidity is high in the system, which means people have more access to liquidity and more access to spending power,” he said.
“As for the dollar link, some people come and say there is a need for a revaluation or ending that link. But I think the dollar link has a smaller role in inflation in the GCC particularly in the increase in import prices… but I don’t think it’s a major factor. The main factors are the supply and demand factors, mainly the housing shortages and strong domestic demand.”
Khan urged the GCC states, which control nearly 45 per cent of the world’s proven oil deposits, to stick to the US dollar for the time being. He warned that a revaluation could even backfire as it could lead to increased liquidity.
“For the time being, I think the GCC currencies should remain tied to the dollar because I believe moving away from the dollar will not help inflation very much… in fact, I think it might cause more liquidity to come to the region because if you leave the dollar, there will be speculation that could lead to an increase in the value of the domestic currencies.
“Other people think a basket of currency might help but look at Kuwait, whose currency is tied to a basket of currencies, its inflation rate has stabilised but has not moderated that much,” Khan said.
“I think the best solution for the time being is that housing constraints should ease so more houses will be available. I believe that only then, inflation could start to come down… so the main problem is housing and if the housing problem eases then I am sure the inflation problem will ease.”
Khan said higher public spending caused by a surge in the region’s petrodollar income has stoked inflation, but added that he believed GCC states are unable to largely reduce expenditure. In his opinion, cutting current spending means reducing wages and this requires a political decision.
“On the other hand, cutting capital spending will negatively affect the infrastructure because most of this spending focuses on improving and developing the infrastructure in the GCC. So I again say supply constraints is the main problem and therefore you may have to live with inflation for a year or two, then inflation might start to come down.”
Asked about the expected performance of the GCC economies this year, he said the non-oil sector could grow by between seven to eight per cent in real terms, but the oil sector is projected to remain unchanged as production remains flat.
“The non-oil sector in the GCC is recording high real growth rates. We should distinguish between the oil and non-oil GDP in the GCC… while the oil GDP is recording flat rates, the non-oil GDP is growing very fast,” he said.
“As for the oil revenues, our expectations are that they will be higher this year than last year because we expect oil prices to average between $80-$85 a barrel in 2008, much higher than last year’s average.”