Kuwait discount rate cut could curb lending -Citi

Markets have questioned why Kuwait, which dropped its peg to the dollar last year, slashed its discount rate by half a percentage point to 5.75 per cent after an emergency US Federal Reserve cut of 75 basis points.

Banks in Kuwait tend to use the discount rate to guide their deposit and lending rates to customers, Citigroup Economist Mushtaq Khan said.

As the Fed slashed rates by 175 basis points in four moves since September 18, US dollar deposits provided lower returns than Kuwait dinar deposits, which may have prompted people to transfer money into dinar deposits, he said.

Since all Kuwaiti banks must comply with a strict loan-to-deposit ratio of 100 to 120, banks would have had more money to lend if people moved out of dollar deposits into dinars, Khan said.

"The rate cut could have been a way for the central bank to discourage banks from lending more," Khan said. "Banks are more constrained in private-sector lending in Kuwait dinars by the size of customer deposits than the rate at which they lend."

Central Bank Governor Sheikh Salem Abdul-Aziz al-Sabah said the benchmark rate was cut because the gap between dinar yields and interest rates on deposits in other currencies including the dollar had grown too wide.

"The aim is to reduce any negative effects that could results from the unjustifiably high margins Kuwaiti dinar deposits offer versus the main currencies," Sheikh Salem said in a statement carried by official news agency Kuna after the cut.

Kuwait alone among Gulf oil producers tracks its dinar against a currency basket to give it more flexibility on interest rates.

The central bank had left its benchmark discount rate steady since July 2006, fearing lower borrowing costs would stoke inflation which hit a record high of 6.2 percent in September.

A majority of Wall Street dealers expect the Federal Reserve will ease interest rates by another 50 basis point at its policy meeting that ends on Wednesday. (Reuters)