GCC sticking with the dollar peg, but changes could be afoot

Reuters/Faisal Al Nasser

• Saudi and UAE explore alternatives to dollar for non-oil trade
• Basket of currencies is a GCC option in the long term
• The region’s energy exports are pegged to dollar

Saudi Arabia and the UAE were joined by Iraq this week in exploring alternatives to the dollar for non-oil global trade.

While industry experts believe the dollar peg will remain in the short term, they say a move to decouple from the US greenback could soon become a reality.

The UAE has been working with India on boosting non-oil commerce in rupees. At the same time, China is promoting the yuan with major energy and commodity exporters, including Saudi Arabia.

And Russia has been looking at using alternative currencies with trading partners following widespread sanctions as a result of its invasion of Ukraine.

• Iraq’s central bank to allow trade with China in yuan
• UAE-Saudi non-oil trade surges 70% to $37bn in last decade
• UAE reveals record-breaking non-oil trade figures

Speaking at the Abu Dhabi Economic Summit, Jeanne Walters, senior economist, global markets and treasury, Emirates NBD, said that 60 percent of reserves are still held in US dollars, followed by the Euro at “around 20 percent”.

More than 50 percent of international trade is also set to the dollar, and the region’s energy exports are pegged to the currency.

“I don’t think we’re going to see an imminent change in the status of the dollar as a preferred currency,” she said.

The Gulf’s currencies have been linked to the US dollar for decades: the Omani riyal since the 1970s, the Qatari riyal since mid-2001 and the Bahraini dinar and the UAE dirham officially since early 2002.

The latter three have effectively been linked to the American dollar since the 1980s, as has the Saudi riyal.

The Kuwaiti dinar was the exception, as in May 2007 it decided to shift its peg to a basket of currencies although the US dollar still accounts for 70-80 percent of the value.

Carla Slim, executive director and economist for Mena financial markets at Standard Chartered, suggested that a basket of currencies would be the best option for the remaining GCC countries, but stressed that any move away from the dollar would not happen for some time.

“It may be a basket peg that doesn’t necessarily have a lot of exchange rate volatility which preserves this advantage that the GCC policy makers value, which is exchange rate stability, specifically in a political context,” she said.

“But, at the same time, it would take into consideration the reality that the main trade partner of the GCC is not the US.”

Slim said that while oil priced in dollars is likely to remain so, the Gulf states may need to take into account the increased role of China, India and the EU as key trading partners.

Earlier this month central banks in Saudi Arabia, the UAE and Bahrain mirrored the policy of the US Federal Reserve and increased their interest rates by 25 basis points. Qatar opted to hold.

Despite signalling a more dovish stance after a series of larger hikes, the Fed maintained that increases would continue as it battles to rein in inflation in the US.

Walters said that while the peg is likely to remain suitable in the short to medium term, there may come a time when GCC central banks “would prefer to have more flexibility to make their own monetary policies”.

GCC countries are all heavily involved in a diversification drive, weaning their respective economies off a reliance on hydrocarbon receipts. Slim said with oil contributing 30 percent to GDP the UAE “is already a diversified economy”.

But she cautioned: “While from a GDP perspective we could argue that in some places in the GCC oil is playing a smaller role to the total economic base, on the public finance and external accounts we still have a long way to go.”

In terms of when a switch could happen, she believed that the price of oil and the strength of the dollar were not the deciding factors.

“Any policy change will be prompted by domestic conditions, dictated by the economic transformation that has occurred already,” Slim said.

“When we’re not even talking about diversification any more, that’s when we think that policy makers will think, this may be a good time to revisit this space.”