Gulf to follow US rate cut despite inflation

RATE CUT: Gulf central banks are poised to follow the Fed's move to cut interest rates, analysts said. (Getty Images)

Gulf central banks are poised to cut interest rates after the US slashed its by 75 basis points in an emergency move on Tuesday, but they may leave lending rates on hold to avoid stoking inflation, analysts said.

Saudi Arabia and four other Gulf oil producers that peg their currencies to the dollar are forced to track US monetary policy to ensure investors do not make higher returns in their currencies than they would get in US deposits.

The US Federal Reserve slashed benchmark interest rates to 3.5% on Tuesday to lend support to a weak US economy faced with increasing turmoil in global financial markets.

"The Gulf will have to match the Fed cut," said Marios Maratheftis, regional head of research at Standard Chartered Bank. "This is going to create even more liquidity in the market which means more inflationary pressures."

Inflation in four of the six Gulf Arab oil producers has overtaken official lending rates, encouraging borrowing for investment in assets such as real estate, which is the main driver of the surging cost of living across the region.

In Saudi Arabia and Oman, inflation has risen to 16-year highs, while price rises in Qatar, contending with the highest inflation in the region, were 13.73% in September, just below a record.

Gulf central banks say they are committed to the dollar pegs. They would consider revaluing currencies together at some stage to tackle rising inflation, Qatar's finance minister told newswire Reuters on Monday.

Kuwait dropped its peg to the dollar in May and began tracking a currency basket. The UAE and Qatar would likely follow its lead this year, Deutsche Bank said this week.

Most central banks would probably continue with a policy of trying not to make credit cheaper, said Monica Malik, a senior regional economist at investment bank EFG-Hermes.

After the Fed cut its benchmark rate by 100 basis points in three moves from September 18, Saudi Arabia cut its reverse repurchase rate, which guides the return on bank deposits, by 100 basis points.

Like central banks in Qatar and Kuwait, it has not touched its benchmark repo, the rate at which it lends to banks, leaving it steady at 5.5%.

"They want to make it as little credit stimulatory as possible," Malik said. "It is such a sharp move. It will be interesting to see if they match the whole cut."

The UAE, where inflation hit a 19-year high of 9.3% in 2006, would likely slash its repurchase rate from the current 4.25%, potentially making it cheaper for banks to borrow from the central bank, analysts said.

Interbank lending rates have fallen sharply in the UAE, with one-month certificate of deposit rates at about 3%, said Jason Goff, head of treasury sales at Emirates Bank.

"CD rates have collapsed along with the deposit rates as the market discounts heavy rate cuts from the Fed," he said. (Reuters)

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READERS' COMMENTS

Gulf to follow US rate cut despite inflation
Posted by Lee, Dubai, UAE on Wednesday 23 January 2008 at 10:07 UAE time


The Fed reacted to 2 days a jaw dropping falls in the Asian stock market. Last week the prediction was for a 50 basis point cut at the next Fed meeting on January 30th. With the 75 basis point cut yesterday there is now the expectation the Fed will still cut by another 50 basis points at their meeting on the 30th. What will the UAE do then? If the UAE matches the cuts will the inflation for 2008 reach even higher levels? Something has got to give...

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